Necessities vs. Luxuries

The only way to manage your expenses is to realize what are necessities and what are luxuries. For necessities, all you need is shelter, food, clothes, and some bathroom products.

Shelter means a roof over your head in a safe neighborhood, not a nice condo in a nice area next to your work. Food can be as minimal as rice, beans, some fruits and veggies, and the occasional meat. Clothes means a couple of outfits for work and something to keep you decent in other times. And, bathroom products are your basic shampoo, soap, toothpaste, etc.

If you are spending money on anything else, you are spending money on a luxury. I'm not saying that you should never buy clothes again or eat rice everyday. What I am saying is that if you are in credit card debt, cannot understand how you could possibly squeeze any money from your budget for retirement, or are living paycheck-to-paycheck and are spending money on luxuries, then you have no excuses as you are able to make a change and be able to save up an emergency fund, funds for retirement, and finally money for something fun.

Everyone gives excuses as to why they are buying 'luxuries' and why they are 'necessities.' I've said that the reason why I pay for a downtown apartment is because having a car would be more expensive. However, I've lived in the suburbs before and have taken a bus. I just don't want to get back on the bus even though I would save hundreds of dollars a months.

I've heard people say that they use coupons and, therefore, the ready made food is cheaper. However, unless you are like the people on Extreme Couponing, you are probably still paying more. The way to know is to see what is the average price per pound for veggies, rice, meat, etc. I've found that using $1/lbs of food is pretty accurate if you stay to the meat on sale, whole chickens, and chicken drumsticks. Therefore, if a 16oz package of a ready made meal costs $2, I know I'm paying double for the convenience.

For clothes, people use the excuse of their work to shop. However, after you have a few work outfits, you really don't need many more. See if you can remember when your coworkers wore the same thing as they are wearing today. Most likely, you will not be able to answer that question or guess if they own 5 shirts or 20. If you can't remember their wardrobe, most likely they can't remember yours either.

Bathroom products can be expensive, however, if they are bought on sale, they can cost next to nothing. The trick is not to be brand specific, which is a downfall of many. Try out the shampoo on sale and you will most likely not notice the difference.

Just remember to ask yourself next time you shop if you are buying a luxury or a necessity.

Debt and Savings

If you have debt, you are probably aggressively paying it off, or should be. If you follow the Dave Ramsey Plan (or a version thereof as I still believe in high interest loans should be paid first), you will try to pay everything off before you save money for an emergency fund or in your retirement fund.

If you have student loan debt that will be dismissed after a certain amount of years because you work for a non-profit, for example, you might not want to pay off the loans quicker than you should.

In my case, it mathematically works out better if I pay the minimum on the loan that has capitalized interest because the principal and the interest is currently tax deductible. Therefore, I'm not in a rush to pay that off until the capitalized interest is paid off.

For me and the people whose loans will get dismissed, a savings account valued at the same amount as the student loan is necessary to feel the debt freedom that everyone should want to experience. This way, if something happens - you quit working for the non-profit, decide to move, etc., you have the freedom to pay off the loan in full and be debt-free.

Financial Clean-Up

If you haven't done so already, now is a great time to get your finances in order. Taxes are done; it's a fresh financial year. Now is a good time to start making folders for 2011 taxes: one for receipts, one for paycheck stubs, one for interest payments you make on your mortgage or student loans, etc.

If you start organizing now, taxes will be a breeze in April, or maybe you will be so organized that you can do your taxes in January and get it over with.

Now is also a good time to make some long and short term financial goals.

Here are mine:

1. Continue to contribute 15% towards retirement through 401(k) and IRA
2. Pay extra on my student loans, but just enough extra that I only pay $2,500 in interest in 2011
3. Have an emergency fund of 6 months that I don't have to touch because I have enough in checking as well (recently I pulled some money out because I had a family medical emergency, a car accident, and I want to prepay some rent to negotiate the rent down)
4. Start saving money on the side to pay off my private student loan in 2013 (as discussed in a previous post, my whole payment is currently interest because I am only paying capitalized interest and after doing some math, it works out better if I only pay $2,500/per year in interest for the tax deduction and then pay off my loan in full in 2013, when I won't be able to rack up the $2,500 in student interest payments for the tax deduction) - I would like to see $3,000 in this account by Dec 31st, 2011
5. Get a raise of around 13% from my current salary by April 2012 - currently supposed to get a raise at the end of May and then again in April
6. And of course, be able to take all my vacation days by going somewhere, buy Christmas presents for the family, and spoil my nephew-to-be

Excel Templates

I just discovered a great way to have your own financial calculators that you can modify. For example, recently I have been struggling with the fact that I am paying off capitalized interest on my private student loan, which means that the whole payment is currently tax deductible. I had two options: pay off an extra $300/month on that loan or save that $300/month in a savings account.

