Budgets, Spending Plans and Other Scary Things

Most people I know love and hate to talk about money. They love to talk about spending money, i.e., have you seen my new 100 inch flat screen TV, and they hate to talk about budgets. This "budget trepidation" is indicative of both one's history with money and current fear of change.

Was your family the one that always had the new car, new pool, new bikes or new boat? Then you probably have what I call a "spending disposition". This is not necessarily a bad thing. You are the type of person that keeps our economy going. Your impulses can be bad if you cannot control your "spend impulse" even when you don't have enough money. One result is a lot of credit card debt and another is a looming financial meltdown.

Another family legacy is the "hoarding disposition". This tendency is bred by a tendency to talk about money as something to be kept, controlled and tracked to the penny. "Money doesn't grow on trees" and "We can't afford that" are common phrases heard in this type of home. A family doesn't have to be poor to have a hoarder profile. A family of any income level can feel like they don't ever have enough for what they want to do.

Both spenders and hoarders are reticent to put their behaviors under the microscope of a budget analysis because they might see something that would force them to change. Most people don't like change but it is even harder for someone with family-bred behavioral tendencies. So what we need to do is to change how we think and talk about money.

Healthy families

The current solution to what we might call "budget trepidation" is to call a budget a spending plan. This way we can think about the process as giving us the freedom to spend wisely, not restrict our spending painfully. And this is where we begin - at our spending. It is quite impossible to start a spending plan anywhere else of course but it is in tracking our spending that we not only see how much we spend and where we spend it, but also notice what our spending hang-ups are. What I mean by "spending hang-ups" is that none of us is so unaware that we don't know where our money goes; we all have an idea where we can cut back - we just don't want too.

So begin by writing down every dollar you spend for a month. YES - EVERY DOLLAR. Then review your check book for the past year and see what yearly expenses you have - insurance premiums, vacations, Christmas spending etc... Divide all annual expenses by 12 and add your monthly expenses to them.

Now before we compare this monthly spending amount to your monthly income we must do one more thing - determine what we are not spending our money on that we should. This has to do with our financial goals. Setting financial goals is really the only thing that can keep us from over- or under-spending. Nobody can shame us into spending less (or more) if we have our own agenda guiding our financial ship. Listed below are some areas in which goals are needed:

• Retirement (start with the end in mind)
  
• Kids education (not everyone should save for this but you may want to)
• Housing (first house or vacation house)
• Lifestyle (what luxuries don't you want to live without)

After setting some financial goals you need to look back at your spending and see if it lines up with reaching your goals. If it does then you are in good shape. If you are not saving enough to reach the goals then you need to estimate how much more you need to save and add it to your spending.

Next is the time of reckoning. Do you spend less than you save? If yes-Whoo Hoo! If not then we have to look at your options. The first option is to make more money. Don't let those bad budget nightmares fool you into thinking your only option is cut back so much that it hurts. If you can work more hours, sell an asset, start a home based business or even shift around your spending to save on taxes. If that doesn't work try to cut back some AND make more money.

Once you get your income and spending balanced it is time to think about actually forming your spending plan to stay there. More on that next time....

A Plan for Late Bloomers - $10,000/mth in Retirement

In my last post we determined that I would need at least $115,930.25 per year or $9,661 per month in retirement to fund the lifestyle that I want. Does this seem daunting to you? Good! Now lets make it harder. Let's round these numbers up to $10,000/mth and start the plan at age 40 with $0 invested for retirement. The $10,000/mth isn't that bad but starting at 40 is ridiculously late to try to get $10,000 in passive income each month.

Here is one solution:

1. The first step that is necessary is to consider moving your "independence day" into the future a bit more. In the last post I mentioned that people will work in their 70's and 80's regularly in the future so we need to consider this.

• New "independence day" = Age 65. This means we still have 25 years to reach our goal.

2. Working 10 years longer means two things - One, our $10,000/mth needs to be adjusted upward because of inflation and two, you will almost have reached Social Security age. While inflation will always be there social security may not so lets be conservative again and just adjust our needs for inflation without counting on SS.

• If we originally needed $10,000/mth at age 55 we need to add in 10 years of inflation to get us to age 65. Remember the formula - 10,000 x 1.04^(10) = ~$14,000 /mth.

