Reduce Debt or Save

By Ronny Miller

One of the most common questions we receive from credit union members sounds something like this,

“Should I pay off my credit card (car loan/mortgage/personal loan/etc) or should I save the money instead?”

A simple mathematician would tell you to pay off the debt. You are paying an average of 4% more on the debt than you are earning on your savings. It’s simple! Right? Maybe…maybe not.

Simple Math

You have a $100 mortgage charging 7%. That costs you $7 per year. So if you paid off the mortgage you would have an extra $7 to spend.

Your other option is to invest the money instead and earn a rate of return of 3%. This provides income of $3 per year. Now you would have to pay taxes on that. (Let’s assume marginal tax rate of 30%). That means, after taxes, you have an extra $2.10 to spend.

A difference of $4.90. So, mathematically it almost always makes sense to pay off the debt first.

In a perfect world we would all pay off higher interest debt first, but that fails to take into account many important factors.

1) Building an emergency fund which may save you from acquiring more debt later on.

2) Piece of mind in knowing you have a nest egg on which to rely.

3) Waiting too long to start saving may be the worst mistake of all.

The Psychological Factor

How would you answer this question?

“I want a debt reduction plan to pay off my credit cards. How should I go about paying these off?”

Most people would recommend listing the balances from highest rate to lowest rate and start paying extra on the highest rate card. This is excellent advice, but not what we would recommend.

First we say “Save!” If you are truly putting together a debt reduction plan, the best thing you could do to set yourself up for success is to have an emergency fund. Without question you will have an emergency at some point during your effort to pay off debt. A lot of people depend on credit cards to fix these emergencies.

Imagine just starting a debt reduction plan and then having to go into more debt due to a medical problem, car repair, or other emergency. How frustrated would you be? For most people this is all the reason they need to give up on the plan and go back to their old ways.

This is a great example of when you should save first to pay off debt second.

The time value of money

You can’t afford to wait. The power of compounding interest is a miracle of personal finance and the sooner you start the more benefits you can reap. Actually, the benefits are exponential. This is the reason Albert Einstein referred to compounding interest as “the 8^th wonder of the world”.

So, how does this apply to debt reduction? If you are choosing not to save in order to pay off a mortgage in 20 years instead of 30, you are losing 20 years of compounding interest. You cannot afford to lose that time.

Compound Interest Equation

P = C (1 + r) ^t

where
    P = future value
    C = initial deposit
    r = interest rate (expressed as a fraction: eg. 0.06)

    t = number of years invested

The “t” is the exponential part of this equation and it makes all the difference. Let’s look at two examples:

Let’s say you are 20 years old with 45 years to retirement. Saving $1200/year (100/month) and you average a 10% rate of return. You’ll retire with $948,954.38. Who knew $100 a month could almost make you a millionaire.

Now, let’s say you are 50 years old with 15 years to retirement. Saving $_________/year and you average a 10% rate of return. How much would you need to save to get your million dollar retirement? Go ahead, take a guess.

The answer: $28,000 a year. ($2,333/month). Ouch.

By the way, if you just saved $100/month for 15 years you would need to earn a rate of return of 45% to hit the millionaire zone. Not very likely.

The Bottom Line

Paying off debt is never a bad idea, but sacrificing long term saving to pay off debt is. Look at your personal situation and ask for help if you need it.

Conquering the Tall Mountains

Many Americans are finding themselves embarking into new, strange territory.

Saving

Maybe you have traveled this road before but somewhere along the way took a detour for a decade or so. Don’t feel too bad – the national savings average from 2001 to 2007 moved from 1.8% to 0.5%. That’s right – negative savings!

Over the last 18 months or so Americans have been re-energized to get back on the path to financial freedom by saving more than they have in the last several years. Blame it on looming job loss, potential pay cuts or the new rebirth of the required down payment but everyone is looking for ways to save a few more dollars each month.

As I talk to people every day, I find that it is really easy to start getting jazzed up to embark on the savings journey. It is easy to think of a goal that you want to save for, maybe it’s that new car, a down payment  for a house, college or even just retirement. But when that first tall mountain in the path comes, it is really hard to push through.

I like to think I am a savings pilgrim.

Imagine starting your journey as a pilgrim at the Missouri river and trekking through Nebraska or Kansas where the path is incredibly flat – you started your savings plan putting away a few bucks per month building a nice balance. But then your journey eventually takes you to Colorado and the Rocky Mountains.

I like to think I am a savings pilgrim that will brave the rocky mountains.

