Friday, February 27, 2015
Wednesday, February 25, 2015
As I look back, the strangest part of this situation is that I feel that I knew better than to have gotten myself into a financial quagmire. I had a degree in Finance, and had even had excellent personal finance courses included in my studies that taught how to avoid this precise dilemma. What I have since realized is that acquiring financial knowledge is easy, but acting on it is something that not everyone does.
In early April, we sold our house and buckled down to pay down the rest of our debts as quickly as possible. Just a few short months later I was planning to start grad school and we didn't want to have to take out any student loans to do so. We also wanted to get out of our dungeon apartment and into a house. By our math at the time, both of these things were possible, but not without serious focus and planning.
After selling the house, we were left with three debts and some very large upcoming expenses.
Our first plan was to sell off one of our cars and to go back to being a one car household. Although our new hometown didn't have good public transportation, my wife's new job wasn't very far from mine and our work schedules allowed for us to commute together. We were able to sell Car 1 for $3,000 more than we owed, which immediately had to be used towards my first semester of tuition, which cost $8,170. Although we really wanted to be aggressive in paying down our debts, we had also committed to have $14,000 as a down payment for a house we were building that would be done in just a few more months.
Paying off Car 2 and the student loans became our top priorities after we moved into the new home, but had to be balanced against the need to pay another semesters tuition. Even though my employer was reimbursing a portion of my tuition, I had to pay for and pass the classes before getting reimbursed, and the next semesters tuition was generally due before I received the reimbursement for the previous semester. Once we were able to begin attacking our debt aggressively, we were putting between 21 and 71% of our take home pay towards debt. 13 months after getting serious about paying off debt, we had paid off the last of our non-mortgage debts.
There are so many things I could write about our debt repayment, but I'll keep it concise and simple. While there are many details I have not mentioned, it is worth pointing out some of the lifestyle changes and sacrifices we made during this time to make it all possible. Some of these highlights include:
- Living in an apartment where I didn't always feel safe, in order to save money.
- Living without owning a TV (our old one didn't make the cross country move).
- Carpooling with my wife even before we sold the second vehicle to save gas.
- Playing cards with my wife at home instead of going out for entertainment.
- Enduring the teasing of co-workers for eating peanut butter and jelly sandwiches for dinner every night at my office to avoid eating out when I was away from home for 16 hour days.
- Never eating out for lunch with co-workers while paying down debt.
- Not buying any clothes for almost an entire year.
- The feeling of driving my car after it had been paid off. I swear that it seemed to drive smoother when I no longer owed anything on it.
- The sense of achievement each time I was able to write large checks for tuition and not have to borrow money.
I know that there are others out there who may have dug themselves into deeper financial holes than I was in, but the steps I took to get out of debt are no different than the steps that anyone can take to get out of debt. It's been said that those who understand interest earn it and those who don't understand interest pay it. Avoiding debt is critical to be able to build wealth and achieve financial success.
Sunday, February 22, 2015
We had a lot of scrambling to do with only 3 weeks' notice before starting a new job across the country. The first thing we did was to put up a for sale sign in our yard. We had no desire to be long-distance landlords. The next thing we needed to do was to figure out our living arrangements and employment for my wife in the new location. Thus far in our married life, money had not ever felt tight, but that was about to change. You see, the timing of all of this was right around the peak of the 'housing bubble'. Just a few months earlier, home prices seemed to be going up weekly and houses were going under contract very quickly. We didn't realize it yet, but just a few months later, the market was not as much of a sellers' market as it was before.
On top of the pressure to sell our house, we also had the problem of finding a new job for my wife in the new state. Although I was getting a small raise with the job transfer, it wasn't anywhere near replacing her income, which was about half of our household income. Since neither of us had ever been to the area we were moving to, we were starting from scratch on her job hunt.
At this point in our lives, we had not been living on a budget and, even though I kept track of our spending, didn't realize the true financial ramifications of our move right away. When I did, the reality was startling. Below is an approximation of what our average budgets would have looked like before the move and after the move, until my wife was able to find a new job.
