Avoid Getting Into Debt

I periodically post finance-related verses from the Bible and the Catechism of the Catholic Church.

As I finished up mid-morning prayer from the Liturgy of the Hours yesterday, I came across scripture that relates directly to personal finance.  From Romans 13:8-10 (or you can visit the Universalis web site for the full mid-morning prayer:  http://www.universalis.com/20120924/terce.htm):

Avoid getting into debt, except the debt of mutual love. If you love your fellow men you have carried out your obligations. Love is the one thing that cannot hurt your neighbour; that is why it is the answer to every one of the commandments.

After spending seven and a half years paying off student loans and finally becoming debt free last year, I felt a weight lifted off my shoulders.  For the five years I was in college plus the seven and a half years after, I had become accustomed to sending a check to Sallie Mae once a month.  Also, during that time period, on numerous occasions I calculated how many years and months remained until I was payment-free and could cash flow that money elsewhere.  While I incurred the debt in school, I didn’t realize that I was also adding stress to my life.

Needless to say, I agree with Romans 13:8-10 :)  My experience with student loans taught me that debt involves more than making somebody else rich with all your interest payments.  Debt also adds stress to your life and this stress is an intangible aspect of debt that one must account for when making financial decisions.

Cash Flow Planning

I took Dave Ramsey’s Financial Peace University (FPU) course last fall and learned quite a bit.  I entered the class not expecting to learn too much but came out surprised with the many fresh ideas Dave gave me.

One of my favorite lessons focused on cash flow planning.  Cash flow planning allows you to plan where your income (in flow) is spent (out flow).  Rather than following a “spend as you go” strategy, cash flow planning provides you a plan for the month ahead so you can consciously decide where your money will be spent.  This plan gives you visibility into what you truly *need*, what you *want*, and where you are wasting money.

Creating and Following a Cash Flow Plan

To create a cash flow plan, you can use plain old pen and paper or, what I choose to do, use a spreadsheet.  A spreadsheet lets me make easy comparisons month to month, use formulas to avoid math errors, and is just plain convenient.  Start by listing your take home income at the top of the spreadsheet.  Then list categories (like Saving and Philanthropy) and, within these categories, more specific entries (like House Fund, Roth IRA, Catholic Charities, Church):

Allocate every penny of your income to a category.  This will result in the total spent amount equaling your take home pay.  After following the plan for a month or two, you’ll see where you should plan to spend more or spend less.  Initially, I found following the plan very challenging but have grown to like the plan, especially since my most recent vacation was fully funded :)  Here is a link to my Cash Flow Plan in Excel 2010 format.

Pay Yourself More and the Credit Card Companies Less

The most significant benefit cash flow planning has brought to my financial situation is that of facilitating paying myself first.  Paying yourself first is the practice of taking money out of your paycheck as soon as you receive it and placing the money in savings and/or investing the money.  Ideally, you should set up an automated transfer where a given amount is transferred to your savings or brokerage accounts at the beginning of each month.  Having set up an automated transfer, I fill out my savings column without fail and avoid the “I forgot to make the transfer at the start of the month and now I don’t have any money left” excuse.  Paying yourself first takes money from a location where it’s easily spendable and puts it in a savings or brokerage account where impulse spending cannot easily reach.  Also, once you determine a suitable amount to put away, you’ll find that you won’t miss the money.

Another benefit of cash flow planning I’ve experienced is that of saving up for big ticket items (think vacations, car insurance payments due twice a year, etc.) in advance rather than putting them on a credit card and paying off the balance later.  Prior to attending FPU, I was in a cycle of putting large expenses on my credit card, paying the balance off over the course of a few months, then finding myself at square one when another large expense came up.  Cash flow planning allows you to save small amounts each month for upcoming expenses so you’re not put in the position of having to draw from savings or rely on credit cards when large expenses arise.  By eliminating credit card payments, you can then flow this cash into more worthwhile pursuits (saving, investing, vacation fund, etc.).

Get Started

Dave Ramsey’s web site has a great monthly cash flow plan and even includes Dave’s recommendations regarding how much of your pay check you should allocate to various categories:  http://www.daveramsey.com/media/pdf/fpu_monthly_cash_flow_plan_forms.pdf.  If you don’t already follow a monthly cash flow plan, I highly recommend creating one and being disciplined about following it.  You’ll minimize unplanned spending and put your money to better use.

Philanthropy: 40 Days for Life

One of my goals with this web site is to introduce readers to great causes where they can contribute their tithing dollars. There are plenty of charities out there, but only some that accomplish their missions while abiding by the teachings of the Church.  I hope you find this helpful!