Mathematically, it turns out that I should save $300/month in a savings account for the first 2 years and then pay off my student loan with those savings in the third year after I have paid off my capitalized interest. There is no way to run an amortization schedule where you can change the payment amount after 24 months and add a lump sump payment in the beginning of the third year. However, that and more can be done with Excel Templates.

I also like the fact that in an Excel template, you can save the worksheet and return to it when you feel like it. If you were to use the BankRate amortization schedule, for example, then you would have to reenter your data each time you wanted to change up your payment.

Excel templates offer amortization of payments, monthly and yearly budgets, expense trackers, net worth analyzers, gas and mileage logs, etc. New templates are added by users, so new ones can sprout up any time. Modify any of the templates to meet your specific needs.

Personal Finance iPhone Apps

After reviewing the apps for a months or so, here is my list of the useful personal finance iPhone apps:

1. Mint.com - see what happens to all of your money
2. All your banks such as Chase, which even allows you to take a picture of your check to deposit instead of visiting an actual branch or an atm
3. PayPal - Monitor your account and send money to friends easily
4. Investment accounts such as ShareBuilder to monitor your holdings
5. Zillow.com - useful if you are looking to rent or buy or are just interested in the prices of the houses around your location
6. LoanCalc - See how much sooner you will payoff any loan if you increase your minimum payment
7. Pay Off Debt Lite - See what percentage of your debt you have paid so far since the beginning to motivate you to pay more
8. Credit Card accounts such as Amex to allow yourself to pay your bills from your phone
9. ScoreAdvice - See what you can do with your credit score to improve it
10. Ask Dave - Although I don't always agree with what he says, he does have some good advice, this is an app with clips of his radio show
11. NPR News - the Money Matters radio program releases some great shows on personal finances
12. Local stores such as Walgreen's app to see what's on sale this week
13. Daily deal apps such as Groupon to see the deals of the day
14. News websites such as CNN money to keep up with the current personal finance news
15. Coupon Sherpa - coupons for retail stores near you, although coupons seem to be available for only a few stores
16. GasBuddy - will help you find the cheapest gas near you
17. Kayak - to find the best travel deals
18. Around me deal apps such as AAA Discounts (must have AAA membership) state discounts available using your current location
19. Bar code scanners such as ShopSavvy will help you find the best deal online or in stores
20. Key Ring - if you forget your loyalty card, you can scan the card on your Key Ring app instead
21. Check-in apps like Yelp that allow you to check in to a restaurant or a shop and  receive a discount or a freebie

If you have other personal favorites, let us know in the comments.

Suze Orman Expense Sheet - Budget and Emergency Fund Planner

Another great budgeting tool is on the Suze Orman's website, Suze Orman's Expense Sheet. You enter your emergency fund amount and break down how much you spend each month by category. Then, Suze lets you know what your essential expenses are and based on that how large your 8 months emergency fund should be.

If a budgeting category is off from the national average, the cell will highlight yellow and by hovering over the cell, you can see what the national average is. If you are spending less, that's great. However, if you are spending more than the national average on a category, you should reconsider that expense even if you have an above average income.

At the end of the process that takes 2 minutes, Suze will tell you to beef up your emergency fund if you do not have 8 months of essential expenses. If your emergency fund fits the bill, she'll say that you should aggressively pay down any debt.

NetWorth IQ

There are several ways to track your net worth. The most convenient for me, has thus far been Mint.com because it does everything automatically. However, another way to track your net worth is through NetWorth IQ. Here are it's advantages and disadvantages.

Disadvantages:

1. You must manually enter all your data
2. All other people's data is manually entered as well and might not be accurate for comparison
3. You must enter your data every month to see the progress

Advantages:

1. You can track your net worth with a graph
2. You can see the percentage change in each category
3. You can make your net worth public so other people can comment on your progress
4. Making your net worth public might motivate you to get that number up
5. You do not need to give out personal login information
6. You can compare your net worth to others your age, or in your occupation, for example
7. You can also compare each category such as student loan debt, credit card debt, or retirement assets to others in your demographic groups

The Liz Weston Budget

Budgeting is always in question. I've written a post on budgeting earlier, please see Budgets. However, it's always great to see other opinions as well. Liz Weston is a supporter of the 50/30/20 budget.

This means that 50% of the budget should go to your needs such as shelter, food, transportation, minimums on debts, and utilities. I think 50% for needs is great because in case of a job loss, you can easily survive on half of your income by working part time.

