Nickeled and Dimed

This weeks Open Mic question comes from Kyle Franklin in Columbus, Ohio.

I am 31 years old and trying to figure out what to do with my 401 (k).  I am all for saving money for retirement, and had over $10,000 saved up on a modest salary before the market crash.  Since then, I have watched my money disappear before my eyes and it is now under $6,000.  I have stopped contributing to the account as I don’t like giving my money away.  My question is how do I know when the market has bottomed out so  I can start contributing to my 401 (k) again and not miss out on the rebound (if it ever comes!)?

While Centsability to Wealth is a personal finance site, I love talking about the economy, too.  And since Kyle’s question is one a lot of people seem to be asking these days, I figured we should tackle it here.

If you are a regular reader of CTW, you have seen me say before that I don’t think the economy should change your personal finances.  When you have the right strategies in place, your micro economy is safe from the macro economy.  Paying off debt, building an emergency fund and saving for retirement are things that should be done no matter how good or bad the stock market is doing.  But I understand that it’s not that easy.  I realize we see the market dropping to ten year lows and even the thought of investing in it makes us cringe.  I know you are looking at your account statements and seeing 40 percent losses, just like Kyle.  Here’s my advice: Ignore it.

Doom and gloom is every where.  You can’t turn on the TV with hearing how this is the biggest financial disaster since the Great Depression.  But if you can ignore the talking heads on TV and some of the so called experts, you may find that this is one of the best times in history to be funding your retirement accounts.  Stocks are being sold at once in a lifetime discounts, and unless you are within ten years of retirement, you really don’t care how much lower they go.

In Kyles case, especially, stopping your retirement contributions and waiting for the market to “bottom” is the absolute worst thing you can possibly do.  Unless the market drops all the way to zero (and I can confidently tell you that isn’t happening), by dollar-cost averaging your investments (this is done automatically with regular 401 (k) contributions) you will come out ahead in the long-run.  You have over 30 years until retirement, Kyle, you should be seeing this economy as a huge opportunity, not a detriment.

I can’t tell you when or where the bottom is.  What I can tell you is that if you wait for it, you will likely miss out on some of the biggest gains the market will have during your lifetime.  Trying to time the market is a fools game and studies show that by missing out on even a few days of the top rallies you can significantly reduce your long-term gains.  With time on your side, there is no reason not to be contributing as much as you possibly can to your retirement accounts right now.

So, Kyle, not only do I think you should immediately pick back up your 401 (k) contributions, I think you should raise them.  We are programmed to take advantage of sales in nearly every other area of our lives.  Stocks should be treated the same way.  Don’t try to time the market.  Stick with the age old strategies that have made people wealthy for hundreds of years.  Continue to fund your retirement and throw out the monthly statements if it is too hard to look at your short-term losses.

It’s like Warren Buffet always says, “when everyone’s being greedy, be fearful.  When everyone’s being fearful, be greedy”.  Now’s the time to be greedy, Kyle.

If you would like to be featured in a future addition of Open Mic, send your personal finance related question to centsabilitytowealth@gmail.com.

Technorati Tags: personal finance, economy, retirement, 401 (k), dollar-cost averaging, great depression, warren buffet, money, financial crisis

If this is your first time visiting Centsability to Wealth you may want to see what we are about , read about me, or read our introductory post.

This week’s Open Mic question comes from Zach Thomas in Scottsdale, Arizona.

I have been reading your site for about a month now and have really been working to get my personal finances in order.  So far I have managed to pay off nearly all of my credit card debt and build a modest emergency fund.  But my question doesn’t isn’t directly about me.  It is about my parents.  The more I get my own finances in order, the more I realize how out of order my parents finances are.  Although they are both over 50, they have very little saved in retirement accounts.  They have credit card debt exceeding $10,000.  And they continue to buy things they can’t afford.  My question is, how should I go about talking to them about their finances without making them mad?  Where is the first place I suggest that they start?  Should I even talk to them at all about it?

Thanks for the question, Zach, but wow, this is a tough one.  Talking to anyone about their finances, unsolicited, is extremely difficult.  Doing it with your parents can only be that much harder.  But if their finances are in as bad a shape as you say, I think it is something you absolutely have to talk to them about.

First of all, their finances do effect you.  What if something happens and they can no longer work, who do you think will be supporting them?  Probably you.  So you have an obligation to try and get through to them about their finances, not only for their own sake, but more importantly for yours.