3. Now lets use some basic investment numbers and see where we end up. Essentially we want to figure out how much we need to save for each of the next 25 years in order to get $14,000 / mth. In order to get $14,000/mth or $168,000 / year we would need between 12 and 14 times that amount in investment income - about $2.2 million . Can we do it? Let's see.

4. There is a straight algebraic formula that we could use to figure out how much to invest but I like playing around on financial calculators better. The historic return for the U.S. stock market is 10-12%. Let's start with the conservative 10% return and plug in our 25 year goal. We also need to pick a starting point for how much to save - let's pick $10,000 per year to start.

5. Using the compound interest calculator at moneychimp.com use following numbers:

Inputs

Current Principal: $

Annual Addition: $

Years to grow:

Interest Rate: %

Compound interest time(s) annually

Results

Our result is a whopping $1.2 million dollars. Now this isn't the $2.2 million we were looking for but it is pretty good considering we started at age 40 with nothing.

6. If you play with the numbers on moneychimp.com a little bit you will see that there are several adjustment you can make to get to $2.2 million.

1. Raise your annual investment to $20,000
2. Increase your retirement date to 32 years
3. Increase your rate of return to 14%
4. Any moderation and combination of the above.

Now there are of course lots of drawbacks to taking $20,000/year out of your spendable income but you can always decide to work longer and accept a lower standard of living.

• Investing $10,000/year starting at 40 got us a $1.2 million nest egg that could produce $120,000 but that may not be that bad - worth about $35,000/yr in todays money.
• Invest $10,000/year for 30 years and you can earn $1.9 million or $190,000/year or $58, 580 in today's money.

Last but not least - If you are still reeling from trying to figure out how to find $10,000 to invest each year, consider this: $10,000 today is only worth about $5,000 15 years from now. So halfway to your financial freedom target date you will be investing half what you are investing today due to inflation.

There is a lot of information to digest here but feel free to comment and I will respond. The next natural topic would be to figure our WHERE to invest your money so that you can earn 10% per year.

I'm broke, now what? - A basic financial plan

I was talking to my friend Adam the other day and he said that he liked the blog but what do you do when you are 30 and haven't even begun to prepare to think about the end, i.e. financial independence (FI). Ahhhh, good question.

My first response - don't sweat it. And my second response is - sweat it. The first response is based on the theory that God is ultimately in charge of taking care of us. In the Bible Jesus teaches us that it is much more important to focus on things that have eternal value than to worry about where our next meal will come from. Focusing on God, relationships and helping the poor are areas that would fit that bill.

The second response is based on the non-biblical but prudent advice that God helps those who help themselves. Financial independence is not about being rich but about giving you options as to what to do with your time. Full financial independence means that your assets (real estate, stocks, bonds, mutual funds, etc) are generating cash flow that fully supports your lifestyle. Every single retired person who doesn't work is fully financially independent. The question is - What type of lifestyle do you want to live?

As I mentioned before our ability to work into our 70's and 80's is increasing rapidly. Most people don't want to just sit around and watch TV. or go fishing. Some want to travel, some to start a consulting business and some to keep doing the same job albeit at a slower pace. The idea here is that you need to at least think about your goals and then make a rudimentary plan to reach them.

Step One: Decide what kind of life you want to live. This includes where you want to live, leisure activities, travel, etc. It also includes medical expenses, long term care and estate planning.

Step Two: Decide when you want to live this life. Essentially at what age do you want to have the cash flow from your assets to meet your lifestyle needs.

Step Three: Take a stab at how much your planned for lifestyle will cost at the time you want to be living it. There are a couple of ways to do this. One is to take your current lifestyle (if that is what you are aiming for) and estimate that it will take 50-90% of your current income to give you the same lifestyle in retirement depending on your lifestyle choices. It usually takes less due to reduced taxes, less mortgage debt and other work related expenses.

Step Four: If your financial independence day is far off into the future you also need to figure in inflation. Count the number of years until financial independence (FI), choose a reasonable inflation rate (too risky=2%, too safe=8%). I like to choose 4% in my models. Multiply your income needed monthly by 1.04^(# of years until financial independence)

Step Five: Determine what automatic income sources you will have at your FI age. This includes pensions and social security mostly.