Before the move, with both of us working, we had had so much money left over after our required expenses that we didn't ever feel we had to worry or tell ourselves no. We were saving into retirement accounts, and I would usually pay a little extra on each car payment, but we did not have a detailed debt repayment strategy. Now, with the move and loss of income, our minimum expenses were greater than my income alone could support. Selling our house was obviously something we were working on and would alleviate a lot of the burden, but until that happened, we would be burning through the small savings we had accumulated.
Our initial plan was to rent the cheapest apartment we could find in the new town while we waited to sell our house, then turn around and buy another house in the new town, where houses were much cheaper. By the time we bought another house, my wife would have found another job, and we would have no problem qualifying for another mortgage and would then just pay whatever penalty was necessary to break the lease on our apartment. At least, that was the plan at first.
As it turns out, the door had been kicked in (probably by police), shortly before the previous tenants moved out. This certainly didn't scream 'home sweet home', but since we still had a mortgage to pay on our old house and had just cut our household income in half, this was about all we could afford for the time being.
Long story short, we were extremely lucky to be able to sell our house in about 3 months. In that time, we had burned through pretty much all of our savings as well as a small relocation allowance, and Christmas bonuses. We ended up selling the house for the exact same price we had bought it for a year before, but realtor commissions ate up what little equity we had.
My wife also had a harder time than we expected finding a new job. Not only was it hard to find something in her field, or that paid as much as she had been making before, but it was simply hard to find any job. After several weeks of searching, she ended up working a retail job 45 minutes away for $10/hr for a month before a new friend we had met put in a good word for her to get a temp job nearby, paying $12/hr. I know this was difficult for her, not just going from making >$50k/yr to $12/hr, but also going through the humbling process of searching for a job when seemingly no one was hiring while in previous job searches she had usually had luxury of deciding between multiple job offers.
With a house sold and a new job for my wife started, we were settled into the new town. Now it was time to figure out how to pay for a new house (and get out of the dungeon apartment), and grad school that would be starting in just a few short months.
Friday, February 20, 2015
I was extremely fortunate that my employer at the time had a very generous tuition reimbursement program ($10,000 per year) and I was trying to figure out a way that I could maximize that benefit. There were some Universities near where we were living at the time, but for a variety of reasons I did not want to attend any of them if I had other choice.
So naturally, I started to look at my options. My employer at the time had a national presence, and I started to look at locations I could potentially transfer to that were located near Universities that met the criteria I was looking for in an MBA program. I was looking for top 20 ranked schools that offered evening courses, with strong employer connections for recruiting in my preferred area (Finance). From there I went about identifying managers in the different cities where I would be able to work and asked around in my office for anyone who might know any of them. After learning about the different areas and offices, I reached out via e-mail to some of the branch managers with the hopes of opening a dialogue that could land me a position if one were to open up. My thought was that this would be something that would happen a year or so down the road, if at all.
To my surprise, the first person I e-mailed, quickly responded and after a brief conversation, mentioned that he was going to have an opening in the near future, and to stay in touch. Within a matter of weeks, I was offered a position in my #1 location, nearby my top choice for school to attend, and was given 3 weeks to get there. This happened entirely via phone and e-mail and so just like that, I accepted a lateral job transition across the country in a place I had never actually been.
Because I had sold my car in favor of public transit, and the new city did not have reliable public transportation, the move required the purchase of a 2nd vehicle. Of course, we hadn't saved anything really for this, so we borrowed another $14,000 for a car. This represented the all-time peak of our indebtedness, both in terms of total amount owed as well as number of different loans.
Thus began a new adventure with my new job in a new state, with the hopes of getting a new graduate degree.
Wednesday, February 18, 2015
Monday, February 16, 2015
I recently received an e-mail from a friend who wants to get out of debt but didn't really have a plan on how to do so. He is in his late 20s, earns about $40,000 per year, and has about $10,000 in debt from three student loans. He has been paying a little extra on the loans but didn't really know how much he should be paying, or whether it really made a difference to do so or not. My advice to him was this.
