The Law of Inertia

A major component of success is having the willpower to actually do something. This is certainly true in regards to personal finance, but it is also true in many other facets of life. And of course, since it is such a major component of success, it also tends to be one of the more difficult things to master. Isaac Newton captured the idea quite well when he documented the law of inertia. He stated that an object at rest will remain at rest unless acted on by an unbalanced force. This is another way of saying that your situation, task, to-do list, debt burden, etc. is not going to change unless you act upon it.

Take a look around, and it’s easy to see this in practice almost anywhere. Listen and you’ll hear a lot of people complaining about their lot in life. People hate their jobs, never seem to have any money, have unhealthy relationships, can’t seem to get ahead, etc. However, one commonality among this is that quite often the people doing the most complaining are the least likely to actually do anything about their situation. It seems so simple: if you keep doing the same thing the same way, you’re going to be in the same situation. But trying to make changes in your life can be very difficult.

Even on a smaller scale, we all have little projects that are on our list of things to get done that never seem to actually get done. I’m certainly not exempt from this. I can name a few right now:

– Our upstairs bathroom has a squeaky hinge. I have to be very careful in the mornings when I’m getting ready for work not to move the door too much, because it will wake our little boy down the hall. I make a mental note of it every morning and tell myself “I need to get some WD40 and oil that hinge.” Our little boy is now a year old, and I think I’ve been telling that to myself for the entire year. Yet this morning when I was getting ready, the hinge on the door still squeaked. I made another mental note to buy some WD40 and oil the hinge.

– Since we moved into our house in fall 2008, the downstairs half bath / laundry room has had a burnt out light in it. The room has multiple light sources, so I never bothered to replace the one that was burnt out. It was one of those long, florescent overhead lights. I’d never changed one before, and thought it would be difficult and that the bulbs would cost more than standard ones. This weekend, we finally replaced the burnt out bulbs. It was super easy, and the bulbs were pretty inexpensive. The room looks a lot nicer with the extra lighting.

– We had a regular trash can in our kitchen. It always seemed to be in the way, and the lid didn’t stay on too well. My wife always complained about it and told me she wanted one of those under-the-cabinet, slide out trash bins. They’re more convenient and would clear some floor space in the kitchen. I added it to my mental “to-do” list and kept it there for three years. It was just easier to leave our current trash can in the kitchen. But finally I took the action, went to Lowe’s, bought the under-the-cabinet trash can, and installed it. It really is a lot more convenient, and the kitchen looks a lot nicer with our old trash can out of there.

All three of those situations have some common characteristics:
1. They all required me to go out and purchase something to be able to complete the task
2. They all required me to take time out of my day to work on the task
3. Once the task was completed (though the first one isn’t yet complete), I looked back and said to myself “I should have done this a long time ago”

Conclusion
The point is that it takes a concentrated effort to generate enough inertia to get things done. It’s always going to be easier to leave things the way they are now, but that doesn’t solve the problem. Your hinge will always squeak, the lighting will never be as good, and the trash can will always be in the way. Sure, you’ll get used to those things and come to think of it as normal. But, imagine how much better it would be if you actually took the time to take care of the situation. Just a little something to think about as you start your week…

Life Insurance: What, Why, and How Much?

Life insurance is one of those things that we would rather not have to think about. It reminds us that life is finite, and that no matter how careful we are with our driving, our health, our habits, etc. we only have limited control over when we die. It’s a rather sobering thought.

Even more sobering is the thought of leaving your family to deal with the financial aftermath of it all if you don’t have life insurance. Here is where the questions start and what today’s post attempts to answer. Generally, there are four primary questions regarding life insurance:

– Who needs life insurance?
– Why do I need life insurance?
– What kind of life insurance do I need?
– How much life insurance should I have?

Before getting into the answers, it helps to define what exactly life insurance does. Basically, when you purchase a life insurance policy you enter into a contract where you agree to pay a certain dollar amount (called a premium) every month/quarter/year in exchange for a certain dollar amount (called the face value) when you die. Insurance policies generally exclude death due to suicide, acts of war, and other things, but every policy is different. Be sure to read the fine print.