Where and how to start the conversation is the tricky part.  And without knowing you or your parents, it’s hard to give the best advice.  But here is how I would handle the situation if it were me:

I would first start by trying to get them to read a few personal finance books.  Before you even mention that you are concerned about their finances, simply tell them you have been reading some awesome personal finance books and would like them to read them too and get their feedback on them.  Which ones you suggest is up to you, but two that I would strongly consider are Your Money or Your Life and Dave Ramseys The Total Money Makeover.  In my opinion these two books are powerful enough to “scare” someone into changing their financial ways.  Make sure you read the books yourself first, if you haven’t already, so you can discuss them with your parents after they read them.

If you are lucky, after reading these books a light will go off in one or both of your parents heads and your work is done.  And these books are powerful enough to make that happen.  But if it is not enough, or they just refuse to read them, it’s time to sit down with your parents and express your concerns.  Explain the behavior and situations that concern you and why it concerns you.  Start first with why it concerns your for their sake and then why it concerns you for your own sake.  Be prepared for the conversation with notes and specific numbers.  Be ready to explain the actions you want them to take and goals that they can shoot for.  Perhaps even have the names and numbers ready for Certified Financial Planners in your area they can turn to for help.

If you are still not getting through to them at this point, it’s probably best to let it drop for now.  Explain to them that you will not be there to help if a financial disaster hits and move on.

Financial problems are very similar to drug problems or drinking problems or eating problems or nearly any other kind of addiction problem.  Until the person decides they want to change, you can’t help them.  The best you can do is give them the information they need to make the changes they need to make, offer encouragement and hope for the best.

Eventually your parents will find the errors in their financial ways and be willing to get your help.  In the meantime don’t let it ruin your relationship with them.  Be glad that you are getting your finances in order so early and be their to help when your parents are ready to change.

What advice would you guys give to Zach?  Have you had to deal with family or friends who were awful with their finances?  How did you approach the situation?

If you would like to be featured in a future addition of Open Mic, send your personal finance related question to centsabilitytowealth@gmail.com.

If this is your first time visiting Centsability to Wealth you may want to see what we are about , read about me, or read our introductory post.

This week’s Open Mic question comes from high school student Sam Lewis in Cleveland, Ohio.  Sam will be attending college next fall and is going through the process of applying for financial aid.  Here is her question:

I am currently in the process of figuring out how I will pay for college and applying for financial aid, and I have so many questions I don’t even know where to start!  Could you explain to me the process of which portion of financial aid needs to be paid back, how and when you pay it back, and how much the payments typically are?  Also, is there any other form of financial aid available other than the government Stafford loans?  I am responsible for paying for my entire education myself and am so confused on the entire process.  I want to make sure I get everything right.  Please help!

Thanks for the question, Sam.  As someone who recently graduated college and is now paying back these loans, I can tell you this is a very important topic that I wish I would have explored more before I started college.  It’s great that you are being proactive and trying to learn as much as you can before you start.  Let me break down each of your questions and try to answer them individually.

1. Which portion of financial aid needs to be paid back?

The only forms of aid that do not need to be paid back are grants and scholarships.  If you are lucky enough to receive either of these two things, it is free money that you will never be required to pay back.  The different types of scholarships are nearly endless, so search far and wide to see if you can find one (or two, or three, or four, etc.) that you meet the requirements on.  Scholarships for grades or athletics are the ones everyone knows about, but there are countless others available for many other reasons.  Ask your future college for a list of scholarships offered and check out this site for thousands of other scholarships.

Your student loans, on the other hand, will need to be paid back.  After filling out your FAFSA, you will find out how much government financial aid you will qualify for.  These loans can be broken down into two categories, lets take a look at each, subsidized and unsubsidized.  Let’s take a look at each:

Subsidized Loans

Subsidized loans are student loans that the accrues no interest while you are still in school.  The interest begins accrueing when you start paying back the loan after college.  This is a huge advantage and will save you thousands of dollars in interest expenses.  Subsidized loans are awarded strictly on the basis on need.  Basically the less money your parents make the more subsidized loans you will receive.

Unsubsidized Loans

Unsubsidized loans are simply the opposite of subsidized loans.  They do accrue interest while you are still in school and not yet paying back the loans.  The interest is also compounding, which means you owe interest on the interest already accrued.  These loans are easier to get but much more expensive to you.  You want to stay away from unsubsidized loans as much as possible.

Obviously, you want as much of your financial aid to be in subsidized loans as possible.  From the small amount of unsubsidized loans I had in college, they accrued over $3,000 during the time I was in college.  Avoid unsubsidized loans as much as you possibly can.

2.  How and when do you pay the loans back?

Payments on your student loans are deferred until six months from the day you graduate college.  If at any time after graduating you choose to go back to school for grad school or simply a different major, your loans will go back into deferment.  So while you are in college you will not have to worry about paying back any portion of your student loans.

