Adam’s Peace

No, this is not a review of the book Financial Peace(aff) by Dave Ramsey. (It is a good book, though, and represents my first introduction to financial improvement.)

This is an attempt to find peace with my own finances, and hopefully to promote discussion where more people can gain an even greater understanding of money, improving their own financial situations as well.

I know that I don’t have a monopoly of information. In fact, I’m only now starting to seriously consider my financial health. If you have more information, or you find that my information is incorrect, please, by all means, leave a comment.

My Background in Finance

Up until now, I have been spending money as I receive it. Yes, I now know that this is a terrible habit. Spending money as you receive it is great for the corporations you buy from, but it is terrible for the economy as a whole.

I got a job when I was 16 years old bagging groceries, and once I had paid for the fuel so that I could return to work, I spent most of my money on video games. I had a savings account as well as a checking account, and I regularly added money to the savings… yet I also regularly withdrew from savings, so much that I learned that more than three withdrawals from a savings account per month could lead to having fees added against me.

By the end of the pay period, I often had no money left over, and I had also paid for overdraft charges on several occasions. It didn’t affect me too terribly, though, because the only real bill that I had to pay was fuel for my car.

When I joined the Army, I was given a $9,000 enlistment bonus. Does anyone care to guess how long it took me to blow through that? Well, by the time I got the money in my account, I was already an alcoholic. I was also in a foreign country, which added to my sense of separation from society. I spent a chunk of that on gambling over one month. Fortunately, I wasn’t very good, so I didn’t continue gambling after that. One night, I walked out with $100 in my pocket, but I had to ’spend’ $80 to get it, which means that I only won $20, and over the course of the month where I would gamble, I lost $500.

I also spent $500 on ’stuff,’ such as a silk comforter, a leather jacket, and various trinkets that I no longer have. (I still have the jacket, although it is too big for me. I gave the comforter to my nephew, because I eventually got a larger bed that the comforter could not cover.)

After 8 months of having what I saw as limitless money, I reached the end of my account. Keep in mind that I didn’t have any bills, because housing and food were all supplied to me directly by the Army, and I didn’t have a car at the time… I simply didn’t need a car. Also, during that time, I was being paid a salary of around $1,500 per month. Looking back, I realize that I was spending about $2,500 per month on alcohol or other related expenses. I clearly didn’t learn any financial skills while in the Army.

Finally, after I got married, I had to buy a car, as well as pay rent and utilities. Fortunately, the Army gave me extra money to cover the rent and utilities, and my salary increased to about $2,500 per month. My wife got me to stop drinking (and by this time, I bought my own alcohol instead of going to bars and clubs, which greatly reduced the cost of drinking), so that expense disappeared. Unfortunately, my wife hadn’t learned how to manage finances yet either, so we would both buy things without checking on each other first, and we often paid overdraft fees.

Financial Dependence

Eventually, we got our act together. I was medically discharged from the military, and I went to work as an overnight stocker at a super-box warehouse store while going to college. I lived with my sister for a year, helping out with her mortgage. The complete lack of time, between my midnight shifts at work and school during the day, meant that I couldn’t spend money whenever I wanted to. I was temporarily able to break the habit of impulse buying, simply because I didn’t have time. That didn’t stop me from eating fast food every day, though, and again, by the time the next paycheck came, we often had less than a hundred dollars in the bank.

I was officially a wage slave.

This lasted for the entire time that I was in college… We moved to apartments… I got different jobs… We just simply could not get a handle on our bills and start saving money.

The only good that came out of it all, was I only got one credit card, and I quickly maxed out its $400 limit, then fell late on the payments. I’m glad that I didn’t get more credit cards, or that I didn’t get a higher limit, or I would have a much larger debt to pay, and I don’t think that I’d be able to climb out with my current spending habits.

When it became obvious that we couldn’t live near my school anymore, we moved in with my parents. I took a job at the same grocery store I’d worked at when I was 16, only this time I stocked produce, and I made a strong effort to look for a new job that I could both enjoy day-to-day, as well as enjoy over the long term. (I greatly enjoyed stocking at grocery stores… but I couldn’t afford to keep working there, and I felt unfulfilled, because I was wasting my education.) Eventually, I got a job as a tech support representative for a web hosting company (I would recommend their virtual private servers, but never their shared hosting servers… and I would only recommend their virtual servers to anyone who doesn’t understand how to use a command line), learned how to talk with people impulsively, and I was offered the job I currently have now about two months later.