30% of your income should go on wants like clothing, entertainment, and dining out. This is perfect, however, for those who are saddled in debt or are behind on retirement savings, this is a little too much. I would spend half of this on debt repayment or catch up contributions, if I had excessive debt or were behind on saving. If, for example, someone does not have an emergency fund, they should not go out and spend 30% of their money on things they want, but do not need.

20% of your money should go to savings and debt repayment. I think you should be saving a minimum of 15% for retirement per year, therefore, leaving you with 5% for debt repayment. 5% is unrealistic if you have a lot of debt.

Therefore, this is a great budget to follow when you have a fully funded emergency fund, you are on track for retirement, and you have a low debt ratio. I would consider a low debt ration to be below 10% of your take home pay or even lower.

Kiplinger - Archives

Yesterday, I was looking through the Kiplinger magazine archives on Google Books. They have full online issues of magazines starting from 1947. Personal advise has obviously changed since then, especially since now we have more complicated products such as IRAs and ARM mortgages.

Here are some things that I found interesting.

Mortgages:

• Feb 1957 - When you borrow for a mortgage, make sure that you borrow reasonable amounts. A safe amount for a monthly payment on a mortgage is no more than 25.6% of your take home pay. You are probably okay with 28.8% of your take home pay. If the mortgage is over 33.2% of your income, you are going into the risky territory. The higher your income, the less mortgage that you should take out as it will be harder to maintain in time of a job loss.
• Feb 1957 - If your rent is 15% of your take home pay, you are either economizing or getting a break. If your rent is 25% or more of your take home pay, you are stretching it. Mortgages can be a higher percentage of your income as you will keep the home after it is paid off.
• Sept 1961 - The government approved 40 year mortgages. The article strongly advises against them as it would take you 29 years on a $12,000 mortgage at 5.5% to reach the tipping point, which the article describes as your loan being worth as much as the house. This example does not include a down payment. Graphs that were used clearly demonstrated that 15 year mortgages were the way to go as it saves a ton in interest costs. In fact, the magazine was trying to show that, due to interest, your monthly payments would only be slightly lower in a 40 year mortgage than in a 15 year mortgage. I did the math and the payments were $98.05 for a 15 year mortgage and $61.89 was for a 40 year mortgage. Doesn't seem like a large difference to us now, but the 15 year mortgage payment is more than a 1/3 higher. However, the magazine showed the difference per dollar borrowed, emphasizing that the difference is not that great.
• Mar 1964 - The average down payment declined from 28.4% to 24.5% in a year. The average mortgage term went from 19.7 years to 24.5 years in the same year. Please note that the average down payment was more than 20% in either case.

Student loans:

• Jul 1958 - First student loans are discussed. The loans have a 36 months term at 4.5%. Students are borrowing a few hundred dollars a year.
• Apr 1964 - 72 month terms for school are discussed.

There is much more information in those magazines. It is also interesting to see how, through the history, the down payments became smaller, the loan terms became longer, more types of loans became available such as personal loans and credit cards, and those other types of loans became more popular.

Money in your 20's

Money management skills should be learned as early as possible and the 20's is a great place to start. Here are 10 financial projects you should take on in your 20's:

1. Learn to live on less than you make. Many people who find their first job, go all out with a new wardrobe, a new car, decorations for the new apartment, etc. Control your spending and only spend what you can afford with the money you have. See the Cash Flow blog post to see how you can see your cash flow with ease.
2. Start saving. Use the budget worksheet to see where you are overspending if you are unable to spend 15% of your take home pay. If you have large student loan payments, try to cut down in all areas to free up some space for savings, even if it's $5/month.
3. If your company offers a 401(k) match, start putting in the minimum amount you have to put in to get the full match.
4. Build an emergency fund in a high interest savings account.
5. Maintain a good credit score. Make sure you are never late. Automating your bills is an easy way to make sure of this.
6. Pay down on your student loan or any other debt with any extra funds that you have. If you receive a gift, a tax refund, or a bonus, try to apply it directly to your debt. See the Debt Pay Off Methods to see how you want to tackle your debt. See how even $5 per month extra will make a difference in your debt by using the Bankrate Amortization Calculator.
7. Save for retirement. Starting early is one of the best things you can do. Use a retirement calculator to see how much you should save. Start small if you can't contribute the full amount you are advised and increase your contributions yearly.
8. Designate separate savings accounts for various goals. Retirement should be saved in a 401(k) and an IRA. You should also have separate savings accounts for an emergency fund, grad school, vacation, car, down payment, etc. You can save in each account simultaneously or take it one step at a time and once your emergency fund is full, save for a vacation, once you have enough in that account, you can save for grad school and a car, etc.
9. Get health insurance. One accident can ruin all of your plans. 
10. Earn more money. Ask for a raise at the annual review or find a job that will pay you 15%-20% more and present the offer to the current employer. Be ready to leave for the new job if the offer isn't matched.