Step Six: Subtract your automatic income sources from your projected monthly income need. The result is the amount of money that your investment income must produce.


Example:

Step One: I want to live a lifestyle that is better than my current one. I expect some salary growth as a teacher that will beat inflation and that in retirement I will want to travel and give away more money.

Step Two: I want my financial independence to come at age 55.

Step Three: I will base these numbers on 100% of my current income of $42,000 since I expect my income will rise over inflation and my lifestyle will increase (I will probably spring for cable someday and I have a long way to go on my goal of giving away $1 million).

Step Four: I have 25 years to secure an income that is worth $42,000 in the year 2032. Using my formula above 42000 x 1.04^(25) = $111,966 / 12 = $9331/month.

Step Five: I will have a pension that pays me 50% of the average of my final 3 years salary (that is why I am a teacher). Let’s estimate that at 50% of $108,000 or $54,000. I am not counting on Social Security for anything.

Step Six: $111,966 - $54,000 = $57,966 /12 = $4830 in investment income needed per month.

So this becomes my goal. In order to reach financial independence at age 55 my investments need to generate $57,966 per year or $4830 per month. That is my goal. For someone not as fortunate to be a teacher then your goal for my lifestyle is probably double -- $115,930.25 per year or $9,661 per month.

Next time we will talk about a plan to get there.

Leaving a Job

This blog is getting to sound too diary-ish so I will begin a series on straight money matters in the next post. Please send me an email or post a comment here if you have a topic you want me to cover.

Here are the ones I have gotten so far:
1. What do you do if you are 30 and have 50 dollars in the bank and no 401k?
2. How do I prepare a budget I can keep?
3. Where should I invest my money?
4. What is Social Investing and should you do it?

Today – How I left a good job.

Leaving a job is something that is very personal. Work is someplace that we spend a great deal of time both doing work and doing life. We make friends and share meals and celebrate birthdays, marriages and babies. If you are not careful the celebratory delectables will go straight to your waistline.

It is good to always be prepared to leave a job so here is some of "my sense";

• Financial planners say that it is good to have 3-6 mths worth of cash on hand for emergencies. Leaving a job is one of those emergencies. If you have this cash-wad the transition is much less painful.
• If possible start your job search while you are still employed. It is much easier to get a job when the desperation of not having one does not exist. Be careful not to use company time or resources (no printing out your resume at work). My personal ethics says its OK to use the computer and internet during lunch but a stricter ethics radar and the fact that your current employer can monitor all network activity may preclude this as well.
• Get the support of your spouse, family or other support circle. Not only can these folks invite you over to dinner but they form the basis of your best employment agency. Networking begins with your friends and family. Don't be embarrassed people love helping you. Don't you remember Uncle Bill and Aunt Maddy trying to "HELP" you connect to their bridge partners' kid.

Unfortunately there are many times when job seeking comes after a separation from your job. That was the case when I left Enterprise Rent-A-Car. At my job I didn't have time to even think about what I wanted to do let alone look for a job. The following are the steps I took to figure it all out. Just to make it clear--at this point in my life I had no direction whatsoever. I needed to do some soul searching.

• The first thing I did was to take a rest. I had been working mad hours for a year and a half and needed to breathe again. Luckily Aud and I had saved about 7,000 and Aud was working. We kept our monthly dates and out gym memberships but didn't do any extravagant traveling.

• The next thing I did was to take a course. I forget what the course was called but it was put on by a guy at church, Jim Vorberger, who developed some career search strategies while he was in the same boat I was. The course was my first entree into the world of finding a career that lined up with who God created me to be. I still didn't find it for a while but the course started me down that path.

• Another thing I did was stay active. I went to the gym at least once a day, lost some weight, did some temp work and started a home business. The latter was both an attempt to get my feet wet in the world of entrepreneurship and to have something productive to put on my resume. What I created was the "Senior card" program. I solicited Hamburg businesses to give a 10% discount to Senior citizens and advertise that fact in my booklet. I created a advertising booklet and distributed 1000 to the Senior Center, got a press release published in the local paper and even charged $20 to people who wanted the discount card after the initial 1000 were given out. I learned a lot about sales, marketing, advertising, computers and business in general. It was a big factor in getting my next job.

