How Saving Money Can Cost You

Credit: iosphere at FreeDigitalPhotos.net

I bet you thought I’d lost my marbles when you read this post’s title, but the title is as I intended. Saving money is wonderful, and I often preach the value of saving until I am blue in the face, but not always. Sometimes (hard swallow) saving money may not be so good for you. Saving money can be bad if…

• You buy something with a coupon that you would have otherwise not purchased. You didn’t save money; you got a good deal on an unnecessary expense.
• You buy something that is incrementally or insignificantly cheaper than a higher quality or longer lasting product. I’m talking canned soup, car batteries, air filters, toilet paper, Oreo’s, and other products like these.
• You already have an adequate rainy day fund yet you keep adding to your cash account that is earning you little interest while you have credit card debt, student loans, car loans, and home loans that are costing you lots of interest.
• You already have an adequate rainy day fund, and you are not contributing to your employer’s 401(k) or retirement plan (or you are not contributing enough to get your employer’s match if they offer one).
• You already have an adequate rainy day fund, and you are not investing anything in the stock market. Whether through annual IRA contributions or deposits to a taxable brokerage account, you need to be investing sooner rather than later so you will have a longer time frame to reap the rewards of long-term growth.
• You already have an adequate rainy day fund, but you do not have or adequately have life, disability, property and casualty, and/or excess liability insurance. Having no premiums or low premiums is nice until you need your insurance!

 

Finally, there are two currencies in life: money and time. Saving money is really important, but so is utilizing time. I once had a meeting with an elderly client whose health was beginning to fail, and he asked me what he was supposed to do now that he had all this money and no time to enjoy it. His degree of saving and holding onto his money was self-imposed, so I didn’t feel guilty, but I did feel sad for him. I’ll probably never recommend that you risk your financial security to make a memory, but it is important to be careful how many times you say, “No” or “Next time.”

 

Anything in enough excess can be bad for you. This includes fanaticism for a sports team, chocolate, and saving money. Keep saving, but not too much.

 

-Tom

The Lightning Round: Take 2

Credit: FreeDigitalPhotos.net

Thanks to all of you for the many questions I received. I’m back from vacation and ready to roll, so now, as promised, here are my responses to five of your questions...

1. What is the difference between banks and credit unions? And which is better?
                                                                                                                              - Sandy              

Banks and credit unions are very similar. A credit union is essentially a group of owners or members who have pooled their cash to form their own bank; think teachers’ credit unions, airline credit unions, corporate credit unions, etc. It is usually a special bank for employees of a certain company or people of the same organization or trade. Since credit unions are smaller, they are known for having better customer service and for being more flexible. That being said, they probably have fewer account options, a less sophisticated website, and fewer locations than bigger commercial banks, like Bank of America or Wells Fargo, which are some of the possible advantages of banks.

Another major difference is that credit unions are usually not-for-profit, so they probably charge lower fees and offer slightly more favorable interest rates on savings accounts and loans to their members. However, because they are smaller, credit unions can also be more susceptible to failure than the larger national banks.

Are you trying to decide between a bank and a credit union? If so, and without knowing your details, I might leave my savings or rainy day fund with a credit union to get higher interest returns and maybe take out a mortgage or loan with them to get a better rate and more personal service, but I'd keep my day-to-day accounts with a larger bank, so I would have more branches to visit, more ATM access, and a larger network of customer service resources at my disposal if I was out of town. Hope that helps!

2. I’m heading to graduate school in the fall. Although my husband and I have saved up towards it, we will need to take out loans. In the years after I finish my degree, is it better to aggressively pay off the loans before saving towards a house down-payment, or to pay down loans at a moderate rate while saving for a house? Keep up the good work!
                                                                                                                               - Anonymous

Great question! Please don’t be too mad at me, but the answer is: it depends.

If you are close (or think you will be close) to hitting that “magic” 20% down payment threshold when you and your husband decide to buy a house, I would probably pay down the loans at a fairly minimal rate and direct most of your saving firepower towards hitting the 20%. Remember, 20% down usually means more favorable interest rates, lower monthly payments, and probably avoiding the additional expense and complications of Private Mortgage Insurance (PMI).

If 20% down is not a reasonable goal for you, I would probably direct more savings firepower toward extinguishing the loans. Student loans may offer a potential tax deduction, but they are usually just a fixed expense that can be a painful burden on recent college graduates and relatively new workers. The sooner you can eliminate that debt, the sooner your cash flow will improve, your financial position will strengthen, and you will probably even feel better.