40 Days for Life is a philanthropy that seeks to bring an end to abortion via prayer and fasting, constant vigil, and community outreach.  The organization was founded in 2004 at Texas A&M University and mobilized 1,000 people in its first campaign.  The initial campaign led to a 28 percent decline in abortions in that community, a demonstration of the group’s efforts at protecting human life.  From the Catechism of the Catholic Church 2270:

Human life must be respected and protected absolutely from the moment of conception. From the first moment of his existence, a human being must be recognized as having the rights of a person – among which is the inviolable right of every innocent being to life.

It must be noted that 40 Days for Life only engages in peaceful activity, so those holding vigil can focus solely on praying for souls.  I plan on volunteering with my local 40 Days for Life chapter this fall with the intention of adopting an hour or two per week to hold vigil.  To see if a 40 Days for Life chapter is near you, check their list of locations:  http://www.40daysforlife.com/location.cfm

To donate to 40 Days for Life, go to this URL and choose either the one-time gift link or the monthly scheduled donation link:  http://www.40daysforlife.com/donate.cfm.  For more information about 40 Days for life, visit their web site:  http://www.40daysforlife.com

Target Date Retirement Funds – Silver Bullet?

Target date retirement funds are fairly recent inventions created by investment brokerages to simplify the lives of investors.  Target date retirement funds take care of asset allocation for you, adjusting holdings to a more conservative mix as you near a fund’s target year, presumably a date near your retirement date.  As the fund nears the target year, stocks are exchanged for bonds or cash, effectively lessening the volatility of the fund and, as a result, helping to preserve your all-important retirement nest egg.

More and more 401(k) plans are offering target date funds due to their “set it and forget it” appeal and, accordingly, more and more individuals are choosing to place their dollars in target date retirement funds.  Although the funds have a one-size-fits-all veneer, it’s important to ask a few questions before investing in them.

Painting with a Broad Brush

Brokerages typically offer several target date funds, with a fund available for every five years from 2010 to 2055.  At first glance, it seems logical that you should choose a fund that is nearest to your retirement date.  One piece of information you should determine, though, is what holdings a given target retirement fund contains.  The Vanguard Target Retirement 2045 fund (VTIVX) holds 88.6% stock and 11.4% bonds and cash.  Fidelity’s equivalent fund, Fidelity Freedom 2045 (FFFGX), contains 73.4% stock and 26.6% bonds and cash.  An investor who is apt to take more risk would lean toward the Vanguard offering due to its almost 90% stake in stock, while a more risk averse investor would prefer Fidelity’s fund that holds close to 70% stock.  One size may not, in fact, fit all.  Additionally, holdings will change as a fund’s target date approaches and may change when a fund’s manager changes.  It’s important to take a periodic glance at fund composition to verify you are content with its holdings.

Fees, Fees, Fees

Just like asset allocation can vary from fund to fund, fees can vary, as well.  The Vanguard Target Retirement 2045 fund has an expense ratio of .19% while the Fidelity Freedom 2045 fund has an expense ratio of .76%.  While the roughly .5% difference may not seem like much, when you calculate the potential loss over the course of 30 years for a significant amount of principal, you stand to lose a good sum of money if you let expenses mount.  You have limited control over the amount of money you lose via the ups and downs of the market, but you can control which expenses you incur, so select a fund with lower expenses when choosing between similar performing funds.

Create Your Own

Due to not being content with the asset allocations in various target retirement funds, I have effectively created my own target retirement funds in my retirement brokerage accounts.  I decided on an asset allocation that I am content with (25% large cap, 25% mid cap, 25% small cap, 15% international, and 10% bonds) and chose five mutual funds in amounts that reflect this asset allocation.  As the market fluctuates, I rebalance my portfolio to maintain the desired asset allocation.  One advantage to this method of retirement investing is that I am effectively my own target retirement fund manager, can modify my asset allocation on my own timeline, can choose from many mutual funds, and don’t have to worry about a brokerage modifying my asset allocation.  A drawback to this method is that some funds have significant minimum investment requirements, so beginning investors may need to accumulate investment money for some time before investing in multiple funds.

For investors who prefer a hands-off approach, target date retirement funds are great options.  Coupled with an early start to retirement investing and regular contributions to retirement accounts, target retirement funds can help you grow a sizeable nest egg.  If you find that target retirement funds don’t exactly meet your needs, though, consider filling your portfolio with funds that match your desired asset allocation while minimizing fees.  By following either approach, you’ll be on your way to financial freedom in your retirement years.