• The last thing I did was read a book called What Color is Your Parachute and take action on one of the books main lessons. The book was my first introduction into the idea of informational interviews. Essentially I started asking everyone I could think of to have lunch with me. Now here I am a 23 year old kid asking every executive I could get a hold of to have lunch with me. I met with Government liaisons, non-profit executives and every relative I could find. The great thing about these interviews is that I truly was not looking for a job, just some insight into what the executive could teach me and their guidance on what kind of job I would be good for and how to get it. This is how I got my job at the United Way. After getting some advice that I would probably like working for a non-profit I asked to have lunch with the executive director of Junior Achievement who said that working at the United Way would be a good first step. I asked if she knew anyone there, she called, I followed up and I was there for five years and loving it.

Take this Job and Give it to Someone Else

It is not uncommon for 20-somethings to change jobs. Moving up the career ladder, chasing a dream job at a start-up or just tiring of their current job are all reasons that prompt people to leave an employer. Since Americans are generally marrying and having kids later there is also less risk in leaving a job. In fact today companies even make it easier to leave with the replacement of pensions with primarily portable and employee funded 401k plans. Employees feel little attachment to employers beyond their current assignment.

None of these things really factored into my leaving my first job out of college, Enterprise Rent-A-Car. In fact some might say I didn't really HAVE a good reason. I was a year and a half into the job. I had been promoted twice, had a lot of responsibility and was making really good money for a 22 year-old. But alas I was not HAPPY.

As a honeymooner, married within the past year, I thought my wife and I should be blissful. That wasn't the case. Life together was hard. We were learning how to live together, pay bills together, cook and eat together and love together. It is no wonder people that cohabitate find it difficult to commit to marriage, it is HARD.

So what does all this have to do with my job? Everything and nothing. The job was decent but I just didn't have the passion for it. Amidst that troublesome first year of marriage I was expending myself on the job, climbing the career ladder and running the rat race. 50-55 hours a week on the job was very draining and I didn't have anything left to invest in what I WAS passionate about - Audrey.

It really is as simple as that. I didn't worry about the money. I didn't worry about the next job (I was unemployed for over a year) and I didn't really have a plan. All I knew is that if Audrey and I weren't right then the future was bleak. My Bible says to “enjoy the wife of my youth”. All I was doing to getting fat on all the good meals she was making, watching TV, going to sleep and going back to work. No Thank you.

Most people won't find themselves in this exact situation but I trust that everyone can find that one thing about their job that they said they would never compromise. My thing was time to invest in my marriage. What is yours? And more important, are you compromising?

Next time: Preparing to leave a job and what next

Getting a (work) Life - Part 2 - Why do I work here?

Have you ever asked yourself -Why do I work here? Money has few rivals in terms of its power to tempt us to achieve both good and bad in this life. Many people work where they work because they have built their lifestyle around the money they make. Many people begin careers in an area that they love. Kids who tinkered with legos become engineers, kids who were impacted by good teachers become teacher and kids who majored in gym never seem to get out. Many people, however, float along until they are stuck in some job that they took because they needed to start paying bills. This is not a fun place to be since we spend an awful lot of time at work - about 7.6 hours a day and even more considering time spent getting ready and commuting.

I was one of those people. As the first person in my family to go to college I had a very simple method of choosing where I would attend -- the best academic school that recruited me for football. Not bad but now what? Freshman year I was given many opportunities to explore the various academic departments. My program that year was actually called "Ventures in Human Sexuality". Good Morning sheltered freshmen! I considered cognitive science, computers but I eventually settled on political science. I really didn't have a career in mind although if you asked me I would have said, "FBI Agent".

After college I took the first job I was offered at Enterprise Rent-A-Car. After all I was getting married and needed to have some way of supporting my wife, Audrey, who was still in college. Enterprise is a great company and taught me a lot about business management but the choice did not emanate from my interests and passions. After two promotions and 1.5 years I decided I had to get out.

