Two-income trap can bring financial disaster

Tom Burke is an aircraft mechanic at Duncan Aviation. His wife, Kathy, is a receptionist at St. Elizabeth Medical Center.

They are raising three children n her two sons from a previous marriage and a daughter they have together. Their house on Brookhaven Drive has two stories and a one-car garage. It's in a middle-class neighborhood in east Lincoln.

They chose the house because they wanted the kids to attend Morley Elementary School, which they believe is the best in Lincoln.

Tom drives an Acura. Kathy drives a Caravan. They don't eat out much.

They are a typical, middle-class family with two incomes.

And, like a lot of typical middle-class families across the nation, the Burkes are losing sleep at night knowing they're one layoff or major illness away from financial ruin.

With a second mortgage on their house, if something bad happens, they'd be looking at foreclosure.

Says Tom: "We're so tight financially, say an engine in one of our two vehicles goes out, we would just not be able to do it right now."

They feel trapped.

And they are not alone, according to Elizabeth Warren, Harvard Law School professor and author and one of the top bankruptcy experts in America.

Warren was prepared to shake her finger at the American family.

She was going to write a book that would sock it to families for going broke in record numbers. She was going to tell them they'd be financially secure if only they would stop buying designer outfits for their toddlers and big-screen TVs for their media rooms and dinners at restaurants every night.

Live more like your parents did 30 years ago, she was going to say.

Not in your McMansions with granite countertops.

But then she studied the families that were filing for bankruptcy. What she found made her eyes widen.

Many of these people didn't fit the profile she expected. They weren't young people with their first credit cards or irresponsible people who live beyond their means or older people who couldn't make it on their shrinking savings.

They were the hard-working, play-by-the rules types. Accountants. Lawyers. Police officers. Teachers. Secretaries. Aircraft mechanics.

The family next door, like the Burkes.

They were middle-class parents with two incomes just trying to make a decent life for their children. They were spending second incomes, not on luxuries, but on the basics of middle-class life, like good schools, medical care, safe cars, child care, tae kwon do lessons.

They were living in houses that cost, when adjusted for inflation, 32 percent more than they did 30 years ago.

And they lost it all when disaster hit.

A spouse loses a job. A child gets sick and needs mom to stay home. An aging parent breaks a hip and needs constant care. …

Few families had substantial savings, Warren found. So they quickly ran out of money for mortgage payments and other bills. They turned to credit cards for the basics like food and gas.

The hole deepened.

"I was ready to write the overconsumption story," Warren said recently by phone from her home in Cambridge, Mass. "But the data showed me something completely different. "It showed me that today's two-income family is in a far riskier position than the one-income family was a generation ago."

The study became the largest ever conducted on families that have failed financially. The book she and her daughter, Amelia Warren Tyagi, ended up writing is "The Two-Income Trap: Why Middle-Class Parents Are Going Broke."

Why are they?

Many economists will tell people with two incomes that they are stronger financially. The higher income means more money to save. Two incomes means the family's risk is diversified.

But, Warren says, the reality is that if you build your budget around two incomes n which most families this generation are doing — you double your risk.

There is twice the chance of a layoff.

There is twice the chance that someone will get too sick to work.

Warren says that families with both parents in the work force full time have no safety net if something goes wrong.

"A generation ago," she says, "stay-at-home moms were a safety net for the family financially. Mom could go into the work force if something went wrong, if dad got laid off or had a heart attack. Mom could go back to work and add new income to families, and that meant they had a chance to survive a pretty serious economic blow."

Economics have changed for families.

A generation ago, anyone who got a decent education and got married and bought a house and had a couple of kids and didn't spend like a madman would do just fine. Families could maintain a middle-class lifestyle on a salary of a policeman or a teacher or a firefighter, usually dad.

But today, that's no longer true, Warren says. Two incomes are needed for many families just to be middle class.

"A police officer in 75 percent of metropolitan areas of America cannot afford a home on one salary," Warren says. "The same is true for firefighters, teachers. In other words, these people cannot be middle class unless both mom and dad are paid full time in the work force.

"Sure, there are some people who say, ‘We figured out how to do it. We cut to the bone. We eat pasta six nights a week and never go to the movies.' And God bless those who make those choices and decided they want to keep a parent home.

"My real point is that the economics have changed for middle-class families."

Tom Burke blames himself for trying to keep up with the Joneses, for having the feeling that his family would not be part of society if it didn't have cell phones, cable, Internet and computers.

"We followed that track for quite some time. But last year we got off that."

They got rid of cable TV, both cell phones. They no longer put the kids in YMCA youth sports each season. Last summer, they did not go on a family vacation. They took their daughter out of $550-a-month preschool.

But still, Tom says, they're sliding downhill.

Today's parents do have things their parents didn't, Warren says. Microwave ovens, Gameboys. Cell phones. But those things aren't the reason people are going broke.

It's the basics that are killing families — the mortgage, health insurance, a second car for mom to get to work, and child care. By the time today's two-income family has paid for the house, health care, second car and child care, they have less money left over than the one-income family had a generation ago.

Families today are spending less on food, less on clothing, less on appliances, less on furniture, less on floor coverings than their parents did, in numbers adjusted for inflation, Warren says. And, yes, they are spending more in entertainment — a whopping $170 a year more per family.

"No one is going to the poor house over that difference in entertainment," Warren says.

The biggest item sending them to the poor house, she says, is their house.