How you pay them back is by simply sending a check to the institution you received your loans from.  The easiest thing to do is to set up automatic monthly payments to be withdrawn from your checking account.  But again, this is something you do not have to worry about until after you graduate college.

3. How much will my payments be?

This depends on how much you have in loans, what the interest rates on them are and what repayment method you choose.

As a point of reference, I have about $34,000 in student loans and pay about $250 a month.

There are two ways to reduce your payments after graduating.  One is to consolidate all your loans into one, which will usually lower your monthly payment.  Another is to stretch out the period over which you will pay the loans back.  Most loans will offer terms as low as ten years and as high as 30 years.  There are also payment methods best on your level of income.  As you earn more income, your monthly payments increase.

Student loans generally have fairly low rates, so they are not something you have to be in a huge hurry to pay off. 

Are there other loans avaible besides the government Stafford loans?

Aside from the government financial aid, you can also get private student loans from banks and other lending institutions.  But with the current credit crisis, these are becoming tougher and tougher to get.

I would recommend taking as much government aid as you can get and if you still need further aid, then look into securing a private loan.

Summing Up

Student loans are one of the few forms of debt I encourage.  If it is necessary for you to go into debt to fund your education, you should absolutely do it.  A college degree is worth over a million dollars in your lifetime, which is a fantastic return on your student loan investments.

However, that does not mean you should simply accept that student loans are your only way to pay for college.  Here are a few tips I would suggest having recently been through college (most of these I did not do myself, but I badly wish I would have).

• Explore any and every scholarship.  Check out the site I listed above.  You will be amazed at the crazy things they offer scholarships for.  After you are in college you will see many scholarships offered within whatever you choose to major in.  Apply for ALL of them.  Any amount of scholarships you get means less money owed when you graduate.
• Take summer courses at some kind of community college or “branch”.  Not only will this help you finish college faster, you will pay less than half the price of a major university.  This can significantly lower the amount of student loan debt you will have when you graduate.
• Work while you are in school and pay cash for as much of your tuition as you can.  Aside from summer, I did not work during college until my final year.  I badly wish I would have worked all four years.  Just working part-time I could have paid off a large chunk of my tuition each year.
• Don’t declare a major until you are positive about what you want to do.  I switched majors my senior year and it added a year and half of school and student loans.  By waiting as long as possible to declare a major you can avoid wasting tuition on classes you will not need for whatever you actually major in.
• Don’t transer.  Again another mistake I made which caused me to lose several credits from classes I had already taken and paid for.  Stick with your college until you are done.

You are about to enter four of the most fun years of your life.  But if you aren’t careful, your years after college could be spent paying back a lot of debt.  Educate yourself on the financial aid process and you will be ten steps ahead your classmates.  Oh yeah, and avoid credit cards!!

What advice would you give Sam about the financial aid process?  Do you have any creative ways to finance college without student loans?

If you would like to be featured in a future edition of Open Mic, send your personal finance related question to centsabilitytowealth@gmail.com.

Technorati Tags: personal finance, student loans, financial aid, scholarships, college, FAFSA

 If this is your first time visiting Centsability to Wealth you may want to see what we are about or read our introductory post.

This weeks Open Mic question comes from 28 year old Suzy Edwards in San Francisco, California.

After recently switching jobs, I was surprised to find out I had about $6,000 sitting in my 401 (k) with my former employer.  I am having trouble figuring what I can and should do with this money.  Can I just leave it there?  If so, should I leave it there? 

I also have about $4,000 in credit card debt, which I could pay off if I simply cashed out my old 401 (k).  Would this be a good idea?  I know saving for retirement is important, but I also know how much you preach paying off debt.  Since it is only $6,000 in the account anyway, I figure it would be better off getting rid of my expensive debt (15 percent interest rate).

What would you recommend, leaving the 401 (k) alone, or cash it out to pay off debt?

This is a great question, Suzy.  And with the frequent amount of job changes people go through these days, it is one almost everyone will face multiple times in their working life.  You mentioned two options for your problem, but there are actually three.  Let’s go over all three and discuss which would be best for you.

Option 1: Leave 401 (k) with your former employer- Your first option to this situation is to simply let the $6,000 sit in your former employers 401 (k).  If you pay very little attention to your 401 (k) (which I’m guessing is the case, since you say you were surprised to find out how much you have in there), this is a perfectly fine option.  Your $6,000 will stay in whatever fund you have it in and continue to grow until you retire.  The downside to this is that 401 (k)’s usually offer few investment options, but if you aren’t someone who actively follows your account this doesn’t matter to you.