Who needs life insurance?
The purpose of life insurance is to protect against loss of income when a person dies. Depending on your individual life situation, you may or may not need life insurance. For example, a single person with no dependents probably doesn’t need life insurance (or at least only a small amount to cover funeral expenses). In this case, there is no surviving spouse or children that need your income to provide for them. But if you have anyone that relies on your income for support, you need life insurance.

In general, you probably need life insurance if:
– You are married
– You have children

Why do I need life insurance?
As I mentioned above, life insurance is to protect against loss of income. Using myself as an example, my income is super important to my family. We are a single income household, with my wife staying at home to take care of our son. If I were to die, they would absolutely need to replace my income. We have a mortgage on our house, we have an automobile loan, and we have Tyler’s college to help pay for. And all of these things are beside the fact that it takes money to buy groceries, pay the bills, and have a little fun every so often.

Everyone’s situation is different. Maybe both you and your spouse work, and you have no children. But maybe your mortgage is too large for your spouse to handle with only their income if you were to die. Maybe you’re a single parent with children. Should something happen to you, your life insurance could provide for your children. Or maybe you just want to leave your spouse or children a pile of money if you die. The point is that most people need life insurance to some extent. You may not need enough to replace your entire income for 40 years, but you need something.

What kind of life insurance do I need?
There are two primary types of life insurance: term and whole life. The difference is that term life insurance, as its name implies, is only effective for the term of the policy. You can get terms as short as 5 years to as long as 35 years. So, if you die within your policy term, your beneficiary receives the face value of your insurance policy. If you die after the term expires your beneficiary receives nothing, as the policy is no longer active. Term life insurance generally offers the lowest rates, and is generally the type of insurance most people should have. Whole life insurance is effective until death, so you don’t have to worry about out-living the term of your insurance policy. However, the premiums for whole life insurance are higher than for term life insurance.

Personally, I purchased a 30-year term policy for several reasons. After 30 years, our son (and maybe other children) will have grown into independent adults and will no longer need my income for support. After 30 years of regular contributions, our retirement fund will be sufficient to provide for my wife’s needs.

A lot of insurance agents get paid (at least partially) on commission based on the annual premiums of the policies they sell. As such, there is an incentive to recommend whole life policies that cost more, but that most people don’t really need. Stick to your guns and go with term life insurance.

How much life insurance should I have?
There is no one answer to this question. A lot of times you’ll hear guidelines saying that you need 8 to 10 times your annual salary as life insurance, but that is a VERY general rule. It doesn’t take into account your personal situation, which may indicate that you need either more or less than that. Here are a few steps to figure out how much you really need.

1. Add up all debt you want paid off if you die.
For us as a one-income household, I would want our mortgage and car loan paid off. Having those two monthly payments gone would be a huge help to my wife and son. (Total insurance need: $120,000)

2. If you have children, estimate how much they’ll need for college.
Education is very important to us, and we want to make sure that if something happened to me that Tyler would still be able to afford college. The difficulty here is figuring out how much tuition and housing will be 18 years from now. A good guess is that rates will keep rising around 5% a year. So, if I figure a year’s tuition, housing, and books at a good state university right now is around $20,000, I should plan on just over $200,000 for his four years of college.

3. Figure how much income will need replaced for your spouse/children to live on
This is the most difficult part and can vary widely depending on your situation. In a two-income household, you may not need to replace as much of your income. Personally, our thoughts were that we wanted enough to replace my entire income until our son was in school (when my wife would re-enter the workforce) and then replace half my income from then until Tyler was 18. One thing to point out is that we included retirement savings as an expense in these figures. So, my wife would still be contributing to the retirement fund all this time. (Total insurance need: $500,000)

As a side note, I think very highly of my wife and have no doubt that if I die, it won’t take long for a line of suitors to come after her. And if she re-marries, our life insurance need would be less.

