In case of emergency break glass …

A couple of weeks ago, I shared my thoughts on how – and why – to set up an emergency fund with just $0. For a start, it doesn’t take much cash 😉

I suggested using a HELOC, or tapping your 401k in case of a true emergency. Some of our readers had other suggestions:

– Trainee Investor suggested selling stocks (they can be liquidated pretty quickly), or taking an unsecured overdraft.

– Evan suggested adding the “Cash value portion of a whole life insurance policy to the list. You can have the cash in your account within a day or two”

– Investor junkie says that you can avoid selling your stocks by taking a margin loan [AJC: just beware of the dreaded ‘margin call’ which can force you to sell your stocks – possibly at a loss – if there’s a drop in market price]

And, Yahoo Finance provides their view of the The Best (and Worst) Ways to Raise Fast Cash; check it out. Then let me know if you’ve changed tack with your own emergency fund, or if you still prefer to fund it with cash?

Pay off debt or invest?

I’m publishing a whole series of posts targeting Debt … it has very little to do with conventional financial wisdom on this critical subject. Here is the second post (I have another one coming up, soon) …

______________________________

Gen-X Finance is polling his readers as to whether they would prefer to pay down debt or save:

If you have both debt and a need to save money, how do you prioritize? Some people will pay off debt at all costs before saving a penny. Others will be fine getting by with minimum payments while dumping as much money into savings or investments as possible. While others try to do a little bit of both. That’s why the poll today asks how you view this subject.

You should go ahead and answer the poll.

Now, this is such an important decision – perhaps one of the MOST important mindset changes that you need to make if you want to follow in my $7 million in 7years footsteps – that, for my new readers, I will point you again to my trademark Cash Cascade™ system (don’t worry, it’s simple and free) that replaces the Debt Snowball, the Debt Avalanche and most of the other other debt repayment systems that you may have previously tried.

Here’s why it works:

People make the mistake of thinking that there is GOOD DEBT (typically, investment debt) and BAD DEBT (typically, consumer debt) … but, this is only true BEFORE YOU TAKE ON THE DEBT.

Once you are in debt, then there is only CHEAP DEBT and EXPENSIVE DEBT. Put simply, pay down your expensive debt, until only the single digit ones (on an after tax basis) are left, THEN start investing.

This goes against the ‘pay down all debt’ theories, but works both logically and practically. Try it … and, let me know how it’s working for you?

View your 401k as insurance!

I agree with Financial Samurai’s basic sentiment, which is to effectively ‘write off’ your 401k and Social Security:

Every month I contribute $1,375 to my 401K so that by the end of the year, the 401K is maxed out at $16,500.  Unfortunately, $16,500 a year is a ridiculously low amount of money to save for retirement if you really do the math.  After 10 years, you might have $200,000, and after 30 years you might have $600,000 to $1 million depending on the markets and your employer’s match.  Whatever the case may be, the 401K is simply not enough money to retire on, especially since you need to pay tax upon distribution.

CNN Money and other advisers showcased super savers who to my surprise include 401K and IRA contributions as part of their percentage savings calculations.  In other words, if you make $100,000 a year, save $4,000 a year in cash, and contribute $16,000 in your 401K, you are considered by financial advisers as saving 20% of your gross income.  Your $20,000 in “savings” is woefully light because in reality, you are only saving $4,000 a year. With the stock market implosion of 2008,  your 401K has proven itself to be totally unreliable.  Like Social Security, contribute to it like any good citizen should, but in no way depend on Social Security or your 401K to retire a comfortable life.  I

Depending on Social Security is depending on the government doing the right thing.  There’s no way that’s going to happen.  Depending on your 401K is depending on people choosing the right stocks consistently over the long run, which isn’t going to happen either.

Because Social Security is a burden on governments and society, it’s always at risk of being watered down or eliminated … this is less of a risk the older your are (hence closer to receiving the payments).

But, not so your 401k: while governments can (and, probably will) water down – instead of increase – the contributions and benefits of your retirement program, the money that you contribute (and, your employer match) is still yours!

I don’t think you’ll ever lose what you contribute + whatever gains the flawed investment choices available may bring.

I look at my retirement plan (which I haven’t contributed to in years!) as insurance: if all else fails, when I reach whatever age the government of the time lets me access MY money, I’ll have something to keep me one step away from homeless … just.