Looking back, the decision to leave Enterprise is the starting point for my mission to find work that I LOVE. It was one of the craziest, most difficult and greatest things Audrey and I could have done. It was crazy because I kept getting promoted and making more money. It was difficult because I didn't have a next step, let along a job or a career direction. It was great because it improved my marriage, led me to other jobs where I met great people and learned lots of new things and because the whole journey prepared me to do what I love - teach life to teenagers.

Next up: How and why I left Enterprise and what I did next

Getting a (work) Life - Part 1

Contrary to popular belief, when teenagers begin to think about their future careers they rarely think about how much money they will make. Some think about hiking to the Ozarks and living off the land, some want to be police officers, some teachers, some nurses, architects, etc. Students are really self-aware in that they understand their interests and passions. They also don't have any idea what barriers there are to living out their dreams including the fact that many of the careers they wish to pursue will not afford them the lifestyle they imagine.

Shouldn't it be this way for all of us? You think you will love doing something and you go do it. So what is stopping you? The first barrier sometimes mentioned is paying the bills. Sure, sure we all have bills but how many of those bills are just "keeping up with the Jones' " bills and how many are necessities.

Let's examine one of the biggest financial challenges we face as working people -- Preparing to retire. Some people want to retire early, some rich, some to maintain their lifestyle and some say the will work until the day they die. Consider a couple of easy ways to prepare for retiring.

1) Get out of college, find the first job you can that pays you $30,000, live on half of it for 3 years, and invest the other half. After taxes you might have $12,500 to invest each of those years. Then take any job you like because you never have to worry about investing heavily for retirement again because you will have over $2.7 million in retirement savings after 45 years with a 10% return.

2) The second way to take care of retirement is to invest a little bit every week for your entire working career. Say $250 per month for the same 45 years. In the end you get about $2.6 million for retirement.

What do both of these scenarios teach us? Start investing early and don't let financial barriers get in the way. All that is needed is a little sacrifice and discipline. In the first scenario we have to live on an austerity budget for 3 years to fund our retirement. Live like you were in college for 3 more measly years and you will have your retirement taken care of. Here is your monthly budget:

Food: $200 (my family of 4 eats on less than $400/ mth)
Rent: $350 (live with your parents but pay them rent, get a roomie, share utilities)
Clothes: $ 50 (you know you have enough clothes but the 50 bills is for work attire)
Auto: $200 (that beater you have will work fine, gas and insurance, get Geico)
College: $250 (time to pay the piper but maybe you were smart and went to state school)
Fun: $ 150 (this is purely a luxury and most will probably be needed to pay for misc. items)

Total $14,400 per year

In the second scenario your lifestyle is built around spending only what you have. The budget constraints are very minimal and hardly noticeable if you deduct the $250/mth right from your paycheck.

Discipline is the key here. Short term sacrifice. Long term perspective.

Next time: More on picking and/or changing careers. Some may be asking for investment tips but that comes after we find and follow our true vocational calling.

Making A Living Is Easy (if it weren't for the Jones family)

It is relatively easy to make a million dollars these days. After all a million dollars ain't what it used to be. What cost $1,000,000 in 1980 would have cost $2,677,633.83 in 2006. Today, one would need to strive to be a 3 millionaire if being "rich" is what you are after.

Let's say that is what you want to do. How do you get there? The average salary in 2004 was about $46,000 and if you earned that salary for a 45 year working career you would earn over $2,000,000. Say you invested just $200 each month over your career and earned 8% (long term average stock market investments earn %10-%12). After your 45 years you would have a million dollars in your investments. What's that add up to - over $3 million. but alas this tale is not yet done, for in the intervening years you needed to feed, to shelter, to clothe and to vacation your family. Hopefully you will also have shared your bounty with your favorite charities. And at the end of your working career you have spent it all except that $1,000,000 you have in investments. But as we know-A million dollars ain't what it used to be, especially 45 years from now. In fact we might even need to be a $9 millionaire.

So you're asking - I thought you said it was easy to be a millionaire. Yes, it is easy but staying one is really hard. Chasing money is tiring. It makes us work more, see our families less. It makes us eat worse and exercise less. It makes us more able but less willing to take a vacation and relax. And in the end all we have is a lousy million dollars or so. This is what is called the rat race. Running on that little rat treadmill going no where important.

