How to Handle a Pay Cut: Budgeting in Uncertain Times

A pay cut, whether big or small, can catch you off guard—and throw your finances into disarray. While a salary cut is different than a layoff, it can leave you feeling just as uncertain.

How do you deal with a pay cut and deal with this uncertainty?

There are strategies to help you navigate both the emotional and financial challenges of this situation. One key element? A budget. Whether you need to create a budget from scratch or adjust the budget you already have, doing so can help you get back on your feet and set yourself up for success.

Here’s a rundown of budgeting tips to survive a pay cut to keep your finances intact:

Ask your employer for the parameters of the income reduction or salary cut

First, keep in mind that a pay cut typically isn’t personal. According to Scott Bishop, an executive vice president of financial planning at a wealth management firm, businesses often cut salaries to preserve their cash reserves while they stabilize their cash flow or weather some larger economic impact, like the coronavirus pandemic.

A salary cut can leave you feeling just as uncertain as a layoff. Fortunately, you can get through it with the right strategy.

Secondly, make sure you understand the full scope of the salary cut. Bishop suggests you ask your employer questions like:

  • What is the amount of pay being cut?
  • Why is pay being cut?
  • When will the reduction begin, and how long will it last?
  • Will any of the following be affected?
    • 401(k) match
    • Healthcare or insurance costs
    • Employer-sponsored training or continuing education opportunities
    • Hours or job responsibilities
  • What are the long-term plans to improve the company’s financial situation?

Once you’ve painted the full scope of what and why, you can determine how to handle the pay cut.

“For some people who are big savers, it might not be a big deal,” Bishop says. “But for some people who live paycheck to paycheck, it’s going to be significant.”

It's easier to determine how to handle a pay cut if you understand the full scope of the cut.

Settle any anxieties that might come with a salary cut

If you are dealing with financial stress, try settling your mind and emotions so you can make decisions with a clear head.

“The emotional and mental toll can be one of the hardest parts,” says Lindsay Dell Cook, president and founder of Budget Babble LLC, which provides personal finance and small business financial counseling. “It gets even harder if there are others depending on your income who are also financially stressed.”

When sharing the news with family members who may also be impacted, Cook suggests the following:

  • Find the right time. Pick a time of day during which everyone will have the highest mental capacity for the conversation. “For instance, I am a morning person, so if my husband told me at bedtime about a pay cut, I would have a much harder time processing that information,” Cook says.
  • Frame it as a brainstorming session. Bring ideas of what you can do to handle the pay cut, such as a list of expenses you can cut or a plan for how you can make extra income.
  • Empathize with the other person. “Reduced income is not easy for anyone. Everyone responds to financial anxiety differently,” Cook says.

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“If you’re unable to maintain your previous level of saving after a pay cut, try to save at a smaller scale for goals like retirement and your emergency fund.”

– Scott Bishop, executive vice president of financial planning at a wealth management firm

Create or adjust your budget to handle a pay cut

Once you understand the salary cut and have informed your family or roommates, it’s time to crunch the numbers. That’s the first step to figuring out how to save money after a pay cut.

If you don’t have a budget, find a budgeting system that fits your needs. Learning how to effectively budget takes time and practice, so be patient with yourself if you’re new to this. Cook suggests reading up on how to create a budget.

One system to consider is the 50-20-30 budget rule, which has you break your spending into three simple categories. If you prefer the aid of technology when determining how to handle a pay cut, there are many budgeting and spending apps that can help you manage your money.

If you're wondering how to save money after a pay cut, start by creating a new plan or modifying your existing budget.

Whether you’re handling a pay cut by creating a new plan or modifying an existing budget, Bishop suggests taking the following steps:

  1. Add up your income. Combine your new salary with your partner’s pay, and factor in any additional income streams like from dividends or savings account interest. Tally up the total.
  2. List your expenses. Be sure to include essential expenses (e.g., housing, food, clothing, transportation) and nonessential expenses (e.g., entertainment, takeout, hobbies).
    • Look through your bank statement online and your past receipts so all expenses are included.
    • Account for infrequent expenses such as gifts, car maintenance or home repairs.
  3. Track the amount you save. Note any regular savings contributions you make, such as to an emergency fund or retirement account.
  4. Get your partner’s buy-in. What needs do they have, and what is nonnegotiable in the budget for each of you? 

Cut expenses with budgeting tips to survive a pay cut

If you’ve crunched the numbers and found that your expenses add up to more than your new income, you’ll need to find ways to cut back. Here are some tips on trimming your spending to survive a salary cut:

  • Cut back on takeout meals and stick to a strict grocery list or food budget, Cook suggests.
  • Avoid large discretionary purchases like a car during the duration of your pay cut, Bishop says.
  • Negotiate with your utility companies or ask if they’re providing forbearance options, Bankrate suggests. You can also ask your car insurance provider if it has additional savings for customers who are driving less, according to Bankrate.

If you think you might fall behind on rent or mortgage payments as you’re handling a pay cut, both Cook and Bishop agree that early, proactive communication is key. Be honest with your landlord or mortgage company. “Don’t wait until you’re past due,” Bishop says.