Over the past 30 years, as more and more women have entered the work force, housing costs have increased 70 times faster than a man's earnings as parents waged a bidding war for houses in neighborhoods with the best schools and the least crime.

"Doesn't that knock you over? It's not twice, not quadruple. It's 70 times faster than a man's wages," Warren says.

"In other words, today's parents are faced with the harsh reality that, to buy a home, they now need two incomes. And that is true not just in Boston and San Francisco, but it's true in Minneapolis and Denver and Nashville, too."

And it's true for families like the Burkes in Lincoln, a city with relatively affordable housing.

Ann Deck, a Realtor with Woods Bros. in Lincoln, has worked with families trying to escape the two-income trap by coming to Lincoln from bigger cities like San Francisco and Washington, D.C.

She thinks the two-income trap is more prevalent in those high-expense cities, though she sees it happening here, too. She's seen families try to downsize to smaller homes to reduce house payments. She's worked with people leaving Lincoln for smaller towns nearby, where housing is cheaper.

Bob Bennie, a certified financial planner in Lincoln with Bob Bennie Wealth Management, says that if a family is struggling, moving to smaller houses is a good idea.

He blames families' financial problems mainly on people living a lifestyle beyond their means.

"We live the lifestyle where we have two cars, we have a TV in every room, a couple computers," he says. "We have a fairly nice house in a decent neighborhood. I think, indeed, some people have to have two incomes just to get by. But it seems to me that many who have two incomes have two incomes largely because they want to live a little nicer lifestyle."

But you don't really get the full benefit of a second income, he says. You eat out more. You pay for child care. Another car.

In Lincoln, he says, a family can live on one middle-class salary of $35,000. 

But that family would have to live in a much smaller house than it wants, maybe in an older, more run-down neighborhood. But that shouldn't be so difficult, he says, because, unlike bigger cities, Lincoln's public schools are strong and crime is relatively low, even in less-desirable neighborhoods.

"I'm always trying to fight falling into that trap of having everything," he says. "But I try to remember what my grandpa used to tell me: ‘Bobby, it doesn't matter how much you make. What matters is how much you spend.'

"It does become a trap," he says. "But it's a trap we put ourselves in."

Warren doesn't believe the overconsumption theory anymore.

Yes, the median-earning family is living in a bigger house than their parents did. But the difference is 5.8 rooms on average in the early 1970s compared with 6.1 rooms today. Not much of a leap, she says.

And today's family is more than twice as likely to be living in a house more than 25 years old. They're more than four times as likely to be "house poor," meaning that they are spending more than 30 percent of their income on housing.

A big key to changing this two-income trap, Warren says, is for the nation to reinvest in public schools so that parents can shop for houses according to what they can afford, rather than where they think are the only safe places they can send their children to public schools.

There needs to be health care reform, she says, adding, health insurance costs are bankrupting middle-class America.

And there need to be more limits on the credit industry, which last year had $100 billion in revenues, she says. Credit cards are now designed to gouge, trick and trap middle-class families, she says.

Warren's dad was a clerk at Montgomery Ward. Her mom stayed home. They took vacations most years. They were play-by-the-rules types. They didn't struggle.

Unlike many of today's parents.

The rules have changed, Warren says, and parents today need to realize it before it's too late.

"The Two-Income Trap" is a best seller. Warren has been on the "Dr. Phil Show" and other national TV shows. She's surprised by the success a dry, academic book on family economics has had, she says.

But it is a best seller, she says, because it rings true for so many.

At book signings, Warren says, people come up to her and, in a low voice, tell her that the book hits too close to home.

Warren says her righteous anger when she started the bankruptcy study has turned into a profound sensitivity for American families doing their dead-level best just to raise their children in the middle class.

"The single-biggest message of this book — what I would say to the families if I could say just one thing — is this: You're not alone."

The Burkes know it.

They have heard about it from friends and family. Tom's sister in Michigan, married to a university professor, tells him they're in the same boat.

About a year and a half ago, the Burkes took out a second mortgage on their house to consolidate their debt.

Tom wishes they had not done the second mortgage, because now they're looking at foreclosure.

"At least with bankruptcy," he says, "that doesn't go against the house."

They had a for-sale sign up at their house until recently, asking price about $150,000. They planned to move to Syracuse, to a much less expensive home that would cut the house payment in half.

But their house didn't sell.

Now they're crossing their fingers that no unexpected expense hits.

"I'm kind of getting accustomed to living on the edge like this," Tom says. "It's been going on at least a year. It's kind of becoming normal."

Do the drill

The authors of "The Two-Income Trap" say families should prepare for a financial emergency before it hits. Their "financial fire drill" consists of three questions families should ask themselves:

1. Can you survive without one income? The average two-income family faces a 1 in 16 chance in any given year that one parent will lose a job. If you can't survive for at least six months, then you should do some disaster planning now.

2. Can you downshift the fixed expenses? Consider going a few more years without a new car or signing up for a lower-cost HMO, even if you have to switch to a new pediatrician. Or a cheaper preschool. Or a cheaper house.

If you're looking for a new house, don't stretch for a house you can't afford. Just because your mortgage is approved doesn't mean you can afford it.

3. What is your emergency backup plan? What will you do if you divorce? If a child gets sick? If you lose your job? What can you do now to your budget to build a cushion? Thinking like this could make you rethink your financial commitments.

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