CommenTerry

Why Be a Cheapskate to Yourself?

I've often wondered why some people are willing to work so hard to save a little bit of money. Here's one example: There are people who will work 100 hours a year, keeping records of various expenditures, in order to save $500 a year in taxes. Think about it - 100 hours to save $500 - they are paying themselves $5 an hour. That's less than the minimum wage! Now if were to offer them $5 an hour to do some work for me, they would be insulted and would probably ask me if I was crazy. Yet they would be willing to pay themselves such a minuscule wage.  Go figure!

Another Major Advantage to Saving

I can never stess enough to young people the importance of saving money. Here's just one of the many advantages: Having money in savings allows a person to take advantage of "fire sales" in which items are being sold well below their actual value out of desperation on the part of the seller. At a time like that, the seller is trying to raise money very quickly and buyers generally have little or no time to search for a loan. Those with the ready cash usually snap up with goods. Those without the cash lose out.

Buy Now -- Never Mind What It Costs!

I recently received a flyer from my cable company, announcing the availability of its new high-speed internet service. The price of the middle tier was advertised at $27 per month for the first six months. Nowhere on the flyer did they state how much it would be after the first six months. I promptly threw it into the trash can. I refuse to purchase something from someone who withholds information about the cost of that product. Obviously, there's something about it they don't want me to know.

Should You Make Extra Principal Payments?

Many financial advisors will recommend that home owners include a little additional principal with their mortgage payments each month. For a just little extra each month, they can take years off the end of their payment schedules. Very often, an extra principal amount of just $25 per month and can wipe out as many as five years from the end of a payment schedule, in effect reducing a 30-year mortgage to just 25 years.

Similarly, others recommend setting up a bi-weekly payment schedule, which will result in the equivalent of 13 full mortgage payments a year. This, too, will cut years from the end of a mortgage payment schedule. Therefore, with very little effort and for only a minimal of extra money, people can greatly reduce the amount they have to pay back over the life of their mortgages. 

So, this is no-brainer, right? Shouldn’t everyone be doing it? Well, not really. Like many other things in life, it’s not as good as it sounds. If you never have trouble making your mortgage payment and you intend to keep your house until you pay it off, then you can greatly benefit from sending in those extra principal payments. If not, it may not be such great idea.

Let’s suppose you make those extra payments that result in five years theoretically being chopped from the end of your payment schedule, but then you decide to sell after being in the house only 15 years. What kind of benefit would the extra money ultimately get you? You would get none at all. That’s right -- you would get absolutely no benefit from having sent in all that extra principal money.

The benefit is derived from taking payments away from the end of the schedule. It is completely a back-end benefit. However, if you don’t allow yourself to get to that point, you will never realize a benefit. But don’t you benefit from less principal to pay off when the sale is made? You do, but you can get a greater benefit by putting that extra money in a savings account each month instead of sending it in to your mortgage company. At least, you could get some interest on your money by putting it in savings. The mortgage keeps your money, interest-free.

Here’s another thing to consider as well. If you sometimes have trouble making your mortgage payment, it is probably not a good idea to send in the extra principal. The reason is that the extra money you send in this month will not help you next month or the month after that. Let’s say you have an $800 per month mortgage and send in an extra $200 for four consecutive months. However, in the fifth month, you suffer a setback and cannot make the payment. The mortgage company will not use the use the extra $800 you paid over the previous four months as a substitute for the fifth month’s payment. You will be in default.

You would do better to sock away any extra money you might have in a given month and use it to pay your mortgage in those months when money is tight. It would be a shame to have your house foreclosed on in spite of the fact that you actually paid more over the time you had it than you actually had to.

Million Dollar Fantasies

I'm continually amazed at what many otherwise intelligent people think they could do if they won one million dollars. A regular feature in my local newspaper asks people what they would do if they won that amount of money. Some of the responses are mind-boggling.