Now, other than the Army, I really didn’t get into details about my pay, because it really didn’t matter… Whether I was making minimum wage or I had doubled that, I was still living paycheck to paycheck. I thought that if I could just increase my salary, I would be able to get ahead of the game, have some savings, and get out of the rat race. In retrospect, I was completely wrong, of course… but that was the idea, at least.

Current Situation

So, today, I’m making $20 per hour, and my timecard always shows 40 hours per week. With taxes and other deductions, that brings me to $2,700 of income every four weeks. I also have $2,653 in expenses per month, which leaves me with $47 left over at the end. I’m also praying that I don’t get sick, because I don’t have health insurance… it is simply too expensive.

Now, there is a lot that I can do with this situation… but I don’t know what the ideal plan is yet. Obviously, the best thing to do is to cut expenses and generate additional streams of revenue. That’s easier said than done, of course, and increasing revenue, with my current habits will only increase my spending.

Here is my current list of expenses:

• Car (Total: $625)
  • Fuel: $180
  • Insurance: $89
  • Loan: $356
• Cigarettes: $100
• Entertainment (World of Warcraft): $15
• Groceries: $300
• Household (Total: $1,303)
  • Cable Television: $95
  • Cell Phones: $110
  • Phone + DSL: $75
  • Rent: $1,023
• Utilities (Total: $310)
  • Electricity: $150
  • Gas: $100
  • City Services: $60

Now, some of these figures aren’t accurate… They’re best pessimistic guesses. I don’t think that I spend $100 per month on cigarettes; the amount I spend between my wife and I is probably closer to $80, but if I guess too optimistically, I’ve found that I’m often left paying overdraft fees. One key expense, repaying my car loan, will disappear in July, but will be replaced by another expense: student loans.

First Steps: Budget and Cut Expenses

I have two first steps which lead into my first goal. The first of the first steps is to get an accurate view of all expenses. Up until now, I have only ever played around with finance tracking software, such as Microsoft Money, and have not seriously used one of these applications over the long term. Often, I would keep track of my receipts for a week, then start filling in the information directly from the bank’s website after I have missed recording a couple of checks or debit purchases. After a month of this, instead of updating the information from my own computer, I would go back to the habit of only checking the balance online.

The problem with this is that I can’t tell what I’m spending my money on. I have three different categories that all show up under the same store… gas for my car, cigarettes, and groceries can all be bought at the closest supermarket, and they all show up in my bank statement under the same store name, which means that I can’t reliably track how I’m spending in each of those categories. This is fine for living paycheck to paycheck… but it is terrible when planning a budget.

The second of my first steps is to reduce spending. Obviously, I can’t do much about my rent, and at this point, the best I can do for my car loan is to pay it off on time. My wife and I have discussed lowering our Cable TV bill by removing some of the premium channels, and as I think about things more, I can safely remove the channel package that includes my favorite channel: The Science Channel. We have started unplugging appliances that don’t need to be on all of the time, such as the coffee maker, and we change our thermostat settings daily so that it is colder while I’m sleeping, then as I’m waking up, I set it higher so that my hip doesn’t start hurting while I’m programming each morning.

There are more things that we can do, of course. We have a payment plan with our electric company set up in a way that electricity used after 9pm and before 9am costs less. Fortunately, my wife is a night owl, often going to bed as I’m waking up at 4am, so we can do dishes and clean laundry during the non-peak times. Another thing that I’m doing is changing my driving patterns to save on fuel, turning the radio down, and making certain that I turn the headlights off as soon as I don’t need them. In the summer, I’ll also be switching between using the air-conditioner and rolling my windows down, depending on the speed I’m driving at. (Apparently, due to wind drag, it is more fuel efficient to open windows when driving below 45mph, and more efficient to run the A/C when driving above 45mph. I wish I had the time and money to find the ’sweet spot’ for my car.)

The final expense to remove is impulse shopping. The new rule in the house is, if it isn’t on the list, it doesn’t get bought. We haven’t followed that rule perfectly yet, but I am getting more strict about it. We haven’t written a list that included everything we needed for each meal yet, but the next time we go shopping, I will be asking my wife to triple-check the list. If an item we want to buy is not a necessity (such as food or toiletries), we sleep on it after putting it on the list.

First Goal: Emergency Savings

All of this budgeting and cutting expenses leads directly to the first goal: get a savings of at least $1,000.

Long Term Plan

In the pursuit of creating a clear budget and cutting expenses, there are a few tricks that help with the psychology behind money. The first two are a bit contradictory from an outside perspective: Pay Yourself First, and Pay Your Debts First. The second trick helps to add psychological weight to money: Don’t Use the Card. Finally, there is a plan for making a passive income: Gain Assets, Not Liabilities.

