Live Debt-Free

How to stay on top of your finances when life throws you a curve.

By Jessica L. Anderson, Associate Editor

Kimberly Lankford, Contributing Editor

From Kiplinger's Personal Finance magazine, November 2008

Steve and Lucille Martin's personal finances looked immaculate. They carried no credit-card debt, had just five years left on their 30-year fixed-rate mortgage and invested the maximum in their retirement-savings plans. If they wanted something, they saved for it.

The Middlebury, Ind., couple covered daughter Erica's first two years of college and felt financially secure enough for Lucille to quit work temporarily to attend grad school for ten months.

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But they weren't prepared for what happened next. As a senior vice-president of a financial-services company, Steve was on the executive committee that created his company's downsizing plan. Then he learned he was one of the downsized, out of a job at age 54. Now the family must deal with what they least expected: a growing pile of debt.

The squeeze is on. About four in five middle-class Americans say maintaining their standard of living is tougher than it was five years ago, according to a Pew Research Center survey. AARP reports that one-fourth of baby-boomers are taking money out of their 401(k)s and other retirement investments before they had planned to.

And debt problems have started dragging down families, like the Martins, who thought they were crisis-proof. Says Suzanne Boas, president of the Consumer Credit Counseling Service of Atlanta: "We are hearing now from more people with higher incomes who want budget and credit counseling -- people solidly in the middle class."

Often it takes just one misfortune to trigger a debt crisis, such as the loss of a job, an unexpected medical bill or a mortgage issue. Here's how these increasingly common events pushed families into debt, what they're doing to climb out and how you can prepare in case it happens to you.

Losing a Job

The Martins' family finances suffered another blow that's become all-too-common recently: tightening of home-equity lines of credit. For ten years they'd had a $25,000 line that they rarely tapped and always paid off quickly.

With Erica and Lucille both going to school, they asked to raise the borrowing limit, but their lender refused because the value of their home had dropped by 20%. After closing that credit line and reapplying (and paying about $1,000 in fees), they finally got their line of credit bumped up to $36,000. But that is a lot less than they were expecting, and the Martins had to scramble to find student loans.

While he's considered an expert on the serious financial issues facing the average American, Steve says he's now experiencing "what many are facing in these difficult economic times. It's been very humbling to go from teacher to student."

What could they have done differently? While their retirement savings are impressive, they can't tap them now without penalty until they're 59. By channeling some of those savings into an emergency fund, they could have built a bigger cushion to get them through tough times.

In the short term, Steve is trying to stretch his eight months of severance pay as far as it will go. "We immediately thought about where we can cut back," he says. They stopped eating out and carefully plan trips and errands from their small town in northern Indiana to minimize gas costs.

Long term, Steve expects that he and Lucille may need to work past age 65 to catch up on retirement savings. But they're taking this opportunity to switch to their dream jobs. He's thinking about starting his own management-consulting business. She'll be a landscape designer when her year of schooling is finished. In their new careers, they think work will be a pleasure. "We could easily work for another 15 to 20 years, especially if we retool into careers with time flexibility," says Steve.

But he wishes he had planned for more contingencies. "So many people leave no margin for error," he says. "I recommend having a plan for living on 30% less income. That, hopefully, will help you prepare for uncertainty."

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