Grow Your Retirement Portfolio with Dividends

In the past, I typically looked at four criteria to evaluate mutual funds for my retirement portfolio:

  • Asset Allocation – The asset classes (i.e., stocks, bonds, cash, etc.) I have chosen to invest in based on my timeline and risk tolerance.  Since retirement is in the distant future, I’m willing to incur more risk in seeking higher returns.  For me this means a portfolio that is heavy with stock funds.
  • Rate of Return – The higher this number is, the better.  I look at rates of return over large periods of time (five, ten, twenty year windows) since I have a long time until I retire.  Also, I compare rates of return with mutual funds in the same class (small-cap, mid-cap, international, etc.), with the goal of choosing a relatively better performing fund if I have the ability to choose from multiple funds within the same class.
  • Expense Ratio – The lower this number is, the better.  Expense ratios, measured as a percentage of your investment, track what it costs an investment organization to run a mutual fund.  If I am able to select from multiple funds within the same class and the funds have relatively similar rates of return, I choose the fund with the lowest expense ratio.  The lower the expense ratio, the more money you get to line your own, rather than somebody else’s, pockets.
  • Morningstar Rating – This rating measures how a mutual fund has performed relative to other funds in the same class.  Mutual funds are rated on a scale of five stars- this helps you to gauge whether a fund you’re selecting is a bad performer.  If a fund has one star, it’s in the bottom 10% of its class- stay away.  The next four stars chart the next best 22.5%, 35%, 22.5%, and 10% of performers.

This January, after evaluating the performance of my mutual funds, I discovered another criteria with which to evaluate mutual funds and stumbled across something that caused my balance to grow more than I expected:  dividends.  Dividends are company earnings that a given company can choose to distribute to its shareholders.  Not all companies distribute dividends, as a dividend distribution requires that companies have surplus cash.  Dividends are generally distributed once, twice, or four times a year and a company may choose to increase or decrease dividend payments, or may choose to start or stop issuing dividends according to the wishes of its leadership.  Note that dividend payments are included in a mutual fund’s rate of return, so use dividend yields as only one criteria when choosing to invest.

From December 2011 to January 2012, I noticed one of my mutual fund balances had increased by several hundred dollars, equivalent to slightly more than 3% of my previous balance.  My initial thought was:  “Wow, I wasn’t expecting this!”  I then became curious how to calculate this amount and how I might calculate future dividend payments.  Using finance.yahoo.com, I plugged in the ticker symbol associated with the mutual fund (FFFFX in this case).  I then went to the “Historical Prices” page and selected “Dividends Only” and clicked “Get Prices”. For the dividend issued on December 29, 2011, you see “0.25 Dividend”, which means I was given a dividend of 25 cents per share. To use a round number, let’s assume I started December 29 with 1,000 shares at an opening value of $7.36 per share, which translates to $7,360 total in FFFFX.  The 25 cent dividend was then multiplied by my 1,000 shares, for earnings of $250.  Rather than only experiencing an increase in share price, I acquired 33.97 additional shares, which will allow future dividend payments to grow, as future dividend payments will be calculated based on the 1,033.97  shares I hold rather than the original 1,000 shares.

A key takeaway:  Reinvest dividend payments.  This will allow for future dividend payments to multiply on top of previous dividend payments.  For long-term buy and hold investors, in addition to regular contributions, time, and compounding interest, dividends are an additional tool you can use to grow your retirement portfolio.

Philanthropy: LIFE Runners

An avid long distance runner, I have run one marathon, 11 half marathons, two 10Ks, and countless 5Ks.  I realized in high school that running is in my blood and have been running ever since.  I love running for the freedom it provides through discipline, for the competition, and for the occasional run where everything comes together and you tear down previously established limits.

One of the observations I made soon after I started running on the local 5K circuit is that every race has a beneficiary:  cancer research, sororities, firefighters, museums, or even the wallet of the person hosting the race.  Being focused on running, improving, and taking a shot at personal records, I am usually not concerned with where my money goes, but instead with where my competition and where my mile splits go.  My attitude shifted last year when it dawned on me that my money could be supporting the greatest evil in society.

A Change in Attitude

I don’t remember if a story on the local news or a story on the web clued me in, but I learned that the Susan G. Komen organization not only supports cancer research, but also provides monetary support to Planned Parenthood, an organization that provides abortions among its list of “services.”  Considering that the life issue is my primary political voting issue, I felt like an outright dope when I had this realization.