Student (or any other) Loans

You have a large student (or any other loan) looming over your head and you want to know how to pay that off. Look at the Bank Rate Amortization Schedule to determine what you need to add every month to pay the loan off sooner.

As an example, let's take the left overs of my private loan of $11,676 at 164 months, 6.25% interest. Select the mortgage start date to be the due date of your loan and the last month you paid it on. I am selecting Feb 24th. The calculated monthly payment is $106.05 (which is a few cents off my actual minimum payment). My pay off date is Oct. 24th 2024. If I double my payment to $212.10, my pay off date changes to Aug 24th 2016. That is in 5 years instead of 13.

You can play around with the numbers to see how much extra money you have left in the budget to see how much extra you can pay towards your loan and what is the difference that it will make on the life of your loan. I am planning to add $200 to my monthly payments, which allows my loan to be paid off in 3 years instead of 13. I am going to pay $1,374.99 in interest vs. $5,716.64 if I kept paying the regular payment amounts. This is a saving of $4,341.65.

Many people say that you should not pay off your student loans any sooner than you have to due to the tax deductible interest. If those experts can prove that I will gain a tax break of $4,341.65, then I will change my strategy and stop paying extra on my loan. However, I don't think they can. I paid $1,427.37 on this loan in interest last year, which, at 15% tax rate, means I saved $214.11 in taxes. If I save this much every year, which I won't, as the interest you pay decreases every year, then I will save $2,783.37 in taxes over the next 13 years. This number is lower than what I can save in interest if I make the extra payments and I will have a tax break for the next 3 years as I pay this loan down.

The only factor that might change this number is when I move to the 25% tax bracket. If I moved to the 25% tax bracket starting next year, I would save $4,638.95 in taxes, which is more than the savings in interest, however, remember that the interest you pay will significantly lower as the years go on, and, therefore, you would still be saving less in taxes than in the interest. Also, this assumes that I will be moving to that tax bracket this year.  Also, this calculation does not account for what interest I could be earning on the extra $306.05/month that I would have freed up starting in year 4.

Bottom line - you save more by paying down your debt earlier than you do in tax breaks from paying the interest.

Mint Goals

As a grad, you probably have student loan debt. Mint.com just released a new goal "Pay Off Your Loans." Go to Mint.com, choose the loan you would like to pay and adjust the slider bar to see how much you have to pay each month to pay off your student loan in a certain amount of years. This is great as it tells you how much interest you will be saving as well, which should serve as a motivator.

Pay off private student loans off first especially if they have been co-signed. However, if the interest on your federal loans is 7.9% and your private loans are at 3%, you might have to think about the value of money you will be losing when paying off the low interest loan. My interest rates are the same for private and federal and, therefore, I'm setting up to pay off the private loans in 5 years instead of 13.5 by doubling my payments.

Student Loans - Is It Really Good Debt?

Student loans are the major burden for a recent graduate. It is usually talked about as 'good debt.' Good debt is usually a mortgage, student loans, or a business loan. All of these loans will help you increase your net worth in the future, theoretically. 'Bad debt' is consumer debt that is acquired by buying things.

So, technically student debt is good debt as your education will help you earn more money in the future. However, as a lot of students are doing, if you have taken out private student loans and paid much of the college bill through loans, you've probably borrowed too much. I borrowed a private student loan only in my first year for $9,000 due to a change in circumstances. I could have borrowed less, as I used left overs from the loan (which was around $1,500 per semester) to live a better life, travel a bit more, etc. I thought that the value of $1,500 was much more to me in college, than it would be while I was working. I did not consider interest. However, if I were to to do this again, I would have done exactly the same thing as I still believe that the private education I received is better than what I would have received going to a much cheaper college. I also believe that being able to travel every break (as I also received about $1,500 refund from the government loans in the last 3 years) has taught me more about the world.

However, the only reason I would do this again is because I ended up graduating with around $26K in student loans in total from a private liberal arts college with tuition of $45K per year. Half of it was federal subsidized loans and the other half was the private student loan that grew to $13K due to interest. Supposedly, if you take out about the same as your first year's salary after college, then you will be able to pay it back at the terms set by the lender. Of course there are programs such as IBR, however, you should aim to pay the least amount in interest. So far, I have not had trouble paying back my loans and I am aiming to have them paid off in 5 years or so.