So, I agree with Financial Samurai’s closing advice:

The only person you can depend on is yourself.  This is why you must save that minimum 20% of your gross income every year on top of contributing to your 401K and IRA if you can.

You’ve heard of Paying Yourself Once? Well, I think you need to Pay Yourself Twice™ … once inside your 401k (there’s your ‘insurance policy premium’), and once outside of your 401k.

It’s the money that you can put aside OUTSIDE of your 401k that will drive your wealth, because you can put it to MUCH BETTER USE (e.g. investing in business, real-estate, value stocks, etc.) than that money locked away inside your 401k and in the hands of grossly under-performing, fee-driven mutual fund managers 🙂

Spend More To Invest More?

How do you redeem your credit card points?

View Results

Loading ... Loading ...

[You may select more than one option]

Our last foray into the world of credit cards pulled up an array of options around using the points generated; for example, Mike  says that he:

Usually pockets the cash back but flying in the A380 Suites are always nice.

And, Investor Junkie uses the points to generate extra cash to invest:

Instead of Best Buy cards, it deposits directly into my Fidelity account.

A popular option, I’m sure, would be to ‘fly them off’ (as I do). On the other hand, Costco gives cash rebates (which we also enjoy). But, I would be interested to see how our readers currently redeem their credit card reward points?

Since you probably have multiple cards, I’ve allowed multiple options on this Reader poll, but just choose the one or two that you mostly figure on using?

Once you have made your selection/s, please read on ….

I wonder, though, where the best bag for buck (almost literally) comes from? I mean, each rewards program must have some sort of formula as to how they convert every dollar that you spend into points, then a more complicated formula (with different weightings, I’m guessing) to convert those points into the cash and/or airline miles and/or other stuff that they need to ‘buy’ to give to you.

But, I’m guessing that those weightings are NOT equal; so what is a more ‘efficient’ (or is that ‘effective’?) use for your points, for the credit cards that you have signed up for?

Using your points for:

1. Cash? Whether you direct it to your investing account, or just spend it.

2. More Stuff? Like Best Buy cards … I used to give the rewards to my employees (anything from bicycles to trips for 2, all paid for by redeemed rewards vouchers) in recognition for ‘above and beyond’ performance.

3. Airline Miles? I’m told that this is the best $$-for-point conversion that you can get … and, that redeeming your points for international flights outweighs domestic travel in terms of the ‘free value’ that you receive.

Since I fly a lot (esp. internationally), generally at my cost, this last option seems the best for me …

Logically, we should aim to get the most Usable Cash Value from our credit card points i.e. either cash, or something that we would convert into cash by using the points INSTEAD of using our own cash on something that we WOULD have spent cash on, anyway.

If it’s something that you would NOT have normally bought for yourself, then the Usable Cash Value is actually low [AJC: under my definition!].

Although, I am contradicting myself a little because I just ‘blew’ a whole heap of points on that First Class airline seat that I would never have bought for myself!

On the other hand, I am at the ‘other end’ of my financial journey, so what the hey 😉

The Zero Dollar Emergency Fund …

If you own a boat that’s large, expensive, and is likely to take on water from time to time, you plan well ahead and put in a bilge pump.

But, if you have a dinghy and you’re paddling out on Lake Michigan, far away enough from shore to make swimming a poor second choice, then you carry a bucket … and, if the boat springs a leak (highly unlikely … it’s not a bad dinghy) or, water happens to come over the side from time to time …

… well, you start bailing water!

An Emergency Fund’s a little like that:

What you do depends on whether you expect the emergency [AJC: I know, it’s an oxymoron] or not. Of course, if you expect it – or, can reasonably foresee it (like problems with a beaten up old car), then it’s not an emergency at all … just something that you can’t budget an exact amount for.

But, you can provision for it; at least, as best you can.

But, true emergencies do arise – or, semi-expected events blow up bigger and/or sooner than you ‘expected’ – so what do you do?

Try and build up and emergency fund but not spend it even if a really great investing opportunity comes up [AJC: what’s the opportunity/cost of that?!]?

Or, why don’t you simply find a bucket of money that you can tap into IF an emergency arises … but, one that costs you zip (or, even makes you money) in the LIKELY event that an emergency does NOT arise.