Option 2: Cash out the 401 (k) to pay off debt- Your second option is to cash out the $6,000 from your 401 (k).  First let’s look at the consequences for doing this.  As a penalty for taking money out of your retirement account early, you will pay a ten percent penalty, which will take away $600 from your total amount.  On top of that, since 401 (k) contributions are made pre-tax on the assumption you won’t take it out until retirement, you will now be forced to pay those taxes.  Even if you are in just the 15 percent tax bracket, that will be an additional $900 off your total.  You are now down to about $4,500 from the original $6,000.  While still enough to pay off your $4,000 in credit card debt (and it is good you are concerned with this debt), you are essentially giving away $1,500.

Now let’s look  at what would happen if you kept the $6,000 in a retirement account until you were 65.  Since you are 28 years old now, that gives the money 37 years to grow.  After those 37 years, assuming a very conservative 8 percent return, what you called “only $6,000″ has now turned into $103,473!  That is the magic of compounding.

So basically, by cashing out your 401 (k) you will receive about $4,500 now while forfeiting $103,473 you could have at retirement.  You are right, I do frequently preach paying off credit card debt.  But sacrificing about $99,000 of return on investment in order to pay of $4,000 of credit card debt is just not a wise decision.

Option 3: Roll your 401 (k) over to an IRA- Your third option is to take the money from your 401 (k) and roll it over to an IRA (individual retirement account).  There are no penalties to do this, and it offers a few benefits.  First, an IRA will typically offer more investment options and lower fee’s than a 401 (k).  Second, by rolling over to an IRA you will then be able to switch to a Roth IRA, which can be an excellent investment tool for some people.

To do this, you would simply call an investment company, Fidelity for example, and tell them you want to roll your 401 (k) over to one of their IRA’s and they will be more than happy to help you.  One important thing to keep in mind with this, though, is that you do not cash out your old account before rolling it over.  This will cause you all the penalties listed in option 2.  Instead, you are doing a straight roll over from your old account to your new one. 

Obviously, I am going to strongly recommend you not take option number two, cashing out the money.  It would be flat out irresponsible to take that money out for anything short of an urgent emergency.

That leaves you the choice between leaving the 401 (k) alone, or rolling it over to an IRA.  Judging from your email, I’m guessing you aren’t actively involved with the investments in your account.  If this is the case, and you are not interested in switching to a Roth, I would suggest simply leaving your 401 (k) with your former employer.  There is no need to go through the small hassle of rolling it over to an IRA if you aren’t interested in the benefits it would provide.

What advice would you give Suzy?  What have you done with your retirement account when switching employers?

If you would like to be featured in a future addition of Open Mic, send your personal finance related question to centsabilitytowealth@gmail.com.

Technorati Tags: 401 (k), IRA, personal finance, Roth IRA, credit card debt, taxes

This weeks Open Mic question comes from Curtis Lake, a college studen in Grand Rapids, New York.

I am a daily reader of your site and while I enjoy the articles, they also frustrate me.  I am a college student with an extremely limited income.  Because of this, doing things like saving for an emergency fund, opening a retirement account or creating passive income are out of the question.  What can I do to improve my personal finances when I am making just enough money to survive?

Thanks for the question, Curtis.  How to save when you are barely getting by is a question I hear frequently, and it is certainly a fair one.

First of all, at this stage in your financial life what you don’t do is more important than what you do.  You may not be able to save money yet, but are you avoiding credit card debt?  Are you doing everything you can to minimize the amount of student loans you need to take out?  Simply avoiding debt (or limiting it in the case of student loans) will put you in excellent shape when you graduate and begin making a real income.

Second, have you actually tracked your expenses to see if there is anything you can cut back on?  College is a blast and having fun is important, but could you go out one less night a week and perhaps save that $50 or so a month?  Use Mint (it’s free) and analyze your spending over a three month period.  See where you can cut back on little things.  It all adds up.  Finding even $20 a month to cut out and put towards an emergency fund could put you in great shape when you graduate.

Lastly, is it possible to pick up a part-time job, or pick up more hours if you already have one?  Obviously your studies should come first, and you should still leave time for fun, but if you can pick up even 10 hours of minimum wage work a week you could add $200 or more a month to your bottom line.  And if I said $20 could go a long way, imagine what $200 could do?

I understant the money frustrations of being in college.  It was less than a year ago I was there myself.  But by simply avoiding debt, cutting expenses wherever possible and possibly picking up a part-time job you can set yourself up for a fantastic start financially after college.

