I’m a maverick, yet I like rules … how do you figure that?
Well, the rules that I like are actually ‘rules of thumb’. You see, when I was $30k in debt, I was in the financial wasteland with no idea how do dig my way out …
… so, I did the only thing that I am really good at: I read books. A lot. All non-fiction. Mostly about how to make money.
I can read a 100-pager non-fiction book in the matter of an hour or so and absorb most of the salient points … I may then go back and work at snails pace through detailed explanations, if necessary.
And, I like to read books for instructions: do this, do that. Which I’m then pretty good at modifying for my own use.
So it was for my financial troubles; I started reading:
First Rich Dad, Poor Dad – the first book (and best, in terms of how it opened my eyes) on personal finance that I ever read.
Then The Richest Man In Babylon – which explained the power of compounding and reinvesting.
Then every other Robert Kiyosaki book that came out over the next four or five years.
And, I attended every financial spruiker seminar that came to town (Robert Kiyosaki, Peter Spann, Brad Sugars, and so on … )
… all the time looking for the ‘rules of the money game’.
What I found was that there was no ‘one size fits all’ set of financial rules that everybody should follow … but, there were various recommendations as to what you should do in this circumstance or that.
Over the years, by trial and error (largely a lot of trial – and tribulation – and plenty of error) I found various ‘rules of thumb’ that seemed to make sense to me, and some that I had been following without even realizing it, just like the rules that Jeff questions:
Where are all these rules coming from? Did I miss a bunch of information in the brochure?
If I understand correctly, we have the 20% rule for home equity vs. net worth, 25% rule for mortgage vs. income, and now the 5% rule for cars.
I had been following these rules, largely by coincidence, for most of my successful working life (i.e. during my 7 year journey), when I chanced upon a book that I had never heard of, written by a guy I had never heard of, who lived in a (now) bushfire ravaged area not far from my home in Melbourne, of all places!
Naturally, I had to read the book …
He worked from the premise – one that I happened to agree with – that at least 75% of your Net Worth should be in investments – OUTSIDE of your home, your car, your possessions, and basically anything else that is unlikely to yield you an income or be readily salable at a profit (where will you live if you sell your house?).
That leaves 25% of your Net Worth to spend on: houses, cars, possessions, as follows:
Simple; except that I’m happy to blur the lines a little between cars and other possessions into one 5% ‘pool’.
Of course, this only helped to understand how much equity to hold in these items, and not how much you should finance on a house (that’s where the 25% Income Rule comes in) and cars/possessions [AJC: Easy … buy used and pay cash!].
I have explained how these rules work in practice in these three posts (please follow any backlinks):
Your Cars and Other Possessions