- Reduce 401k contributions to not be contributing anything that isn't matched (his employer matches up to 7% but he was putting in over 10%). Stop contributing to any other retirement accounts (He has been adding about $200 a month towards a Roth IRA).
- Focus on the smallest debt of about $2,000 first. Not only will it be paid off first, but it also has the highest interest rate. Until the first debt is paid off, don't pay more than the minimum on the two larger debts of $4,000 each.
- Don't keep more than $1,000 in checking and savings combined while paying off debt. This will allow you to pay off debt quicker and will help act as a small buffer in the event of an emergency.
- Put as much as you possibly can towards your debt payments each paycheck. As you pay off one, you'll be able to start paying down the next one with even larger payments since you no longer have any minimum payments towards the first.
- Track expenses and set up a budget to be able to better control where your money goes. After doing this for just a short while, you'll be able to get a better feel for how much you can put towards your debt. You may also discover that you are spending more or less on some things than you were aware of. You can then make an informed decision as to whether or not you'd like to keep spending at those level.
If you're familiar with Dave Ramsey, a lot of this may sound familiar. He coined the phrase 'debt snowball' for this strategy. There are some differences between what I recommended and what he recommends, but the overall concept is the same.
With these initial changes in place, this is what the updated scenarios look like for him. These compare the amount of interest that will be paid and the date that he will be debt free based on whether he pays only the minimum monthly payments, a little extra like he has been doing, or if he implements the plan I put together for him.
He was paying a little extra and was on track to pay his loans off a year ahead of schedule, but these changes enable him to pay his debts off an additional two years sooner. I am convinced that he will be able to pay things off even sooner than the updated scenario shown here, but this where he is starting. As he continues to track expenses and follow a budget, he will be able to identify additional areas where he can find some savings to help speed up the process.
Should any other readers want a customized and comprehensive debt pay-off plan, feel free to reach out (firstname.lastname@example.org) and I can help you organize a debt payoff strategy. If you find yourself currently in debt and are looking to become wealthy, the first thing to do is to stop getting further into debt and begin paying off debt as quickly as possible.
Friday, February 13, 2015
I'll talk a lot on this site about avoiding debt, how we got out of our non-mortgage debt, and tips for paying off debt, so this post is not intended to cover everything debt related. Of the most successful investors and retirees I have worked with, one of the key similarities in their behaviors was the avoidance of debt throughout all stages of life. Sadly, many people believe that they can be in debt for their entire careers and then in the last few years before retirement pay off credit cards and car loans, and then naively assume that they will be able to retire comfortably having only one years' worth of income. Instead, what happens when you spend decades of your life in debt is that even if you are earning a decent return on your investments, your net worth growth is being pulled down by interest payments that effectively rob your retirement to satisfy your current desires.
To help illustrate the point, let's compare the long-term implications of the decisions of two recent college graduates who both start good jobs after graduation at 22 years old. Graduate 1 decides to begin saving for a rainy day and for retirement right away. Graduate 2 does what I have often seen happen and decides to buy a new car. Like most Americans, graduate 2 doesn't have $30,000 lying around, so he takes out a loan (we'll leave the topic of leasing for another time). If borrowed at 4% for 5 years, simple math will tell you that over the life of the loan, the total interest paid will be right around $3,150.
If graduate 1 simply took the amount of money graduate 2 was paying in interest and invested it, assuming an average 9% rate of return, it would grow to over $100,000 by age 65!
One new car purchase is not likely going to be the difference between being able to retire or not, but borrowing money can be addicting. Getting into the trap of always having a car payment and other debt makes it significantly more difficult to accumulate wealth. The seemingly small decision to buy a new car has much larger and longer financial implications than just the life of a loan. As the saying goes "Those who understand interest earn it. Those who don't, pay it."
Thursday, February 12, 2015
This particular client came to me to get help sending some money to a car dealership. When I noticed that the car dealership was an Audi dealer down the street, I said something like "looks like you're buying an Audi, they make very nice cars". I will never forget his response. In complete seriousness, he said "I wish I could afford an Audi!" before explaining that he was buying a used Honda that the dealer had taken in as a trade-in.