  On the other side of those mountains is freedom, an ocean of endless future. Over the past several years only a brave  few have set out on the journey to reach financial freedom. Today is a great day to start your journey, team up with other savings pilgrims and push each other through the tallest mountains.

I would like to hear about your mountain top savings victory and what your financial freedom looks like. Contact me or leave a comment about your success!

A Survivors Guide to Weathering a Financial Storm

Work force reductions and layoffs are a lagging indicator of the tough economic environment that businesses are operating in these days. With more and more companies forced to reduce their payroll expense to meet budget this year, many families are finding a family member back in the job market. Here is a list of some pointers that will help your family weather the storm.
1. Don’t do it alone
Many people find themselves attempting to manage the stresses of job loss and the ensuing job search on their own due to our cultural norm of individualism. We tend to hold to the idea that people succeed and fail due to their individual efforts; the reality is that success depends on relationships as much as it depends on the individual.
Look to family, friends and peers for coaching through the struggles and victories. Find opportunities to network with other professionals, you may even consider seeking out a professional job coach or counselor to help you identify your future career path. Listen to people when they tell you you’re good at something.
2. Find out about benefits available after you lose your job
One of the first phone calls you should make after the job loss is to the benefits department at your former employer. For health insurance, coverage usually expires the last day of the month in which your employment ends. Ask about continuation of medical coverage through a program such as COBRA, you will be responsible for the full cost of the coverage but it may be an expense worth taking depending on your specific situation. Also ask about your flexible spending account or health savings account. In most cases long term disability and life insurance coverage ends on the last day of the month in which your employment ends as well. For more specific information regarding your plan options please contact your benefits department.
You should automatically be sent a distribution/rollover packet from the 401(k) department that outlines all of your options. Typically 60 days are allowed before you must rollover the balance to an IRA or other qualified plan. Please contact me with rollover questions and options offered through the credit union.
  3. Get Organized
Getting organized and staying organized are essential to success in a new job search. Brush up that resume and put together solid references that can be called upon to give rave reviews. Determine and write down how far you are willing to go to find work, will you do part time or temp work? Research and keep files on the companies where you are applying, be sure to have a polished presentation of yourself specifically tailored to each position.
Getting your financial house in order is also essential to be able to focus the necessary attention on your job search. Sit down as a family to determine your new household budget; you may want to consider seeking the help of a professional to act as a sounding board for changes or to help you identify other areas where you could save. Please contact me if you would like help in this area!
4. Remember where your satisfaction comes from
Resist the temptation to cut out the gym membership and social events with friends, unless of course you cannot put food on the table for your family, but it should not be the first thing you cut. Look at this time as an opportunity to re-invent your career path and dive into opportunities that appeal to you. Stay positive and remember where you find your personal satisfaction.

Gallup FCU Investment Services

Gallup FCU is now a fee-only Registered Investment Advisor! This new piece of our business will allow us to offer client-centered comprehensive financial planning services to our members. From basic portfolio reviews to complete asset management, this new service expands our ability to assist you in achieving your financial goals. Please contact me to set up a time to review your financial positions!

Finding Satisfaction inside Your Means

Finding satisfaction in your life and in your finances is one of the biggest hurdles you must overcome to be financially free.
What is Satisfaction? Webster’s defines the word as “fulfillment of a need or want; a source or means of enjoyment.”
Think of a child at the store with mom or dad when they walk past the toy section. Immediately the child gets a glimpse of a new toy and starts the ‘I wants.’ Inevitably the parent gives in and buys the child a new toy. But what happens next time they walk past the toy aisle? It’s the same story, the child cries for a new toy – because she has not found fulfillment with the other toys in her life. How many times do we fall into this trap as adults?
“If I could only make $50,000 a year, then I would be set.” Then a few years later, “Okay, so I am making $50,000, but if I could only make $60,000 a year, then I would be really set.” And the cycle continues on and on. Many of us live in this rollercoaster for our entire lives never finding satisfaction, always looking for fulfillment from the next dollar. Maybe I could blame the American culture for pushing us to this mindset but that would not take ownership of the problem.
The bottom line is, if you enjoy life and find fulfillment with a modest income; when you earn more, you will continue to find satisfaction. However, if you cannot find satisfaction with modest means, no amount of money will drive you to a fulfilled life.
Where do you find satisfaction? What will you do to break the cycle and overcome the hurdle to achieve freedom?

