Counting on Cents

Book Review: YOUR MONEY RATIO$ by Charles Farrell (Post # 2) DEBT



Farrell, Charles.  Your Money Ratio$. New York: Avery/Penguin, 2010.  Print.

Charles Farrell is also providing a "Unifying Question" as it were for every situation.  The question he would like us to answer for ourselves is "Will this decision help move me from being a laborer to a capitalist".  (Farrell, Page 12)

I like this!  Mitt Romney is the typical reason we all want to be capitalists as opposed to laborers (even if you are a highly paid doctor, accountant, or lawyer). 

You pay less in taxes (15% versus 33% at the highest tax bracket) and it's really the only way to build wealth in a single lifetime. The laborer way is the paycheck to paycheck way.  The Capitalist way moves people up into a different economic level - delayed gratification is usually how one accomplishes this.

This provides the right backdrop to the questions that the book is asking us to answer using the 8 ratios for 5 questions provided.  To recap in my previous post, Post 1, I discussed two questions and two of the ratios to address the rate of savings and the amount we should have saved by now.

Of the five questions, here's the 3rd on and how we addressed it:

3. How much debt should I have at my age?  (Farrell, Pg 4) 

This one is complicated for us.  We have had a late start in life with respect to combined savings and started with debt.  Additionally, with refinanced rates on student debt below 2% and cars at 3% and mortgage at 3.25%, it's difficult to motivate ourselves to pay off the debt too fast.  I would rather have cash in the bank given the fact that if in a recession (which I still believe we are in) we don't have tenured certain jobs.  We are employed at will.

As for our late start in life....here's the story: 

We paid for our own wedding and it was more than we could truly afford.  I come from a culture where weddings are really the only occasion that families get together.  By that context, we did not spend as much as others but it still was more than we should have.  This was a socially necessary expense and would have caused rifts and broken relationships if we did not.  This is a reality not a perception.

We also incurred student loans and hubby was still not done with education or training. We started our married life with one student loan and one car loan each. 

In both our cases, we were also helping our families in any way we could including financial assistance as needed.  Being first generation Americans, this is a necessary expense and peace of mind for both of us.

 Back to the current now:

5 Years after college, Education Debt to Average Earnings Ratio is 0.45 

10 years after college, the student loan should be paid off. (Farrell, Pg 99)  

1. Due to historically low interest rates on savings- I paid off my student loan last year 10 years after graduating.  Prior to marriage I used to save my cash in CD's at 5-7% and not worry about the 2% loan payment. 
2. My husband is 2.5 years out.   He actually exceeds this ratio but the interest rate is so low, we prefer to pay off other debt first like a mortgage or cars.
3. Additionally, we cannot claim a deduction for student loan interest  any longer since we became joint income earners.

The book does not encourage auto debt or credit card.  While we use our credit cards responsibly and don't incur debt, we have 6 year low interest loans on both cars.  I have decided that, in the next six months we are going to work hard to pay that down or off depending on other expenses.

Age 35: Suggested Mortgage to Income Ratio is should be 1.9. (Farrell, Pg 79)  

We have bought a house that we can afford and when we refinanced recently, we actually paid off $35,000 to the principle.  We are well on our way and I don't have to extrapolate on my age versus his years from training.  The trade-off is that we are constantly fixing things as we bought what we could afford like a water heater, disposal that goes out, and putting up with shoddy construction issues like awful insulation (cold or hot in the house).

Conclusion:

I think on the debt side we are conservative and okay.  I give ourselves a B because of the car loans situation which we need to pay off.

Umbrella Insurance (Risk Based Approach) to protect your assets

Recently, I looked into the possibility of Umbrella Insurance.  Living out here in Texas, has done a lot to reduce our risk of "slip/fall" accidents or automotive insurance issues. 

What is the purpose of having insurance?  It is to reduce the risk of losing your hard earned assets due to the vagaries of life.

Primary policies (most common) cover: 

1. Workplace lawsuit (malpractice),
2. Death of a wage-earner (life), automotive accidents (car),
3. Sickness and bodily injury (health),
4. Damage to home (homeowners),
5. Loss of booked travel or illness when travelling (travel / med suppl). 

There is yet another category of insurance called umbrella insurance which covers over and beyond for the "gap" where your primary insurance leaves off. 

Some examples include:

1. You write a scathing review for an apartment complex in Chicago (appeared on the news in 2008 or so).  You get sued for libel/slander and have to pay up.
2. You have a bad accident where you were at fault and hit a doctor.  He can no longer work and sues you in NY for your assets and your future income.  You are wiped out financially for years.
3. Kids come into your back yard and use your pool.  Unfortunately tragedy strikes, and they drown.  You are liable for that.
4. You have front steps leading to your house and the USPS worker delivering your package trips and injures his back.  You are liable for that. Get the picture...

So how do you protect yourself and determine what is your risk and how much to protect?