Here's the crazy part. This guy had about $2.5 million in his investment accounts, with a net worth over $3 million and was in his late 40s. He could have written a check for 10 brand new Audi's but opted for a vehicle costing far less than what most people would say he could have afforded.
I'm not advocating that we all should deprive ourselves of all luxury items, and it is possible that this particular individual was overly cautious, but it is critical that we think about how our money decisions affect our other financial goals. It is possible that he couldn't afford an Audi if buying one interfered with a more important goal, like retiring early, or caring for elderly parents.
For some people, driving a nice vehicle is more important than it is to others, you just need to understand that every purchase has a trade-off, and in a world of limited resources, it is unlikely that you can purchase a new car every year AND retire early AND have a vacation home AND travel the world AND put your kids through college AND have all the latest gadgets AND…do you get my point? Pick what is MOST important to you and make sure that nothing less important gets in the way. If you are married, this should be a joint decision where each of your individual preferences are considered to find your ideal priorities.
Wednesday, February 11, 2015
To help keep our spending in check, we live on a budget, track all of our expenses, and observe our spending trends and patterns, adjusting our budget as needed (side note: our household budget file is a spreadsheet named 'money stuff', hence the name of this site). Since we have been doing it for several years, this has become more for tracking expenses and anticipating upcoming large expenses or purchases and not so much for finding ways to save additional money. I am convinced that had we not been following a budget, we would not have been able to do things like paying cash for our vehicles and large home repairs, or making it through graduate school without any student loans.
In today's culture, just the word budget seems to have negative connotations and conjures up thoughts of depriving oneself. I prefer to think of budgeting as a way for you to determine your priorities, and for you to make conscious decisions on how to deploy your limited resources. Everyone has different priorities and preferences, so allow me to share some examples from our household of how we are keeping our spending to manageable levels.
- We currently have a mortgage (our only debt), and the minimum payment is less than 20% of my monthly income. Because it is a 'manageable' amount, we are able to pay extra on it every month. When we bought our current home, we took all of the equity from our previous home sale and applied it towards the purchase price. We currently have about 40% equity in our home and are actively working on paying off our home well ahead of schedule.
- Our cars are all paid for. We plan in advance and save up to purchase cars and we buy gently used vehicles. I drive a Corolla, which has been great on gas and maintenance, while my wife drives an Expedition. Which is the opposite of fuel efficient, but is great for hauling kids and all the things that go with them. The total value of the cars if we had to replace them would be less than 15% of my annual income. Again, the value of our vehicles is manageable relative to our income.
- We maintain an emergency fund of cash which allows us to not go into debt for any unanticipated expenses.
- Our budget includes a tithe of 10% of our income to our church as well as charitable contributions to other organizations.
- When thinking about trade-offs, one thing we prefer to spend our money on is books. To illustrate just how much we like books around here, last year we spent more on books than we spent on all other types of entertainment combined (museums, movies, movie rentals, sporting events, etc). This is our personal preference, and it works for us.
- As I've mentioned earlier, we tend to be big do-it-yourselfers, not just in personal finance related matters, but also around the house. This allows me to learn valuable skills and save a lot of money on home and other repairs. Recent examples of this were when I spent a few hours doing a repair in the crawlspace of our home to save $500, or when I used YouTube to learn how to fix my lawnmower and save $200-300 for 2 hours of work.
- Nowadays it seems like every new product that comes out has a monthly subscription tied to it. We think long and hard about anything that involves a recurring charge, or before increasing our existing charges. Some examples of this are that my wife didn't have a smartphone until last year, I had had one for a few years but had an inexpensive prepaid plan. We also went about 6 years without owning a TV (long story), and even now that one was gifted to us we still don't pay for additional channels (did I mention we like to read all those books we buy?).
The takeaway from this post is that you need to know where you money is going. This allows you to allocate funds towards goals like retirement. If your expenses don't allow for you to save for retirement or a rainy day, then your expenses are not 'manageable'.