I know that over the 30-year term of this policy, things can change. We could have additional children. Our debts will gradually become lower. The longer I live, the fewer years of income replacement will be necessary. Life insurance is not an exact science. There’s no way to know what your exact needs will be 10 years into the term, but getting a good ballpark figure when you start helps out. If our insurance needs change dramatically in the years ahead, I can purchase an additional policy.

The Costs of Raising Baby: Medical Care

Today’s post is the fourth in the ‘Cost of Raising Baby’ series. So far, we’ve covered formula, diapers, and clothes. This post will cover the costs of medical care, from the moment you find out you’re pregnant to your child’s first birthday. We’ve actually spent more on medical care than anything else.

Insurance

What you end up paying for medical care is going to depend almost entirely on your health insurance plan (if you have insurance). I’ve heard some people talk about how their delivery cost $250, and I’ve heard some other people talk about how their delivery cost $5,000. I’m not sure what the “average” insurance is like, but it’s probably somewhere between those two figures.

We have health insurance through my employer. There is a $300 deductible per person, after which insurance pays 75% of the medical bill. There is also an out-of-pocket maximum of $2,300 per person. So, say I break my arm and the doctor bill comes to $800. My out of pocket cost is the $300 deductible, plus another $125 (25% of the remaining $500) for a total of $425. If the bill was a lot higher, say $5,000, my out of pocket cost is $2,300 (the maximum amount). I’m assuming that many health insurance plans are similar to this structure.

Our Medical Costs

The total of all our medical costs relating to the pregnancy, childbirth, and first year expenses has come to right around $3,500. Basically all of this represents pregnancy and delivery. With this being our first child, I had no idea what to expect. There are quite a few rounds of bloodwork and doctor visits throughout pregnancy that really add up. Then there were the prescription pre-natal vitamins. However, none of those came anywhere close to the bill for delivery. As expected, that was the largest expense. (For comparison, the total bill would have been around $23,000 without insurance.)

One positive is that since he was born, the out of pocket expenses have been very minimal. Insurance covers 100% of his well-visits and immunizations, which would cost an additional $2,800 without insurance. I’ve heard of other insurance carriers not covering these, which is a scary thought.

How To Soften The Blow

Insurance limits and deductibles work on a calendar year basis. Since our pregnancy started in July, delivery was in April of the following year. So our out of pocket expense was higher than if the entire pregnancy and delivery were in the same calendar year. We not only met our deductible and some additional costs at 25% of the bill for 2010, but we also met our deductible and out of pocket max of the full $2,300 for my wife in 2011 (due to the cost of delivery). Granted you can’t really control when you conceive, but, if you could, it would definately save money to conceive in the early part of the year and deliver that same year. (There are also tax advantages starting the year of birth, such as the additional exemption and child tax credit.)

One thing we were able to take advantage of was the flexible spending plan from my employer. This plan (also known as a Flex Spending Account, or FSA) allows you to set aside a certain amount of money from your paycheck on a pre-tax basis to pay for medical expenses you incur that year. The annual enrollment period for this in the fall, so we knew by then that we were pregnant and would be delivering the following year. I knew we would incur significant medical expenses with having a baby, so I elected to contribute $2,000 of my 2011 pay to my FSA. This worked out wonderfully.

My biweekly paychecks were reduced by around $77 ($2,000 / 26 paychecks), but when the hospital bill arrived in April I received the full $2,000 in funds from my FSA to go towards the bill. So one perk is that the full $2,000 was available to cover my bill in April, but I had the entire year before my payroll deductions came to the $2,000. Effectively, I was able to spread out the hospital bill over the full year rather than paying it all out of pocket at once. As a note, you can contribute up to $5,000 annually to an FSA.

Additionally, because FSA contributions are taken out on a pre-tax basis, my taxable income was $2,000 lower. If you are in the 15% tax bracket this is a $300 savings, and a $500 savings if you are in the 25% tax bracket.