Here are some examples of In-Case-Of-An-Emergency-Please-Break-The-Glass Funds:

1. A HELOC (home equity Line of Credit) that you put in place on your home ‘just in case’

Use an online mortgage calculator to make sure that you can borrow enough to cover your likely living costs + the repayments for as long as you think it will take you to get back on your feet and repay the loan. This is a pretty good, flexible option that only costs what you use.

The other advantage is that you should be able to raise a LOT more than you can save … and, it will be available as soon as you put the paperwork in place (a true emergency fund could take YEARS to save).

On the other hand – say, if you lose your job and the bank finds out – the HELOC may be revoked just when you need it the most … of course, if you’ve already drawn down the funds before the ‘pink slip’ is in your hands …. 😉

2. Your 401k

There are usually provisions that allow you to borrow or withdraw funds against your Retirement Account; again, this may allow for ‘protection’ against fairly large emergencies (say, a few months off work), but it may come at a hefty opportunity cost … particularly, if the fund rules don’t allow for the funds to go back in on a tax-preferred basis, if you’ve managed to recover quickly enough.

Also, the tax and/or penalty interest costs may be quite high.

3. Your Car

Maybe you can do a sale and lease-back on your car .. or, maybe you can sell your car for cash and either use some of the proceeds to ‘trade down’ (therefore, freeing up some cash) or even make an exception to the “don’t finance a depreciating asset rule” by financing a (cheaper) one, instead (thereby, freeing up a lot more cash).

Remember, you’re really borrowing some money to tide you over in an emergency … you don’t expect to get out of it squeaky clean.

4. Credit Cards

Yep … this is the time that a bunch of credit cards sitting in a drawer can be really useful … but, it’s very expensive (19%+ p.a.) so make sure you only take this route for really short-term emergencies that you KNOW you can trade your way out of really quickly (i.e. less than a year).

5. The Three F’s

And … don’t forget that getting on your hands and knees and grovelling to your Friends, Family, or other associated Fools is also an option!

Anybody have any other true ‘Emergency Fund’ source ideas?

The Murphy’s Law Fund

Scott who – in my post proposing a Zero Dollar Emergency Fund – says:

I’ve given this topic a lot of thought and how do you feel about seeing a typical ‘emergency fund’ as more of a temporary ‘war chest’? In that, you are building up this cash savings reserve as fast as you can, while you scout for that next great investment opportunity (ie; stock in that excellent undervalued company that you researched, or that terrific foreclosure that you’ve scouted out in a great area that you want to purchase and turn into a rental property, or an excellent business idea or perhaps funding the expansion of your current business).

I figure that way, this money has a specific target(high returns that are more likely to get you to your number by your date) BUT, in the meantime, if Murphy pays you a visit while you’re building up this ‘war chest’, you have some liquidity(ie; emergency funding) to tackle that emergency. But, as soon as you have enough built up to take that next investment opportunity, take it with this money!

The short answer is that Scott has some cash lying around, and hasn’t yet figured out what to do with it. An ’emergency’ pops up, so the logical thing to do is to dip into that cash and use it to solve the problem.

I don’t have any issue with that: but it isn’t an Emergency Fund. It also isn’t a ‘war chest’. It’s just some spare cash lying around …

Of course, I’m overstating things for dramatic effect, here 😉

So, let’s take a look at the following graph to see what may be happening [AJC: I’ve adapted this graph from something to do with the ‘mating cycle of dogs’ that I found on Google image search, but I think it suits our non-canine purposes just fine!]:

Let’s pretend for a minute that this graph represents the amount of ‘spare cash’ that Scott has lying around (Y-Axis) at any point in time (X-Axis):

Scott starts building up his savings, has a little glitch as he realizes that he forgot to pay his car insurance premium by installments so he has to pay it all at once, then steadily builds up again until it reaches Scott’s ‘peak’  – his ideal Emergency Fund of $10,000.

Then Scott hits paydirt: an idea for a new online business, and he starts to spend that $10k on programming, domain name registration, hosting, Google Adwords and all the other stuff needed to get the ‘side business’ off and running. A couple of months and $9k later, Scott’s business is paying it’s own way [AJC: well done, Scott!].

Great, now Scott can start building that Emergency Fund again …

Do you see the problem?