Several of my Catholic friends considered it old news when I brought my discovery to them.  Over time I had developed a position that bought the Komen foundation’s marketing:  “The color pink and the pink ribbon are symbols to rally behind.”  I acknowledge that cancer research and finding a cure for cancer are noble undertakings, but I refuse to support an organization that supports the murder of innocents.  Having made this discovery, I am much more careful now with where I place my racing dollars, even if it means sacrificing races that I have traditionally enjoyed or avoiding races with fast courses.  Additionally, I avoid giving time or money to Komen-related events and fundraisers and encourage others to avoid supporting the organization.

This experience begs the question:  If there are running organizations that are so blatantly anti-life, are there groups that Catholics should rally behind?

“Do you not know that the runners in the stadium all run in the race, but only one wins the prize? Run so as to win.” – 1 Corinthians 9:24

On a recent road trip, I had the radio set to the local Catholic radio station.  A talk show was on and the host was interviewing a gentleman who founded LIFE Runners, a running group that prays for the end of abortion and raises money for pro-life causes.  Discovering a running group that is authentically Catholic and pro-life raised my spirits and prompted me to learn more about LIFE Runners.

The vision and values of the group as stated on their web site:

Vision:  Pray and run as a team until we Cross the finish line that ends abortion.

Values:  Keep the Faith, Respect Life from Conception to Natural Death, Run so as to Win.

Last year the LIFE Runners team of 170 runners and walkers raised over $35,000 for free ultrasounds.  The group had members in 20 states and included 22 youth.  Members meet for monthly runs, pray before races, and attend pro-life events.  LIFE Runners provides you with either a marathon or half-marathon training plan depending on which distance you prefer.

Runners and walkers interested in moving their feet to support the cause should see if you have a local chapter (there are currently 31 chapters):  http://liferunners.org/chapters.  If you would like to start a chapter in your city, you’ll need a minimum of five runners and should contact contact@liferunners.org.  If you are interested in supporting LIFE Runners financially, visit http://www.firstgiving.com or follow this link to go directly to the personal fundraising pages of the team’s runners:  http://www.firstgiving.com/process/teamarea/default.asp?did=2488&teamid=187909.

Of course, let’s keep the team in our prayers and offer them abundant spiritual support as they carry on their important mission.

Compounding Interest – Why You Should REALLY Start Saving Now

In my previous post, I illustrated the power of time and compounding interest.  In my example, I showed what periodically putting money into a savings account bearing .8% interest can do over time.  This .8% figure is what a popular, large online bank is currently yielding in its savings accounts. As I illustrated, here is how your money could grow in a savings account:

Amount Saved Monthly 5 Years From Now 10 Years From Now 20 Years From Now 30 Years From Now
$50 $3,601.81 $6,248.53 $13,017.30 $20,349.62
$100 $6,123.62 $12,497.05 $26,034.59 $40,699.24
$200 $12,247.23 $24,994.11 $52,069.18 $81,398.48

It stands to reason that if .8% interest can provide you with significant growth over time, higher interest rates can accelerate that growth.  So, where can you find higher interest rates?

Your Money Working Harder

The stock market is a market in which shares of company stock are traded.  The stock market allows organizations to raise capital by selling shares and allows individuals to acquire a piece of ownership in a company.  Individuals who invest their money in an organization can gain money if the organization performs well.  The following are the average returns of large stocks for given periods of time as of October 11, 2011 according to usatoday.com (http://www.usatoday.com/money/perfi/columnist/krantz/story/2011-10-17/rate-of-return-for-stocks/50807868/1):

  •  5 years:  1.3%
  • 10 years:  2.0%
  • 20 years:  7.9%
  • 30 years:  10.5%

Investing in a single company does carry significant risk, though, as the invested dollars increase and decrease based solely on one company’s performance.  If the company performs well like Apple Computer, Inc. has in recent history, its stock could increase over 100% in a matter of months.  On the other hand, if a company performs poorly or engages in fraudulent practices (think Enron Corporation), your shares could become worthless and your dollars evaporate.

Mutual funds offer a way to purchase shares of stock while hedging against this type of risk.  Mutual funds are a collection of stocks, bonds, or other securities and can contain a single security type, or can contain a mixture of different securities (i.e., a mutual fund could contain 85% stocks and 15% bonds).  If the figures above caught your eye and you wanted to invest in a mutual fund that contained stock belonging to large companies, there are numerous large cap (short for capitalization; think “capitalization = size”) mutual fund offerings to choose from.  Two popular options are the  Spartan 500 Index Fund offered by Fidelity Investments and the Vanguard 500 Index Fund offered by Vanguard Investments.  Both of these funds track the Standard and Poor’s 500, a list of the largest publicly-traded U.S. companies.  Using the rates of return listed above, here is how different amounts invested monthly would grow over time:

Amount Invested Monthly 5 Years From Now 10 Years From Now 20 Years From Now 30 Years From Now
$50  $3,079.02 $6,569.83  $27,154.92  $108,528.90
$100  $6,158.04 $13,139.67  $54,309.85  $217,057.79
$200  $12,316.08 $26,279.33  $108,619.69  $434,115.59

As you can see, small amounts of discipline exercised on a regular basis can be hugely rewarding in the long run.  Compare the first table above to this table and see the incredible difference interest rates can have on your savings and investments.  If you are already saving and investing on a regular basis, see if you can put a little more away each month.  If you are not already saving or investing, now is a great time to start.