Regarding immunizations once your child arrives, if your insurance provider does not cover these be sure to check with your local health department. Typically, they will provide immunizations at a very affordable price.

A final strategy is to plan in advance. My wife and I knew that we wanted to start our family, and that we wanted her to stay at home with the baby. So, before we started trying to conceive we worked hard (both her and I) to save up enough money to cover all the expenses we would run into with having a baby. I am so glad we did, because it makes things so much easier to deal with. Even if you don’t start saving that early, you still have 9 months after you find out you’re pregnant. You can save a lot of money in 9 months if you really work hard at it.

Your Stories
How much did your childbirth cost and what were some strategies you used to help cover the cost? Share your story in the comments section below.

Why You Need an Emergency Fund

There is a lot of financial advice out there that a lot of people just seem to ignore. Maybe they just don’t feel like the advice is important or worth the trouble. Maybe they agree that it’s good advice, but they don’t feel that they’re in a financial position to follow it. One such piece of financial advice is having an emergency fund.

What is an Emergency Fund?
The concept of an emergency fund is really simple: set aside some money in a savings account to cover unexpected financial emergencies. Think of an emergency fund as a personal insurance policy. It protects you from the unexpected.

Why Do I Need One?
Financial emergencies are going to happen. No one is immune. If you have pets, they will undoubtedly have an expensive vet bill at some point. If you have children, they will either break a bone, need braces, or any one of a million things that can happen with kids. If you have a car, it will break down and need repair. You could get sick and miss several weeks of work. You could get laid off and spend several months unemployed before finding another job. The list goes on and on.

Without an emergency fund, you are forced to handle these emergencies on your own with your regular monthly cash-flow. And if your cash-flow is already pretty tight, an emergency like I mentioned above can easily send you over the edge. You may have to put a car repair bill on your credit card and carry the balance or get a payday loan for quick cash to cover a large expense.

How Much Do I Need?
The “experts” commonly say that a two income family should have 3 to 6 months of expenses saved in an emergency fund, and that a single income family should have 6 to 12 months of expenses saved.

I know what you’re thinking. How on earth am I supposed to save that much money when it’s hard to get by now. Don’t get too hung up on the actual amount. The important thing is simply to get some money set aside, even if it’s only $250, $500, or $1,000. While it’s true that a $250 emergency fund isn’t going to cover the full cost of many emergency bills, it will at least be $250 less that you’ll have to put on a credit card.

How Do I Get Started?
One easy way of starting your emergency fund is by using your tax refund (if you are receiving one). Simply move that money to a savings account when the check or direct deposit comes in.

Another way is to sell some unused items laying around in your house or apartment. You can list items online at eBay or craigslist, or have a yard sale. Put all the proceeds in a savings account, and you have the beginnings if an emergency fund.

Finally, set up an automatic transfer to a savings account from every paycheck. If you aren’t sure how to this, ask the payroll department at work or ask your bank/credit union. It’s really simple to do, and once you set it up you’re done. This will make saving automatic. If you get paid biweekly, a $250 emergency fund comes out to just under $10 per paycheck, a $500 emergency fund would be $19 a paycheck, and a $1,000 emergency fund would be $38 a paycheck.

Then you can sleep a little bit better at night, knowing that if an unexpected financial expense comes up tomorrow, you’ll be able to handle it.

Your Financial Journey: Step 2

Yesterday I discussed the first step in getting your financial journey started, which was determining your current financial position. Today I’ll cover step two: Determine where you want to be. What are your financial goals?

This seems simple enough. First determine where you are and then determine where you want to be. A lot of people make personal finance out to be some complicated system, like a mathematical algorithm that only the smartest people can figure out. But the truth of the matter is that personal finance is simply about making the choices necessary to best meet your financial goals. But let’s take a step back and discuss goal setting.

Financial goals can be very different from person to person, family to family. And that’s ok. We’re all different and shouldn’t have the exact same goals. There are certain goals that for most people are similar, such as saving for eventual retirement, paying off high interest debt, buying a house, and so on. But there is no one best way for everyone to achieve those goals.

