Category: Personal Finance

There are a couple different pahses of investing. Let’s take a look at each one.

You Can’t Invest If You Are Broke!

Simple concept right? You have to be living far enough below your means in the first place to save up some money to invest. You can’t start investing if you are living pay check to pay check. If you are, read through the first 5 foundations and come back to this one.

I have money, now where do I invest it?

You are following the first 5 foundations and your savings acount balance is starting to have some zero’s on the end of it. You have an emergency fund of 6 months and you have money left over that you are now ready to invest with the hopes of seeing better returns than 5% in a high yield savings account.

There are thousands of different investment options out there. My goal here is to break it down and make this really simple: put the money in a broad market index fund or a growth stock mutual fund with a long track record of success.

I have two spots where i put my investment money: growth stock mutual funds and index funds. Let’s start with the mutual funds. Since my older sister Rachel works at Lord Abbett Investments , I don’t pay any sales charges or commissions to Lord Abbett. This is a huge advantage and the primary reason I have most of my portfolio with them.

If Rachel were not at Lord Abbett, I would have the money invested with an index fund at Vanguard. Since Crystal and i are not married yet, her 2006 Roth IRA could not be opened at Lord Abbett without paying a sales charge. We decided instead to open a Vanguard account and put the money in the S&P 500 Index Fund. Opening the account was easy and with a 12.2% return since 1976 and a .18% expense ratio this is a great investment option!

I have the money invested now what?

Leave it alone! Let the magic of compounding take over. This is one of my favorite calculators to play with:

http://www.moneychimp.com/calculator/compound_interest_calculator.htm

Take a look at this quick math:Â If you invest just $10k a year for 30 years at a conservative 10% interest rate you are looking at $1.8 million! What makes this really interesting is if you put in 31 years. You get 2+ million. So in other words, waiting a year to start investing with this formula would cost you $200k. Starting early will have a HUGE impact on your overall portfolio.

Unlike Foundation #4, this is the one that usually gets people in trouble. Here are my top 5 depreciating items to watch out for:

1) Cars – Beside your house your car is probably the largest asset that you will own. It is also one that depreciates like a rock! Most cars will loose 50% of their value in the first 4 years. There is so much to talk about with cars that I will dedicate an entire post to them in the future

2) Furniture – If you think cars are bad furniture is worse. Furniture depreciates about 25 percent on the first day out the showroom and just keeps going down from there. Don’t even get me started on the people buying $10k in furniture on credit and taking 10 years to pay it off. “Rooms To Go” is a finance company that just happens to sell furniture. Furniture deserves it’s own post!

3) Consumer Electronics – Computers, TV’s, gadgets, etc all loose value VERY quickly because technology progresses at such a rapid pace. Some companies are working on 6 month product cycles!

4) Sporting Goods – Ever shop for a set of golf clubs or a snowboard at the end of the season? Most of the time you will find discounts of at least 50% off. That means the shiny new set of clubs you bought at the start of the season is worth less than 50% of what you paid! Another category that goes down like a rock: Fitness Equipment!

5) Clothing – Fashions come and go just as quickly as the seasons. The hot sweater you bought last year is old news this year and is worth next to nothing. The higher the fashion the steeper the depreciation slope!

The best way to combat depreciation is to buy used and let somebody else take the price hit. eBay and Craigslist have made this easy but you do have to be patient to find the best deals. One aspect of eBay that is often overlooked is that eBay can now put a price on everything. If you want to purchase something new it is easy to evaluate the depreciation slope BEFORE you buy.

There are two kinds of assets: those that appreciate in value and those that don’t. Your goal should be to focus on the assets that appreciate in value:

1) Cash in a 5% Online Savings Account

2) Investments like growth stock mutual funds

3) Real Estate

Got any others?

I have designed this foundational series to have all the articles build on each other. Once you have your monthly budget set and your income is greater than your expenses it is time to start figuring out the best way to save the money left over. Hands down the best method I have found for saving money is to have automatic withdraws from your savings account or paycheck.

This method is referred to as “Paying yourself first”. In my previous budget post there was a very clear reason why the income was at the top, followed by the 401k, ESPP, and Roth IRA and finally the bills and expenses last. This makes me think along the lines of paying myself first! Saving money is the first thing I do before any money is spent on bills and expenses. It is a fantastic way to think about finances and has worked really well for me!

David Bach’s book “The Automatic Millionaire” does a great job of driving this topic home and explaining how it works. I highly recommend it!

The great thing about this topic is how easy it is, well to setup that is. Leaving your allocations alone and having the discipline to not touch the money is the hard part. Set some aggressive goals in your budget, and work hard to reach them!

So where are the opportunities to setup automatic savings?