The only time the Emergency Fund is adequate is between the time that Scott has managed to save up the full $10,000 and the time he starts spending the money on something else (in this case, his new business idea; it could easily have been a vacation, new car, girlfriend, or …?).

[Sigh] If only Life’s little ’emergencies’ knew how to fit into Scott’s calendar [double sigh]

I guess it’s up to me to propose a better solution …

Next time 😉

5 Steps Toward Financial Independence – Reworked

Happy Holiday Weekend – which is now already fading as a distant memory of fun and relaxation, as your work cubicle begins to close in on you ….

… although I’m still (technically) on vacation, I’m cutting my blogging-vacation short out of sympathy and because I’m just bursting to share this post with you 😛

Sarah Winfrey – on Wisebread – provides her 5 Steps Toward Financial Independence … I want to share them, then rework them slightly for you.

First, Sarah says:

Whether you’re a brand new grad or regrouping after a layoff or other financial difficulties, you may find that it’s more difficult than you’d imagined to wean yourself from any monetary help you’ve been getting.

1. Get a Job

2. Know Your Expenses

3. Commit to Saving

4. Prioritize Essentials

5. Give Yourself a Deadline

It’s generally good advice, and you should read the whole article here, but this wouldn’t be $7million7years if we didn’t have our own take on things:

1. Get A Job

Losing your job (or graduating college and finding it hard to find that ideal, first grad. job) shows you how fickle the world of employment can be. There’s no safety in employment any more, so you may tempted to become your own boss. But, there’s no safety in business either!

Look, I love the idea of people going it alone and starting a business, but a job provides three things that you might need:

– Cash to live off

– Starting capital for business and/or investing (your ‘war chest’)

– A safety net, in case your first business or two fails.

So, I recommend that you go ahead and get a job … and, start that business on the side!

2. Know Your Expenses

This one is easy … if you try the ‘no budget budget’ ( http://7million7years.com/2009/05/04/i-hate-budgeting-so-ive-only-ever-tracked-my-expenses-once/) 🙂

Hopefully, you already tried this – when (if) you were working – but, now’s a great time to try this again … just for one month.

3. Commit To Saving

Now, this should be easy: if this is your first job, then you’re used to living off nothing, so 50% of something must seem like a HUGE payrise to you. Regardless of whether this is your first job, or you are reentering the Rate Race (I mean, work force), you should treat this as Found Money and aim to save 50% of your income.

If that’s not possible, work your way back from 50%, all the way down to 1% if you need to …

… just remember that your eventual target should be AT LEAST 10% of your net income over and above whatever goes into your 401k.

Why?

Remember that business/investing war chest?

You need access to your money, so start building your savings outside of your 401k, as well as continuing to fund your 401k. But, you should simply treat anything that goes into your 401k as a safety net, much as a high-wire artist treats their safety net as something that’s there but NEVER to be used … except if you fall!

4. Prioritize Essentials

Remember that ‘no budget’ budget?

Now’s a great time to go through it with a fine tooth comb and identify any excesses … and, eliminate them.

And, to help you stop spending money unnecessarily, it’s time to stamp out that Impulse Buying Bug once and for all!

The best tool that I have found to help you do that is the Power of 10-1-1-1-1 card, which should be laminated and sitting in your pocket – well worn from overuse: http://7million7years.com/2009/04/23/the-even-greater-power-of-10-1-1-1-1/

5. Give Yourself A Deadline

Sarah means this as a deadline for getting your financial house in order, but $7million7year readers have a much more important deadline: Your Number / Date.

In case you missed the last three years of posts, here’s where to find:

Your Life’s Purpose,

Your Number, and

Your Date.

By the time you work all of this out, you’ll be in a hurry to get a job and start your active business/investing program 🙂

The Zero Dollar Emergency Fund!

Last week I asked How many months do you have in your emergency fund?

Earlier, my blogging friend JD Roth at get Rich Slowly (GRS) asked the same question of his readers, and this is what he found:

How many months do you have in your emergency fund?
GRS 7m7y
less than 3 months 38% 29%
3-6 months 26% 24%
7-12 months 13% 24%
more than 12 months 14% 16%

This shows that more 7m7y readers have 3+ months living expenses in their ’emergency funds’ than GRS readers, which means …

I’ve done a terrible job 🙁

On the other hand, if you answered “what’s an emergency fund?” good for you, you’re already a step ahead of the pack … you see, not everybody – including me – thinks that you need to have an emergency fund at all!