Goal Timeline
It works best when you have goals covering different timeframes. For example, you should have a short-term goal (up to a year), a medium-term goal (1 to 5 years), and a long term goal (over 5 years). Having goals with varying timeframes helps keep you focused. If you only have long-term goals, you’re more likely to get discouraged at how long it’s taking to achieve. If you only have short-term goals, you can lose sight of important long-term necessities like putting money aside for retirement.

Realistic Goals
When setting financial goals, make sure they are challenging enough to make you have to work for them, but not so challenging as to set yourself up for disappointment. For example, if you have $50,000 in student loan debt but only make $35,000 a year, it wouldn’t be a realistic goal to pay off your entire student loan in a year. You could certainly make it a 5-year goal, though. It would be challenging, but doable, depending on your other financial obligations.

Our Financial Goals
Seeing our goals as an example may help you in setting your own goals, so here they are:

Goal #1:
Save money for a downpayment on a house, so we can move to another school system by the time Tyler starts school. This is a medium-term goal, since Tyler is 1 right now, and will start school when he’s 5. So, we want to achieve this goal within 4 years. It’s a challenging goal, because we’re looking to save around $20,000 by then.

Goal #2:
Be able to pay for at least half of Tyler’s college expenses. This is a long-term goal since Tyler won’t be starting college until age 18. With all the expenses of raising a baby, saving now for his college is challenging. I have a worksheet showing how much we need to save each year, starting with a small amount this year and gradually increasing as he gets older.

Goal #3
Pay off our credit card debt in the next six months. Thankfully, we do not have thousands of dollars in credit card debt. I know others do, and it’s a challenge for them to make a dent in paying it off. We have a very small amount that is still in the zero interest introductory period. It isn’t a huge financial burden on us, but I’ll feel a whole lot better once it’s completely gone. There’s a lot of expenses that come with a baby, and we accumulated a little bit of debt in the process. This is another short-term goal.

Goal #4:
Be able to retire somewhere between age 60 and 65. This is obviously another long-term goal, as I have around 35 years to go for this one. I contribute regularly to my 401k and am seeing my balance slowly but surely get larger.

Your Goals
Your goals will be different from ours, and that’s fine. But it’s important to write down your goals and make them a priority for you. Your goals are an important part of your financial journey. You have to know exactly what you want to accomplish.

Our Story: Part 2

Yesterday’s post gave you the basics of who we are as a family, though I realized I forgot to mention our dog. We adopted a retired racing greyhound just over three years ago, named Fin. He’s a pretty big dog at just over 70 lbs, but he’s a great dog. He gets along well with Tyler and I have a feeling they will become best friends as Tyler gets older. (The picture below is a little old, but I love it)

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Now that we have the entire family introduced let’s back to our family’s goals. We covered the first two yesterday:
Goal #1: Move to a certain neighboring city by the time Tyler starts school.
Goal #2: Raise good kids.

Today we’ll cover two more.

Help Pay For College: Goal #3
As mentioned yesterday, education is important to us. Today’s job environment requires bright people with a desire to continually learn new things. It’s been well documented that those with college degrees on average earn significantly more than those with only a high school diploma. However, the price tag of that degree is rising far faster than inflation. We opened up a 529 college savings account for Tyler the year he was born and started contributing for college. Granted, with all the costs of taking care of a baby in their first year of life we aren’t contributing a whole lot to his 529, but at least we’ve started. I wholeheartedly encourage anyone planning on sending their children to college to open a 529. Even if you can only put $25 a month into it, it is well worth it. Your children will thank you when they graduate with no (or at least less) student loan debt, while some of their classmates graduate with loans equalling a small mortgage.