Savings Accounts

Setup a high yield savings account with WaMu or Emigrant Direct and setup a recurring transfer for 10% of your income. You will be amazed at how fast that account will grow and you will have a 6 month emergency fund in no time.

401k

Most people have access to a 401k program at work. If you do, this is a great way to set up automatic savings. Set your 401k percentage, and put the money in some good growth stock mutual funds. A great method for increasing your 401k contribution is every time you get a raise increase your 401k percentage so the net impact to your paycheck is 0 and don’t upgrade your life style!

Roth IRA

Every Roth IRA I have seen has had an automatic investment option. Put $333 a month away and you can max your Roth IRA at $4k for the year

ESPP (Employee Stock Purchase Plan)

A lot of public companies offer this and it is an easy way to save money automatically. I will explain later how I take advantage of this at Home Depot.

Investment Brokerage Account

Just as a Roth IRA can be setup to make automatic investments, your standard brokerage or mutual fund account can also be setup to pull automatic investments out of your checking account.

With online banking, direct deposit, and electronic transactions there is no excuse why you should not make your savings automatic!

Personal finance success starts with a commitment to spend less than you make. However, where your spending falls in relation to your income can’t be known unless you map out all the money coming in and all the money going out. This is where the budget comes into play.

Budgeting for me is a fairly new concept. I have only been keeping a budget for the past year or so. During this time, I have been experimenting with a couple different methods to see what works. I have heard the envelope system is very effective but I don’t do cash (topic for another day) so I passed on that. I have tried recording all transactions in Microsoft Money or Quicken but I usually fall off that train pretty quickly. I think the key to budgeting is that it has to be simple. Since I like Excel I decided to start there and see how I got on. What I came up with is this Simple Monthly Excel Budget

*DISCLAIMER* All numbers are fictional and are just for display purposes!

Step 1)
Enter Your salary and how many times a year you get paid. If you are a single income household just enter zero for salary 2

Step 2) Grab your paycheck or go to PaycheckCity and enter your information

:

Salary 1 is based on bi-weekly paychecks so I use a multiplier to get to the monthly numbers. Salary 2 is based on monthly paychecks. After entering your income, taxes, 401k (if applicable) you will have your net after taxes. This is the money you have to spend each month.

Step 3) Now it is time to enter your after tax deductions like medical, dental, and employee stock purchase (if applicable)

If you don’t participate in an ESPP just enter 0%. Now you have your take home pay in each check.

Step 4) Enter your Roth IRA information. If you are not participating in a Roth IRA enter zero (You should be – topic for another day!)

Step 5) Enter all your non credit card expenses. Things like mortgages, utilities, etc. For utilities that fluctuate, I enter an average since Gas and Electric will usually offset each other during the year. I also like splitting up the mortgage payments into principal, interest, and taxes so I can see the principal amount each month 🙂

Step 6) Now enter your yearly expenses and divide by 12 to come up with a monthly average.

Step 7) Enter all your expenses that you put on a credit card each month. You will see why I do it this way next

Step 8 ) Now we add it all up!

Your disposable income equals your take home pay minus your expenses and your Roth IRA contribution. This is how much wiggle room you have in your budget each month, hopefully it is a positive number! If it is a negative number, you need to cut some expenses or increase your take home pay.

I use the do not exceed line above so that each month I can glance at my credit card bill and make sure we are on track as most of our expenses are on the credit card each month.

Step 9) The last couple lines give you a quick snapshot of how you are doing overall with a look at your savings and retirement rates.

So that is what works for me. What about you?

Sound simple right? In theory yes but in practice no. Just look to the negative savings rate and you will see that Americans today are spending more than they make and saving less for tomorrow.

I don’t want to make it sound easy, it isn’t! You have a lot of big companies spending an incredible amount on marketing. To add to the big marketing budgets, the marketers are getting smarter and more advanced in their techniques. Holding onto your hard earned dollars in today’s consumer driven society is hard work. Who doesn’t want a new car or some hot new gadget?

What it comes down to is commitment. You have to set a budget and commit to spend less than what comes in every month. Resist the temptation to spend crap on stuff you don’t need to impress people you don’t know!

To start my personal finance series I thought I would start with the following foundations on personal finance. I will follow up with a post on each of these individual topics:

#1 Spend less than you make

#2 Create and stick to a budget

#3 Make savings automatic

#4 Accumulate assets that appreciate in value

#5 Avoid assets that depreciate in value

#6 Invest your savings early and often

#7 Live almost debt free

#8 80% of personal finance is behavior 20% is knowledge and the numbers

#9 Your retirement is YOUR responsibility

#10 To be successful you and your partner must agree on these principles

Most personal finance topics can be attributed back to one of these principles. Did I miss any?