Imagine you have $100K in private student loans, your monthly payment would be $1,150 with 10 year terms at 6.8% interest as calculated with the FINAID Student Loan Calculator. If you were making $27,600 a year, you would be spending 1/2 of your gross salary on your loans. That is unsustainable. Therefore, these kind of student loans are toxic or bad debt. If you had to pay $25K per year at the school you chose, you chose the wrong school.

Private loans usually means that you have borrowed all you could from the government, therefore, you are taking out loans that the government does not think you can afford. Consider that. Also, consider that student loans can pretty much never be dismissed in bankruptcy. There is only a small chance of dismissal if it is your second bankruptcy and you have included your student loans in the first bankruptcy. Also, private student loans do not usually have a fixed interest rate, therefore, if your credit goes down and the LIBOR goes up, your interest rate could sky rocket. Mine was at over 12% at one point when I had no credit history. You usually have to get a co-signer and you have no control over their credit score. Also, if you are unable to pay the loan, they are liable. This could ruin relationships and two sets of credit scores.

There are so many things wrong with private student loans and, therefore, I do not consider them to be good debt. I'm trying to get rid of the $11K I have left as quickly as possible.

Financial Goals

The whole point of learning and keeping up with your finances is to attain our financial goals. What are your financial goals.

Here are some examples of goals:

1. Save X amount in an emergency fund
2. Save X amount of months of expenses/salary in an emergency fund
3. Save X amount for retirement this year
4. Save X% of each paycheck for retirement this year
5. Max out your IRA
6. Pay down my student loan in X amount of years
7. Pay double the minimum on my debt
8. Save for a vacation
9. Save for graduate school
10. Save for a down payment
11. Buy a car with cash

What are you saving/hoping for?  Whatever it is, my favorite tool to keep an easy track of your savings and goals is to open up a high yielding savings account (see my earlier post where to find one), and set up a goal in Mint (see an earlier post about this website as well). You can set up multiple goals as long as you have a different account for each goal and keep track of your progress. Mint will tell you if you are on track, behind, or ahead on your goals and the amount of time it will take you to reach them.

Upromise

Upromise started off just for Sallie Mae Student Loan customers to reduce their loan amounts. The way it works is: if you ever shop online on sites such as eBay, Travelocity, OfficeDepot, etc., then you can earn a percentage of your purchases. By searching for a retailer you want to shop at through the Upromise site, and clicking on the link to redirect you to your retailer, you earn a percentage of each purchase into your Upromise account.

In the past, you were only able to deposit those funds against your student loans. However, now you may also receive a check or deposit it into your Sallie Mae Bank account. If you deposit it into the Sallie Mae bank account (currently earning 1.25% interest), you are also eligible to receive 10% of your Upromise earnings at the end of the year as a bonus.

There are many ways to earn money in your Upromise amount. In addition to earning a percentages of your purchases online, you may also earn extra Upromise cash by using a registered credit card at participating restaurants. You could also join e-Rewards and redeem the money you earn by filling out surveys for Upromise cash. Many companies also award a dollar amount for joining or trying their services. For example, ServiceMagic pays $4 for getting a quote for any services you may need around the house.

Therefore, Upromise is a great deal. If you shop online anyway, you should sign up and get your friends and relatives to sign up and add you as the beneficiary.

Debt Pay-Off Methods

Here are the two most popular debt pay-off methods:

Debt Snowball

• How - You pay the minimum payment on all your cards/loans, except the loan with the smallest balance on card A. Once that is paid off, you apply whatever you were paying on card A to the next card with the smallest balance, let's call it card B. This payment will be in addition to the minimum that you are already paying on card B. The idea is that you get a psychological high from paying off one of your cards and your payments on the main card at the time increase as you continue to pay off card after card.
• Pros - You get the psychological benefit of seeing some debts disappear.
• Cons - You must have a lot of cards with varying unpaid balances. This is usually not the best way to save on the interest costs. 

Highest Interest First

• How - Pay as much as you can on the card/loan that has the highest interest. Once that loan is paid off, pay the balance with the next highest interest off and so on.
• Pros - Mathematically, you save the most in interest by attacking the highest interest account first.
• Cons - You must be dedicated to paying off your debt even if you do not see great results consistently.

I want to get out of debt as quickly as possible, so I like the Highest Interest First method. However, my two student loans are both at 6.25%, therefore, I am paying more on the private student loan as it has a variable rate and could go up. Also, this student loan was co-signed by a friend, therefore, I feel obligated to pay this one off first. Therefore, even if the private student loan had a lower rate, I feel that I would pay it off first as there are other factors to consider other than your psychological motivation and largest savings in interest.