One important note with this goal is that I acknowledge that our son may have no desire to attend a traditional 4-year degree program. That is perfectly fine, and I’m not going to force my choices on Tyler. Instead I will encourage him to pursue the career path that best fits him. Maybe he will be interested in a technical field and become a mechanic or electrician. The benefit of a 529 is that it can be used for training programs other than your typical college degree. It can be used for technical school or similar training programs. And whatever career path Tyler chooses, education beyond high school is a virtual must-have to be competitive in the job market.

Retire (Preferably Early): Goal #4
I know this goal (or something similar) is probably on everyone’s list of goals, but it’s important to list. It’s easy to lose sight of this goal because for so many of us it seems so distant. But if we lose sight of it now, it becomes much harder to achieve later on.

Being 28 years old, it’s difficult for me to know exactly what I will want my retirement to be like. It seems like when commercials talk about retirement there’s always some sort of beach house with adirondack chairs in the front yard. I may not know exactly what I want retirement to be like, but I know it’s not that. I see us living fairly close to family and friends, living comfortably (though not extravagantly), and volunteering in the community. I think that would be nice, but I also know that isn’t possible without some advance planning now. So I contribute regularly to my 401k. I make sure I do the best job I can on projects at work. My wife and I work on making sure our current spending habits line up with our future goals.

Whatever we actually end up doing in retirement, I know that my future self will thank me for starting to prepare early.

The “What-if-something-happens-to-me” File

Over the past few weeks, we’ve seen several status updates on Facebook from a couple we know.  They’re in their 30’s and have a daughter that is around six months older than our son.  The husband has been in ICU at the hospital for two weeks now and doesn’t look to be getting better soon.  The doctors aren’t sure what caused all this, but he’s on a ventilator and his brain functioning has dropped off significantly.  They are moving him to a longer-term facility next week.  They’re a really great couple and we feel for them.  We’re praying for a full recovery.

My wife made the comment today to the extent of:  “If something like that happened to you, I really don’t know what I’d do.  I mean with the bills and stuff.  You do all that on-line, and I have no idea what you do.”

This got me thinking that I really need to put together a “what-if-something-happens-to-me” file.  In our family, I take care of the finances.  This includes balancing the checkbook, paying bills, transferring money into different accounts, etc.  I think most households do something similar, with one person primarily responsible for keeping the books.  I’m an accountant by trade, so in our family this naturally falls on me.

So, if something happens to me, and I’m unable to keep up on the finances, my wife needs to be able to keep the mortgage paid and the electricity on.  I’m putting together a file that will make this easy for her should such a situation arise.  Here’s what it contains:

  • A listing of every regular bill we have, its due date, and the typical average amount due
  • A listing of on-line account logins and passwords (since I pay all our bills on-line and use on-line banking)
  • My e-mail login and password (since I receive a number of bills via e-statement)

This list should make it easier for my wife to keep things going if something happens to me.  However, as I was going through this process I found a number of things I can do to make it easier on her.

Automate Monthly Bill Payment

I have a few of our bills set up on auto-pay, where the company automatically withdraws funds from my checking account on the bill’s due date.  Not only is this very convenient, but it also ensures that I never accidentally miss a payment.  I have the auto-pay option on virtually all of our bills, so it would take a matter of 15-20 minutes to sign up for this with the rest of my bills.

Educate My Wife

Another thing I can do now is go through the process with my wife.  I can walk her through how I pay the bills each month, what websites are used, and just give her a feel for what it’s like.  This way if something did happen to me, all the bills wouldn’t be so overwhelming.

Keep This File in a Safe Place

One last thing I can do is keep my “what-if-something-happens-to-me” file in a safe place.  I would not feel comfortable keeping a file like this on my laptop.  I like to think my wife and I are careful when we’re on the internet, and I keep up-to-date antivirus software on our computers.  But I don’t want to risk some hacker getting access to all our financial accounts.  So, I can instead print out this file and keep it with our other important papers.  For us, that would be in our fire safe along with things like our vehicle titles, insurance policy documents, birth certificates, social security cards, etc.

Now, hopefully this file will never need to be used.  But at least if it does, there will be a few less things my wife will have to worry about.