What advice would you give Curtis?  What did you do in college to save or earn extra money?

If you would like to be featured on Open Mic, send your personal finance related question to centsabilitytowealth@gmail.com

Technorati Tags: personal finance, emergency fund, retirement, saving, debt

This weeks Open Mic question comes from Jim LeRitz in Pittsburgh, Pennsylvania.

With interest rates at historic lows, my wife and I have explored the idea of refinancing our home.  After doing our homework we able to lock in a rate of 5.05 percent.  We are currently at 6.85 percent.  The difference would save us almost $300 a month on our mortgage payment, on top of the overall interest it would save us.  The problem is the closing costs would be about $2,800, and since this is something we weren’t saving for, it would have to come out of our emergency fund.  Is tapping into our emergency fund to take advantage of this great rate a good idea, or should we save for the closing costs and cross our fingers the interest rates will still be this low when we save enough?

Great question, Jim.  Normally I would advise to never touch your emergency fund for something that is not a necessary expense, but let’s look into this one a little deeper.

The first question I would ask is how long you plan on living in your house?  If you plan to be gone in five years or less, I would probably pass on the refinance.  The largest gain you will get out of refinancing into a lower rate is the interest you will pay on the loan.  The shorter time you will spend in the house, the less these savings will be.

On the other hand, if you plan to live in this house for the life of the loan, it is almost certainly a good idea to take the lower rate.  Depending on the balance of your mortgage, a 1.85 percent cut in your interest rate could add up to a huge savings in total interest paid.

You can use an online calculator to figure out how much money you would save over the life of your loan, including the costs to refinance, by clicking here.  All you need is the balance of your mortgage, your current interest rate, how many months remain on your current mortgage, your new interest rate, the number of months in your new mortgage and the closing costs.  Enter these and it will calculate how much you would pay monthly and how much you would pay total.

As for tapping your emergency fund to pay the closing costs, my opinion is that this is an acceptable use of it, as long as you use the monthly savings in your new mortgage payment to re-fund it. 

Think about how long you will be in your home, use the calculator to estimate your savings, and if the refinanced loan will save you money, I say go for it!  Make sure to let us know what your decision is and how it turns out.

What advice would you give Jim?  Should have tap his emergency fund for some long-term savings?

If you would like to be featured in “Open Mic”, send your personal finance related questions to centsabilitytowealth@gmail.com.

Once a week I will run an “open mic” segment where I will post a question emailed by a reader of the site and attempt to answer it to the best of my ability.  I encourage everyone to also participate in the question by posting answers or additional questions in the comments.

Todays question comes from Anna Roberts in Salt Lake City, Utah.

I am a 66 year old wife, mother and grandmother of eight.  Now that my husband is retired, I want to be smart about our finances, but I also want to continue doing special things for my kids and grand kids.  My question is with the current financial crisis should we all be looking out for ourselves and putting as much money away as possible, or should we be doing our part to turn things around by spending money on ourselves and our loved ones to try and boost the economy.

This is a question I hear a lot lately, should you be doing your part to boost the economy by spending money, or should you be saving more than ever.  The answer, as always, depends on your own situation.

If you are in great economic shape, have your debt paid off, an emergency fund saved and your retirement accounts fully funded, right now is a great time to buy almost anything.  If you have been looking and saving to buy a house or car, there has rarely been a better time in US history to do it.  With interest rates at historic lows and prices falling at an alarming rate, right now is a phenomenal time to purchase a big ticket item.

If you are one of the few people lucky enough to be in financial shape, right now is the time to loosen the frugal belt a bit.  I’m not saying to abandon all the princepals that got you where you are, but if you find a good deal, don’t be afraid to take advantage of it.  Eventually this country will have to start spending again and the financially responsible will have to lead the way.

If, on the other hand, you are not in great financial shape, you should ignore the pundits on TV advocating you to spend and continue on your frugal path.  Before you can worry about the macro economy you have to get your own micro economy under control.  The economy will recover at some point.  By spending beyond your limits in an effort to help, your personal economy may not.

Your needs come before the economies needs.  Always look out for yourself first.  Be honest with yourself and assess your situation.  Are you in a position to start spending a little more money than normal, or do you still have work to do with your finances?

If you have the extra money, spend it.  Take advantage of the fantastic deals and get something you have always wanted.  If you don’t have the extra money, let this be further motivation to become financially free so that the next time an economic crisis hits (and there will be a next time) you are prepared to take advantage.

What advice do you have for Anna?  Are you changing your spending habits in this buyer friendly economy?

Please continue sending us any questions, suggestions and story tips to centsabilitytowealth@gmail.com