Pay Yourself First

People who abide by this rule have very specific reasoning: If you pay everybody else first, there will be nothing left for you. If you pay yourself first, and you find that you’re short on paying someone else, it adds motivation to get more money.

That’s all well and good… In fact, it’s absolutely wonderful. Unfortunately, I’m not motivated by stress… I avoid stress. If I followed this rule to the letter and found that I couldn’t pay a bill, I’d avoid paying the bill. Obviously this strategy isn’t good for me, in the most strict interpretation.

Pay Your Debts First

This is the ’safe’ way to handle your finances. It is also what ensures that most people remain wage slaves, because they’re not investing in themselves, creating passive income. With my methods of dealing with stress, though, using this method will most certainly keep me out of trouble.

Drop the Card

Paying with a debit card is a great thing… It allows you to forget about cash entirely when making a purchase. Instead of fumbling around while counting bills, you can just pull out a little plastic card, hit a few buttons, and the computer tells you if you can walk out with your purchase. Each time you make a purchase, the card stays the same… The only thing that changes is some magical number stored in a computer a few states away.

Boy that sure has hurt me in the past. When I make a debit card purchase, often times I don’t know how much money I have available, and I’m quietly crossing my fingers hoping that the transaction will go through.

People who follow this rule believe that by paying things directly by cash, we add emotional weight to the money… We can see exactly how much we’re paying, because we’re counting the bills out and handing them over directly. Instead of being tied to some magical number that probably isn’t up to date, we can count exactly how many bills we have, and know exactly how large those bills are.

Gain Assets, Not Liabilities

First, here’s a pop quiz: What is your biggest asset?

For you homeowners, if you listed your house, you’re wrong.

For those of you who rent your living space but own a car, if you answered your car, you’re wrong.

Cars and houses aren’t assets, they’re liabilities. Yes, bank lenders will call them assets in an attempt to raise your loan amount (which, with compounding interest, is just as dangerous as raising the interest rate), but an asset is something that makes money for you all of the time, not just when you sell it.

For those non-materialists who said your brain or body… well, you’re close, but objectively you’re incorrect.

For me personally, my largest asset is my job. Hopefully I can replace this asset with other assets as I gain a more firm handle on my finances. My blog is currently a liability that is growing into an asset… although I expect that I’ll have to get two Adsense checks before that threshold is crossed.

The best assets are stocks, index funds, or really anything that grows according to compound interest, as long as that interest out-performs the inflation rate (which is also compounding, if nobody noticed), or the highest interest rate of any of your debts.

Why isn’t your house an asset? Well, because you not only have to pay to own it (and if you have a mortgage, you’ll have to pay for the house at least twice), but you also have to pay to maintain it. Repairs cost money. Improvements cost money. Electricity costs money. Water costs money. Even if the value of your home quadruples, by the time you sell the house, the chances are high that you will still have paid more into the home than you’ll ever receive from selling.

The same goes for cars, except that the value of a car doesn’t start going up for 60+ years.

Of course, homes and cars are necessities… Go buy them… Just remember that they’re not assets any more than food is an asset.

The Compromise, My Proposed Solution

So, I have listed two conflicting ways of managing the money that we have, a way to increase our subjective value of money, and a guideline on how to gain more money in the future. I’m sure everyone is waiting for me to just get to the point already and list my plan so that they can tell me how wrong I am and how much better their own plan is.

Oh, and please do tell me how wrong I am. I’d rather be right tomorrow than right today.

The plan is to combine the conflicting schools of managing money. I’ll pay myself and my bills at the same time.

First, we’ll have two budgeting modes: Emergency and Normal.

The only difference between emergency and normal budgeting modes will be how many luxuries we budget for and how tight we are on energy consumption.

We will start out in emergency budgeting mode until the following criteria are met:

• We have $1,000 in liquid emergency money
• We have one month’s income in a savings account (a “ready” account)
• We have enough money at the beginning of the month that is not in either the emergency or ready account to cover our entire budget.

I currently have two checking and two savings accounts. One pair of checking and savings we rarely use, but it has the most world-wide availability of funds, since that bank doesn’t have physical branches and is geared towards serving members of the military. The other is an international big-chain bank, and their ATMs are everywhere in Phoenix.