Diversification in Uncertain Times

If there is one thing to be learned from the last year in the stock market, it is the value of diversification. I think that when most people hear discussion of diversification they immediately tune out because they believe they already know what it means. After all, clearly all it means to be diversified is to own multiple stocks or mutual funds, right? – Not quite.

I have been hearing a lot of this lately: “I am never going to be able to retire; my broker told me that equities were the best place to put my retirement savings, now because of the economy my retirement account has shrunk to half of what it used to be.” This logic reminds me of a 14 year old who while mowing the lawn lopped off the sprinkler heads and then told his dad that it was the lawn mowers fault. The market doesn’t make mistakes, just like the lawn mower doesn’t drive itself over sprinkler heads – in both cases the problem is operator error.

First off, let me say that when it comes to investing for retirement you have options, every retirement planner or broker has a “sure-thing” strategy that will make you filthy rich and secure your estate for generations to come. A few of the most recent strategies I’ve heard about involve complicated bond and treasury investing (I could write this whole article on reasons to be leery of these guys and their “strategies” but I digress). Many people have sworn off of stocks because of the last decade and maybe rightfully so.

You don’t have to invest in equities to generate enough money for retirement. To perform accurate planning you will want to use a lower assumption for your lifetime rate of return and you will want to think about some other options to help you reach your goals. You could:

1.) Delay retirement a few years
2.) Choose to live on less in retirement
3.) Save more pre-retirement
4.) Leave less to your children
(Or there is the more humorous fifth option… die earlier.)

Whether or not you choose to invest in stocks is a complete individual choice. For the average investor, equity type returns can be captured through mutual funds. It’s important to keep an eye on the expense ratios but mutual funds are nice because the stocks or bonds held within the fund are being actively managed by professionals who spend all day making sure your investment is performing.

By looking through your mutual funds prospectus you can see what individual stocks or bonds make up that fund. When determining whether or not your total portfolio is diversified look and see if your funds overlap in their holdings. Often large mutual fund companies own similar investments in multiple funds. Also look to make sure that a wide array of business sectors as well as different market capitalizations are represented in your holdings. Of course you should also re-assess your risk tolerance as you reach new milestones in your life, your investment profile will not be the same at 50 as it was at 25. If you would like to learn more about diversification or if you would like to have a comprehensive review of your portfolio, please contact me.

Would diversification have shielded you from any losses over the last year? Probably not, the market as a whole moved too substantially to avoid all losses; but if you were properly diversified according to your age and risk tolerance you would have mitigated your total loss and ultimately preserved your nest egg.

Lend Me Your Ear

Over the last year our economy has been plagued with bank failure, rising unemployment, looming national debt and social unrest. Even in Omaha, which is typically insulated, we have felt the effects of deteriorating markets to the east and west. Many people speculate that the underlying cause of all the gloom and doom stems from greed found at the highest levels of industry. I would have to agree.
Almost daily Gallup associates ask me the question “What is the benefit of joining the Credit Union? “
Of course I have a typical response that emphasizes the amount our members save on loans and our higher dividend rates on deposits, however, just in the last several months I have realized that the benefits we offer to Gallup employees and their families is much greater than just dollar savings.
I am employed by Gallup; in fact, all of the associates in the credit union are employed by Gallup. This is part of the reason why our business is able to offer services at reduced cost. More importantly this is why I don’t have to worry about hitting monthly loan processing metrics.
You see, a typical banker is paid according to how many loans he writes, no matter how good or bad they are. This is one of the major reasons that the mortgage industry is in such a predicament and is sinking the entire financial industry. The more loans the banker pushes through the system, the more he makes. It costs the same to process a $100 loan as it does to process a $1M loan, so every banker who works on a retail floor will try and sell as many $1M loans as possible because they get paid more. Is this system evil or bad? Not inherently, but truly the system is flawed. It’s flawed because the banker does not have any reason to care whether or not the customer can repay the loan, it simply does not matter to him; he is getting paid either way.
I am paid by Gallup to provide our members and non-members with honest, accurate, applicable information to help them make decisions with their best interest at heart. I am not paid to push loans or drive up volume. I have the privileged of knowing many of our members personally and I see them on a daily basis.
If you are still reading this article you must like the idea of working with people that have your best interest in mind.
The bottom line is, if you are tired of being worried about whether or not you are getting a good deal at your bank, or if you feel like you are not getting the straight talk (to steal a line from governor Palin) you want at your financial institution; I can guarantee you that you will get a good deal and the honest truth at Gallup FCU.