[AJC: At least not until after you reach Your Number]

For instance, Liz Pulliam Weston writes at MSN Money that you should have a $0 emergency fund, replacing it with a concept that she calls ‘financial flexibility’:

The whole idea that everyone needs a big pile of cash, and needs it right now, should be rethought. In reality, the failure to have a fat emergency fund isn’t inevitably a crisis. At the same time, those who feel safe because they have three or even six months’ expenses saved up might be kidding themselves.

Let’s say your take-home pay is about $4,000 a month. Although you have been spending every dime, you make a concerted effort to trim your expenses by 10%. This not only frees up money for your emergency savings but lowers the total amount you need to save from $12,000 to $10,800.

Still, it will take you 27 months — more than two years — to scrape together your emergency fund. And that assumes nothing comes up that forces you to raid your cache.

Let’s explore this a litter further: JD Roth has $10,000 in his emergency fund, but that doesn’t just represent $10,000 today …

…. it represents the future value of $10,000:

Let’s say that you intend to retire in 20 years, if you earn 9% on your money (say, invested in Index Funds) then you are giving up, say, 2% bank interest (by having your emergency fund sit in an ordinary savings account for quick ’emergency’ access) to earn 9% – or, a net of 7%.

That extra 7% earned represents about $8k in extra interest/profit that you are giving up for the benefit of ‘peace of mind’ in an emergency. But, we aren’t investing our money in Index Funds, because we are on a mission: we want to reach $7 Million in just 7 Years!

To us – that is, those of us on a steep financial trajectory – this $10k pile of cash represents seed capital for your new business venture or next real-estate acquisition [AJC: and, don’t tell me that an extra $10k wouldn’t be a big help for either of these endeavors] …

… now, $10k ‘invested’ at:

  • 15% (stocks) grows to $35,000 after just 10 years
  • 30% (real-estate) grows to $106,000 after just 10 years
  • 50% (business) grows to $384,000 after just 10 years

… a slightly larger price to pay for peace of mind 🙂

I’ve received an award!

Top Saving Money Blog
Online MBA

I’m not sure who Awarding the Web are, but they have kindly just listed $7million7years as one of their ‘Top 40″ Business Blogs in the “Saving Money” category.

This is kind of ironic as I am keeping company with the likes of Frugal For Life, Bargain Briana, Bitter Wallet, and FruGal [AJC: I love puns … unfortunately for those around me, the more groan-inducing, the better] …

… but, this blog is about as un-saving money as you can get (!):

http://7million7years.com/2009/05/02/save-your-way-to-wealth/

Yet, we do spend a lot of time in Making Money 101 on saving tips:

The reason: habit.

While I stick to my guns and say that you can’t save your way to any reasonably large Number by any reasonably soon Date [AJC: Pick any Number north of $1 million, and any Date south of 15 years and see what you come up with, inflation adjusted], the reason why you should still save/save/save is twofold:

1. You create the seed capital that you might need for your first real-estate purchase and/or business venture … it’s these that will create your Number/Date, and

2. You create the habits that will stop you from spending your wealth once you get it.

Saving money is kind’a like the bookends to your financial life …

… but, true wealth building is in the bits you do in between that really have nothing at all to do with saving.

Well, not directly 😉

What’s better: a satisified mind or money?

Sadly, not too long (less than 5 years) after this performance of the great Red Hayes song (covered by everybody from Johnny Cash to Bob Dylan, and even The Byrds), Jeff Buckley died; that makes TWO great reasons to find your Life’s Purpose … the other being in the opening lyrics to this great song:

How many times have you heard someone say: “If I had money, I would do things my way.”

But little they know, that it’s so hard to find one rich man in ten, with a satisfied mind.
Money can’t buy back all your youth when you’re old, a friend when you’re lonely, or peace to your soul.
The wealthiest person, is a pauper at times compared to the man with a satisfied mind.

Find your Life’s Purpose, then the money will mean something: Your Number will be the financial enabler of Your Life’s Purpose!

After all, there’s no other good reason to be wealthy, is there?