Compounding Interest – Why You Should Start Saving Now

My friend Lisa called me on tax day this year for savings advice and wanted answers regarding whether to open an IRA, how much to put in savings, and several other questions aimed at “let’s put together my financial portfolio on this phone call.”  I gave her my best shot with the caveat that financial decisions are more than a financial bottom line.  “Will you sleep well at night” is a question I posed frequently on the phone call and is a question I use to gauge my own decisions.

One piece of advice I did give Lisa is this:  Start saving now.  She retorted that she is not making very much money currently.  I suggested putting away at least a modest amount ($50 or $100) monthly to start.  Here’s why.

Money Down the Drain, Money at Rest, and Money at Work

Food, clothing, a roof over our heads.  We all have needs that we must provide for.  Day to day life, though, often causes our “wants” to creep into what seem like needs.  The morning latte, after work happy hour, and premium cable TV subscription go unquestioned and two hundred dollars are gone from the monthly paycheck.  This is money that goes to line somebody else’s pocket.  Sure, these expenses can bring us pleasure, but they are also dollars that are no longer in your wallet and can’t be used for important purchases (buying a house, car, engagement ring, etc.) or for major life events (college, retirement, etc.).  A timeline for these dollars and their value to you in the future can be summarized as follows:

Expense Amount 1 Year From Now 5 Years From Now 10 Years From Now 20 Years From Now 30 Years From Now
$200 $0 $0 $0 $0 $0

An alternative is to pay yourself these $200 every month:

Amount Saved Monthly 1 Year From Now 5 Years From Now 10 Years From Now 20 Years From Now 30 Years From Now
$200 $2,400 $12,000 $24,000 $48,000 $72,00

As you can see, a little discipline now can produce large rewards later.  What was a daily latte, a few drinks, or cable TV can turn into a significant charitable gift, a tuition payment, or a car.

Although these numbers are large, these same dollars can grow even larger.  Putting money to work for you via the power of time and compounding interest allows you to significantly increase your savings.  The following are examples of what a few amounts saved monthly can turn into when deposited in a savings account that yields .8% APY, a standard going rate as of 6/10/2012:

Amount Saved Monthly 1 Year From Now 5 Years From Now 10 Years From Now 20 Years From Now 30 Years From Now
$50  $602.61  $3,601.81  $6,248.53  $13,017.30  $20,349.62
$100  $1,205.21  $6,123.62  $12,497.05  $26,034.59  $40,699.24
$200  $2,410.43  $12,247.23  $24,994.11  $52,069.18  $81,398.48

The Math Behind the Scenes

Note how putting away $200 a month for 30 years will allow you to save $72,000.  Introduce a relatively low interest rate like .8% and you accumulate $81,398.48 over 30 years, with $11,398.48 of that amount generated passively (i.e., without you lifting a finger).  Here’s how the $11,398.48 is generated.

A year after you decide to put away $200 a month into your savings account, you’ll have an extra $10.43 in your account, for a total of $2410.43.  So you made an extra $10.43- big deal, right?  At the end of year two, not only will you earn the .8% interest on $4,800 ($200 x 24 months) principal you saved, but you will also earn interest on the previous year’s interest.  At the end of year two, you will have a total of $4,840.21, with $40.21 of that being earned interest.  Should you continue to put away the $200 each month for 30 years, assuming a static interest rate of .8%, you will reach the $81,398.48 figure, with $11,398.48 in earned interest.

Note that my calculations are based on interest compounded monthly with additions made at the start of each compounding period.  Different banks will have different frequencies of compounding and different frequencies of posting, so keep this in mind when you start plugging away at online compounding interest calculators, as these variables will affect your overall savings.

Interest Rates and Time

Interest rates and time are key in passively growing your hard-earned cash.  The tables above also illustrate the power of time.  In a future post, I’ll explore other methods of saving that can allow you to grow your savings even faster over the same periods of time.

Finance from a Catholic Perspective