The same applies for other financial obligations, such as your credit card bill. You’ll likely find those companies are willing to work with you through the rough patch.

One budgeting tip to survive a pay cut is to look into municipal assistance programs in your area.

Cook also suggests you look into municipal assistance programs as a budgeting tip to survive a pay cut. “Many cities have established rental assistance funds to help taxpayers meet their obligations during the pandemic,” she says.

Continue to save money after a pay cut

As you consider how to cut costs, take time to think about your long-term savings goals and how to save money after a pay cut. By cutting discretionary spending through your new budget—what Bishop calls “cutting the fat”—you may have freed up income to maintain your good saving habits during this time. He says it’s important to do that before slowing down on savings.

If you’re unable to maintain your previous level of saving after a pay cut, Bishop suggests you try to save at a smaller scale for goals like retirement and your emergency fund.

As you work to save money after a pay cut, Cook recommends setting up automatic transfers to your savings account every payday based on the amount you’re able to put towards savings in your new budget.

“If your savings account is at the same bank as your checking account, you can transfer those funds fairly easily,” she says. “So the worst-case scenario is that you put too much money in savings and have to bring some back to checking. The hope, however, is that some or all of those funds transferred to savings remain there since that money is no longer in your checking account just waiting to be spent.”

Seek extra income sources after a salary cut

You should explore additional sources of income if you need more cash to cover essential expenses or if you’re looking for ways to save money after a pay cut.

Determine if you’re eligible for benefits based on the reason for your pay cut. Cook recommends applying for unemployment if you think you may qualify. For example, some workers who experienced pay cuts due to the coronavirus pandemic were eligible for unemployment benefits. The details vary by state, so visit your state’s unemployment insurance program website to learn what benefits may apply to you.

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If you or your partner have some extra time on your hands, you can consider bringing in income through a side hustle to help you handle your pay cut. Bishop suggests using free or low-cost online video tutorials to boost your existing skills to make your side hustle more effective.

Cook also recommends getting creative. “Are there things you could sell to make some extra cash?” she says.

If you are unable to find additional sources of income, but you have an emergency fund, consider whether you should dip into that. “Your savings are there for a reason, and sometimes you need to use it,” Cook says. “That is okay.”

Stick to your updated budget to navigate how to handle a pay cut

Making your budget part of your daily routine is a budgeting tip to survive a pay cut, and it will help you save money after a pay cut.

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“Build rewards into your budget, such as ordering out every other week if you successfully saved money after your pay cut.”

– Scott Bishop, executive vice president of financial planning at a wealth management firm

“If you’re checking it daily, there are no surprises,” Cook says. You can do this by logging into your bank account and making sure your spending and expenses align with your digital or written budget document.

“If you see that your spending is high, your mind will typically start thinking through [future] transactions more thoroughly to vet if those expenses are really necessary,” Cook says.

Don’t forget the fun side of accountability: rewards for meeting your goals. Build rewards into your budget, Bishop says, such as ordering out every other week if you successfully saved money after your pay cut.

Lastly, don’t try to go it alone. Enlist others in your budgeting journey, Cook suggests. Make up a monthly challenge to cut spending from a specific category in your new budget and ask your partner or a friend to do it with you. For example, see if you and the other participants can go a full month without buying clothes or ordering takeout. Compare notes at the end of the month and see how much you’ve saved.

Another idea? Try connecting with a budget-minded community on social media to get inspired.

You're likely not the only person wondering how to save money after a pay cut, so try to enlist the help of others as you work through it.

Take these steps after the salary cut is over

Once you’ve handled the pay cut and your regular pay is restored, don’t give up on your newfound budgeting discipline. Instead, focus on building up emergency savings before you go back to your normal spending.

Bishop recommends starting with enough savings to cover three to six months of expenses. “If you spend $3,000 a month, that means you need to have $9,000 to $18,000 saved.”

This might also be the time to revisit your budget and build a more extensive financial plan with a CPA or financial advisor to account for all of your future goals. Bishop says that these can include a target retirement date and lifestyle; your estate planning, such as a will, trust and power of attorney; saving for a child’s college; and purchasing a home.

If your salary cut comes to an end, don't give up on your newfound budgeting discipline.

Bishop says reminding yourself why you’re budgeting and focusing on your financial goals can be similar to motivating yourself to stay physically fit. Goal-based motivation can keep you accountable.

Remember: You can survive a salary cut

Handling a pay cut is never easy, but you can get through this time. While you’re in the thick of it, focus on budgeting tips to survive a pay cut and staying positive. Seek help from others and follow up with your employer to make sure you are aware of any changing details regarding the pay cut.

Most of all, try to keep a long-term outlook. “Remember that it will not always be this way,” Cook says.

If you’re considering whether or not to tap into your savings to handle a pay cut, read on to determine when to use your emergency fund.

The post How to Handle a Pay Cut: Budgeting in Uncertain Times appeared first on Discover Bank – Banking Topics Blog.

Source: discover.com