Monday, February 9, 2015
So what is the right number for you? The short answer is, it depends. Don't you hate that?
Rather than give an inappropriate one-size-fits-all answer to this question, I would recommend taking a look at a simple retirement calculator like Fidelity MyPlan (not an ad) and putting in your actual numbers. I've looked at several online retirement calculators, but I find this one to be very good for this type of quick estimate. You certainly would want something more comprehensive if you were close to retirement, but this gives an easy answer to the question I hoped to address here.
The takeaway from the calculator is that there are some things like your age and current savings that can't be changed, but others that you can control, such as when you hope to retire, or how much you save each month. The earlier you start, or the longer you plan to work, the less you need to save each month. As I discussed in the last post, the time you have to invest can be more important than how you invest or how much you invest.
One additional thing I'd like to point out is that I would caution you against falling into the trap of investing more aggressively in an attempt to make up for lost time. Risk is a two-edged sword and if you haven't experienced significant negative swings in the market, you don't yet know how much willpower you have to stick to a plan. Likewise, I would urge you to not invest so conservatively that you don't get to see the true power of compound interest, especially for timeframes longer than 10 years.
Did the calculator tell you anything surprising? Did it create more questions?
Saturday, February 7, 2015
This is not to say that all hope is lost for anyone reading who may be is off to a late start in saving, but one simple illustration shows that the time your money has to grow can actually be more important than how much you've saved!
Let's assume you start investing $100 per month at age 25, and for whatever reason at age 40, you decide to quit investing, but leave the money invested until age 65. Let's say that you have a friend who is the same age, and hasn't started investing yet, but sees how your $100 a month has grown and then gets motivated to start investing too. Your friend starts to save $100 at age 40 and keeps doing so until age 65. We'll assume that you are both investing in the same thing and you average 8% on your investments.
Who do you think has more money at age 65? You, who put money in for 15 years and then let it sit for 25 years, or your friend who started later, saving the same amount each month, but for 25 years?
Even though you only put in $18,000 and your friend puts in $24,000, you would actually end up with more money at age 65. Not only would you have more money than your friend, you would have A LOT more money. Despite having invested $12,000 LESS than your friend, you end up with over $240,000 while your friend has about $96,000. How is this possible? Compound interest.
Compound interest is deceptively powerful in its simplicity. Think of it this way, when you earn interest on your money and keep everything invested, you then begin to earn interest on your interest. This can take several years before it is noticeable, but eventually you reach a tipping point where you earn more interest on your interest than you do from your initial investment. In fact, by the time you reach retirement, the majority of your money should actually be growth!
Here in the DIY$ household, we have seen the power of compound interest first hand. Even though we were able to save about 18% of our household income into retirement accounts in 2014, the growth we had from our existing investments was an even greater amount of money. We have seen this in multiple years, but it takes time and patience to get to that point.
While I have worked with people who started saving late and still accumulated significant assets, the key is generally to start early. If starting later in life, you will simply need to save more than someone who started saving younger. In my simple example outline above, for the person starting saving at 40 to end up having the same amount of money at age 65 as the person who started at 25, they would have to save about $315 per month instead of just $100.
We'll dig into details later, but for now the lesson is this: Start saving as early and as often as possible. If you haven't started yet, start now! If you're starting late in life, understand that you will need to save more than if you had started early, to accumulate an equivalent nest egg.
Have you witnessed the power of compound interest?
Wednesday, February 4, 2015
Rules to follow for a comfortable retirement:
1. Start saving young
2. Keep spending at manageable levels
3. Avoid debt
4. Diversify your investments
5. Grow your income
6. Don't invest in things you don't understand
7. Don't panic during times of market volatility and don't try to time the market
8. Rebalance periodically and reduce risk as you get closer to retirement
Each of these topics merits some attention, so I'll be digging into each in upcoming posts. In the meantime, feel free to comment if you feel that anything is missing from this list, or if there are topics or questions you'd like to see covered. You can also reach me by e-mail at email@example.com