Bottom line is that there are a few poor assumptions in our little thought experiment above. The first is that the ultimate goal is to be "rich". Sure it would be nice but it also causes a few problems - jealousy/enemies, taxes, easy access to vices, arrogance, hangers on and lets not forget it doesn't make us happier (see Opening Day Passion). The solution to this is to redefine your life on your terms. What is important to you? Is it time with family? A job in one of your passions?
Everybody wants to have a fulfilling life full of time with family and engaging in their passion but a whole lot of people aren't doing it. Harris Interactive did a poll that painted an ugly picture of job dissatisfaction. Forty-one percent of employees overall are unsatisfied with their jobs, with many feeling that management lacks integrity.

So why are we standing for such conditions. The answer is that we are stuck keeping up with the Jones family, what Thorstein Veblen's labeled - Conspicuous consumption. In essence we want what we see. If the Jones family gets a pool in their backyard, we want a pool. Ma Jones gets a new volvo station wagon, we want a volvo station wagon with the heated leather seats. And increasingly, since Veblen theorized this in 1899, we don't just want the volvo - we go get it.

Now that we find ourselves with a bigger house than we need and newer cars than is necessary and other toys of the "leisure class" (boats, snowmobiles, cable, season tickets) we can't fathom living without them. Even if we can concede that these things aren't need we can easily justify them because we can "afford" them. After all our salary is enough to cover all those payments.

Now we have come full circle. Remember that $3 million we made in our lifetime? We just spent it. And remember all the things we wanted to do with our families and with our talents and passions? We didn't do it.

Next time I will try to write about how to say sayonara to the Jones family and get out of the Veblen Vortex.

Opening Day Passion

I liked playing baseball as kid but I have never been a fanatic fan. One of my high school friends was. He was a real good pitcher, knew stats that you didn't think existed and even had a backyard wiffleball field built to the exact mini-proportions as some big league park.

I played at this mini-park a couple of times and thought - THIS IS COOL! Then I thought - THIS MUST HAVE COST A LOT OF MONEY! Starting as a kid and into adulthood I thought money was the end. Others had it; I wanted it and wanted to keep it.

I am blessed to say that my attitudes about money have changed dramatically since I was a young adult. I now know that how you think about, spend, acquire and give away money is a simply an expression of what your values are. Money expresses what you care about. It is a tool, not the end product as I once thought. This is the case whether you have a lot of money or just a little. How you use the money you have is a better indicator of your happiness than how much is in the bank (or 401k or bonds or real estate or mutual funds or etc).

My brother went to Harvard so my ears naturally perk up when something about Harvard is in the media. I think most people naturally do since they think someone smart must have come up with it if they are from Harvard. Maybe so but I think what I heard is pretty smart.

The Harvard psychology professor recently condensed 15 years of thinking about the elusive concept of happiness into his new book, "Stumbling on Happiness." He says that beyond a certain point, money has very little to do with happiness. "Money does make a difference when it moves you from abject poverty into the middle class, but it stops making a large difference at about that point. In terms of happiness, the difference between making $5,000 a year and $50,000 a year is dramatic, but the difference between making $100,000 and $100 million is negligible, almost nonexistent."

So what do we do with this information? We live it of course. Instead of scheming and scraping and sacrificing to make a million dollars, we make sure that our lives are what we want them to be at $50,000. I said before that money is nothing but a tool that expresses our values. This is true but a tool can be better used by a skilled craftsman than a child. The Bible does not say that "Money is the root of all evil" but rather that "the love of money is the root of all kinds of evil. And some people, craving money, have wandered from the true faith and pierced themselves with many sorrows." Without properly using the tool unhappiness comes.

Do you believe that it is possible to live life abundantly on what you make (or less)? I do. I am a believer. My wife is a believer. In fact a lot of my friends and family are believers too and that is the reason I started this blog. After giving advice to lots of friends, family and acquaintances, (some of it solicited) I was encouraged by my wife and others to start a business giving financial advice. While I am not going to do that right now I thought I would start spreading the "good news" in this way. Maybe I can figure out how to put one of those electronic tip jars on here in case I write anything worth tipping.

Anyway, that is my introduction. I have a series of topics that I plan on writing about but feel free to comment, ask questions and clarify what I write on here.

Thanks for listening.

Lar