The plan is to deposit all of my checks into the savings account of the least-used bank. At the beginning of the new month, I will withdraw one month’s income worth, and put parts of it into the two different checking accounts. One bank gives me rewards for using my debit card as a credit card. In this case, I’ll put the money earmarked for bills that I can pay online into that account, since I’ll earn a few extra dollars this way. I will then figure out how much cash I will need to spend (for purchases such as fuel for the car and groceries) and put it into the bank that doesn’t give rewards. I will take the remaining money and put it directly into the savings account of the most-used bank. (Got all that? LU (Lease Used) Savings stores my income… First of month, cash for bills goes into LU checking, cash for unavoidable cash expenses goes into MU (Most Used) Checking, and the rest goes into MU Savings.)

The next step of the plan happens on a weekly basis: On Saturday morning, we’ll figure out our weekly budget, then go to the bank and withdraw cash directly. We’ll stick our money into separate envelopes, each labeled for the expense they’re going towards. I.e., to groceries, gas, cigarettes, etc.

If we run out of cold, hard money for one category, then we do without… except for fuel, of course, which would count as an emergency expense. We simply stop using our cards, except for true emergencies. If we do have to dip into the emergency fund, then of course we go back into emergency budgeting mode.

Finally, all of the money that was put into the so-far barely mentioned “MU” savings account will go into investments. This is the part where the key to wealth is to buy assets, not liabilities. My first choice will be an index fund, and the goal for that fund will be to have three months worth of my current income. This would be the first account I would liquidate if I ran out of emergency money, but is also the first to build once I have enough emergency money.

Next, after the index fund is filled, I will open an IRA. The great thing about IRAs is that money you deposit into them, up to a certain point, gets refunded back to you when you get your tax return. Each time I get such a tax return, I’ll immediately deposit it into the IRA, guaranteeing that the IRA will grow with a minimum initial investment. It becomes, literally, free money, if you can ignore that you have to pay the taxes in the first place.

Finally, I’ll get bold: I’ll trade on the open market.

Well, actually, I’ll just buy on the open market. I won’t sell. Selling is for people afraid of risk, and once I have an emergency savings account going, an emergency index fund, and my IRA earning maximum returns, I won’t have anything to fear from the risk of the market. Plus, people who sell when they see a recession coming often completely miss the biggest growth days as well, which drops their true growth by a quarter… and more once you figure in fees and taxes.

One thing to remember: There is no difference in how I’m splitting up the money while I’m in emergency budgeting mode, except for how much I’m budgeting for luxuries. I am not considering my stock fund to be a luxury, so it will begin growing from day one.

And, any leftover money from the end of the month will be shoveled into the stock fund as well… so I’m paying everybody (including myself) first, then paying myself again last.

I’m also remembering (and trying not to rely on) a little problem with getting paid by the hour versus paying bills by the month. That is, people with hourly wages get paid either every week or every two weeks. There are (slightly more than) 52 weeks in a year, and there are (slightly more than) 4 weeks in a month. If we consider that an income month is 4 weeks long, but a billing month is one calendar month long, we can see a little problem: There are 13 income months per year, but only 12 billing months in the same period.

This means that, even with my current monthly budget surplus of $47, instead of my total yearly surplus being $564, it will be $3264, if my worst expectations come true and I’m unable to deviate from the budget I listed above.

If I could stop my impulse buying cold, but did absolutely nothing to decrease my other expenses, then in one year, I would be out of the ‘emergency budget’ range. In less than four years, I would be socking away free money into an IRA account and will be trying my hand at buying stocks on the open market.

February may be a short month, and not the best one to start a financial experiment with, but if I can see positive gains in such a bad month, then I can only imagine how good things would look after going through a long month.

Here’s to a new thirty day trial that will hopefully lead to a lifetime of financial peace!

Also, for those keeping track of my 30 day trials, I’m starting another new one today: Exercising daily. I plan to alternate between riding an exercise bike and using a weight set every other day.

Link Love

I really wish that I could send some link love to Jennifer Lynn of Broke-Ass Student, but she hasn’t updated for nearly half a year, so I’m not sure if sending visitors her way would actually be a benefit to her. It is a shame, since her site covers so many topics that are excellent for further reading.

Instead, I’ll link to a site that probably doesn’t care one bit if a small-time blog like my own links to them. Fool.com. Their articles have raised a few hackles in the financial community, and they definitely have a sensationalism based marketing technique, but after digging past the hype, it turns out to be an excellent resource for both people wanting to learn about stocks as well as for people wanting to research new ones.

This entry was posted on Wednesday, January 30th, 2008 at 3:58 pm and is filed under Personal Finances. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.