One lady responded that she would pay off her house, buy new homes for everyone in her family, spend a lot of time traveling (with her assumption, I suppose, that she would be able to at least temporarily quit working), and give the remaining money to her church. She obviously overestimates the potential benefits of winning one million dollars.

First of all, she would not get the full $1 million. At least 40% of her winnings would be immediately gobbled up by federal, state, and local taxes, so she would be left with no more than $600,000. Then, assuming she still owed $100,000 on her mortgage and she bought homes with an average price of $200,000 for each of three family members, she would already be $100,000 in the red before ever getting to her travel plans or the donations to her church.

Even if she put the whole $600,000 in investments and savings, it would only earn her a modest $60,000 a year income, assuming a 10% annual return. That would be a pay cut for me!

Be Careful When Saving with CDs

It's usually not a good idea to lock into long-term (three to five year) certificates of deposit when interest rates are still going up. You wouldn't want to lock in a rate of 4.5% for a five-year CD, for example, and then see rates for five-year CDs go to 6% a year later. It's generally best to buy them during the stable period after interest rates have been climbing for a while.

Unlike the stock market, directions of interest rates set by the Federal Reserve are a little more predictable. They will go up for a while, stabilize for a while, go down for a while, stabilize for a while, and then repeat that pattern.

They Have a Funny Way of Finding You

Never think that you have gotten out of paying any money you owe, whether a bill, fine, or overpayment made to you, just because someone has temporarily forgotten about it. Somewhere down the line, a bean counter is going to do an audit and catch it. Payment (sometimes along with interest and/or a penalty) will then be demanded from you.

Why I Can't Get Excited About Retirement

So many people, even those in their 30's and 40's, are gleefully looking forward to the day they retire. After all, many of them will have well over $1 million in their 401(k) plans and/or IRAs by the time they reach retirement age. If money were the only factor in the retirement equation, their happy anticipation would be justified.

Unfortunately for many of them, retirement will still be a bust, despite the big nest egg. Not even counting those who will drop dead before drawing their first dollar of retirement income, a high number of them will have poor health from day one of retirement. I have yet to see a sickly old man or woman in a nursing home who was impressed with how money he or she had for retirement.

The Fallacy of So-Called "Interest-Only" Loans

So-called "interest-only" loans are all the rage right now, but they'll get many borrowers into hot water if interest rates begin to rise quickly. First of all, the phrase, "interest-only", is a fallacy. While the borrower is not required to pay back any principal at first, beginning somewhere around year five to year eight, he/she must begin paying back the principal. For example, let's say the required principal payback period on a 30-year mortgage begins in year six. From then on, he/she would be required to pay back 1/25 of the principal ($10,000 on a $250,000 loan) annually.

Now, if the borrower does not expect to keep the house very long and is looking for quick run-up in price before selling it in a few years, some lenders and mortgage brokers will push these interest-only loans. They use the initially low payments as an enticement. These types of loans would ultimately be the best choice if (1) the price run-up actually occurs and (2) interest rates remain relatively low.

The real estate "bubble", which led to sharp increases in property values over the last several years, has apparently begun to burst, leaving some property owners with mortgages that exceed their actual property values. Even those with conventional have been adversely affected. But interest-only mortgages, as many had predicted, have proven to be additionally problematic since this downturn.

Also, if interest rates rise quickly, borrowers might not be able to get out from under their interest-only mortgages so easily before their payments considerably increase (by $333 per month on just a $100,000 mortgage, using the example above). That's because interest rates might be so high that (1) they may not be able to afford new/refinanced mortgages and/or (2) they may not be able to find anyone who can afford to buy their current houses.

Would a Cash-Only Exchange System Be Beneficial?

Sometimes I believe we would all be better off financially if we went to a cash-only exchange system and completely discarded checking accounts, credit cards, debit cards, etc. I don't carry around much cash, but I'm much more careful about the cash I spend than the money I spend writing checks or using my credit card (even though I pay off the balance every month). Cash just seems more like real money, so I'm more careful about how I spend it and I'm more likely to account for every penny.