So some considerations for us:

1. Lawyers are expensive.  I would rather insure to get the insurance companies to settle or work with the litigant.  I prefer to use the insurance companies legal department and not personally take the risk and pay a lawyer.
2. Being high -income family relative to the average income in USA, we are a good target for lawyers and ambulance chasers.  Our assets are liquid and easily discoverable. 
3. Living in a city, we are more likely to meet cynical people who will sue first ask questions later.
4. Living in Texas and after talking to our Home/Car insurance provider, we validated that future income is not likely to be garnished only current assets for the majority of claims.
5. Insurance is sold in 1 million increments and umbrella insurance is cheaper the more units you purchase.  We know a dual doctor couple in TX who have $3-5 million in coverage.  We also know business executives in New York City with $20 million in umbrella coverage.  But in NYC, they can continue to garnish future wages so the umbrella has to be higher. 


Conclusion: 

We determined we were low risk. 

1. I have reduced the primary risk of automotive incidents by being city drivers and living only 2-3 miles from work. 
2. I have reduced the risk of  home accidents - by not buying a house with a pool
3. We only using bonded insured labor in my yard and home. 
4. Live in Texas.  The liability caps on pain and suffering and a lot of other items reduce our future income risks and the award amounts.

We determined we wanted to cover double our assets to be safe.

1. We just don't have that much stuff.  We have a townhouse, 2 cars, Costo furniture/clothes, and no art, and no jewelry.  Homes are protected from lawsuit in texas. 
2.  All we have in assets are basically liquid in financial accounts and investments.  Additionally, my husband is business owner for a service-based business.   However the retirement accounts are protected from assets, and the business is a different entity from my husband and also has other partnered business owners.
3. So we are protecting our stuff and our cash/investments outside of retirement.

That made the calculation of umbrella coverage easy:

Coverage Amount = 2 X (Current assets)

Current Assets =  (Bank accounts cash + Value of investment accounts + Resale value of  Cars + Household good) -(House - Retirement accounts - Whole life insurance) 

In closing, we plan on continuing to use the 2 x Assets not covered by state liability protection laws.  If we leave Texas, we would increase it to 10 to 15 times more. 

 Also some example figures that were quoted on this supplement to our home/auto insurance with our provider.  It's cheaper overall to have it all with one insurance company:

For 1 Million = $150-200  per year

For 5 Million = $500-600 per year

Book Review: YOUR MONEY RATIO$ by Charles Farrell (Post # 1) SAVE

HOW MUCH SHOULD I HAVE SAVED OR BE SAVING RIGHT NOW?

I saw this book at the library and decided to give it a read. 

Farrell, Charles.  Your Money Ratio$. New York: Avery/Penguin, 2010.  Print.

I have to say I enjoyed reading it. 

Charles Farrell is a personal finance writer, adviser, and qualified as a JD, LLM - a lawyer.  So I know he knows how to write.  Given that in my line of work, I read a lot of legal and compliance documents, I expected a very dry long book.  On the contrary, it was easy to read and well written with a very simple vocabulary designed to reach a large number of American readers.  He writes for CBS MoneyWatch, so I should not be surprised. 

I am all for simplicity and answers to the questions that confound us all.  The thing about personal finance is that there are several factors that drive the "right fit" answers for each family or individual.   This book took that away and tried to give a reasonable answer using your income as the basis for the ratio. So I am going to start applying the answers from his ratios/unifying questions to our situation.

Of the five questions, here's the first 2 and how we addressed:

1. How much money should I have saved at my age?  (Farrell, Pg 4) 

2. How much money should I have saved at my age?  (Farrell, Pg 4)

The table provided Mr. Farrell was actually really really good answer in my opinion.  However it did not catch all situations. 

• For instance, my husband really just started working the last 2 years as he went to many years in school.  In his mid-30s, the answer of how much to save each year (12% - (Farrell, Pg 30) ) is quite reasonable.  However I would save more because he took so long to get into the workplace.  
• The Capital to Income Ratio for my husband per his age should be nearly 1.4 (Farrell, Pg 17) .  That's 150% of his income in savings, retirement funds, whole life, and annuities type of products.  That's impossible 2.5 years out of college . 
• Whereas I have been working after college for 10 years to date but am still younger than him by a couple years,  so that is more than reasonable for me.  So for a two couple house with such different stages career and age wise, how do we come up with the correct ratio for us? 
• I think we have to look at his income separate from mine..first my looking at our individual retirement accounts, whole life etc.., and then proportioning our incomes to our savings.  I have 1.5 times my income in retirement savings alone.  So target is met only for me. 
• For my husband, I would utilize the ratio 0.3 or 30% if I took the average of the ratio for 25 years and 30 years.  We are certainly meeting and slightly exceeding that target if you consider our combined savings in total for his ratio.

So I feel that gives us a lot of comfort.  We have interviewed 3 personal financial planners in the last year.  One is our insurance agent, one is a fee-only agent (came out to 1%) still as our accounts are small, and one was broker/agent for Merrill Lynch (2-3% and all our accounts under his direct control).  All of them were very impressed with our savings and retirement account size relative to where we are at in life.  So if nothing else, independent assessment that our savings rate is not bad for an American couple in their 30s especially with a long college haul.   

I feel this post will become too long if I address the whole book in one post.  I would like to use the tenants of the book to see how well it aligns to our situation to see if it's reasonable or not.  I am not writing obviously to every situation on this blog.  Only to our situation as a college educated family with professional careers that have required sacrificing income through our twenties for college debt and lower wage in the East Coast.

Look for post #2 as I look into the question of how much debt?