Also worth mentioning is that the interest rates on your loans do matter. If the interest rates are much more than 5% or 6%, I would definitely work toward extinguishing the loans. If the interest rates are lower, historical returns would tell you that you might be better off in the long-run saving or even investing some of your funds. I’m pretty conservative and have a disdain for debt, but as you might recall, even I list paying off loans as tied for 7th place on my list of financial “Bear Necessities.” Good luck heading back to school!

3. Paying off student loans vs. saving for your child's college (and where/how to set that up) vs. saving for retirement.
                                                                                                                               - Rebecca

This is also a good question, and since it’s a little related to the second question, I thought we’d go ahead and cover it now. (For those of you looking for the Cliff Notes, saving for retirement gets the gold, paying off student loans gets the silver, and saving for your child’s college takes the bronze.)

In my book, gaining financial independence should be everyone’s long-term financial priority. By financial independence, I mean achieving the ability to sustain a standard of living or quality of life that you like or are willing to tolerate for the rest of your life without having to continue to work. This is primarily achieved by living within your means, saving for retirement, and paying off debt. As far as student loans vs. saving for retirement, I’d probably recommend maximizing any contributions to a 401(k) plan or retirement plan to the point that you receive any maximum employer matches you may have available to you and then making maximum IRA annual contributions (to a Roth, if possible) before I did much more than the minimum payments toward student loans. Then, as I mentioned in question #2, I’d suggest you look at the interest rates, consider your personal risk tolerance, and then either assault the debt principle or look at saving or investing a little more.

Saving for your child’s college is admirable and a goal of many parents, but it really should come after your own financial situation. I know this may sound harsh, but what if your child one day gets a scholarship or decides not to go to college and those funds you painfully tucked away could have been used toward paying off your own student loans or saving for your retirement? Besides, if worse comes to worst and you haven’t saved enough money to pay for all of your child’s college, they can always take out student loans themselves. After all, you mentioned that you have student loans, and I know you turned out alright! All this being said, if you feel that it is your responsibility as a parent to pay for your child’s college education and you have the additional financial capacity to set aside some funds for your child’s college, the sooner you start saving, the better. I would recommend opening a 529 plan, a state-run education savings plan, because they are easy to set up and relatively flexible, and distributions used toward your child's qualified college costs come out tax-free. You could ask if grandparents, aunts, or uncles would also be willing to contribute, and many of the plans offer convenient, automatic age-based investment allocations that will periodically adjust to prudent risk allocations as your child gets closer to college (more risky when your child is younger, less risky as your child gets closer to college).

4. Do you watch shows like Squawk Box or Mad Money? Would you recommend those shows?
                                                                                                                              - Anonymous

(Squawk Box is as CNBC puts it, “the ‘must see’ pre-market morning news and talk program, bringing Wall Street to Main Street” and Mad Money is a show hosted by television personality and former hedge fund manager, Jim Cramer.)

I chose your question because I thought it was an interesting one, but, I do not watch these shows. I have previously watched Squawk Box, and I’ve seen Mad Money on the television in waiting rooms and in airports, but I don’t watch these particular shows or shows like them very regularly. They are intriguing, but personally, they stress me out and make my blood pressure go up.

The main reason I don’t watch these shows is because they target people with different investment philosophies than mine. There is nothing necessarily wrong with these shows, they are very popular, and many people might well claim that the advice they get from watching investment talk shows has helped them financially. Maybe so, but I don’t believe in acting impulsively. I believe if someone is talking about a stock tip, it’s often already too late. I believe in investing in a diversified portfolio made up of different holdings that will perform well under different market conditions. I believe in the cost savings and tax effectiveness of long-term investing versus short-term trading.

I’m all for people watching Squawk Box and Mad Money if they enjoy them and find their reporting insightful, but I would not recommend these shows to someone per se because I feel like they try to convince the viewer that they are suddenly empowered to trade and invest after watching. Call me crazy, but I believe that it’s a lot easier to lose money quickly than to make money quickly, and I will be the first to admit that watching Iron Chef does not make someone an exceptional cook!

5. Recently, my credit card was fraudulently used. I was alerted of the fraudulent charges by the financial institution the card is through, was able to remove the charges and got a new account number. I've heard about more elaborate identity protection services, but I am not sure if they're worth the investment. Do you ever recommend these types of services to clients? Also, are there any steps you'd recommend to clients after they experience credit card fraud, such as getting credit reports, etc.?
                                                                                                                             - Kristen

I’m so sorry to hear about your troubles. Several months ago, someone bought several hundred dollars worth of shoes with one of my credit cards, and I had to go through a similar routine. It’s not pleasant, and if you are like me, you feel a little violated, but you can recover and move on.

As you mentioned, there are many identity protection services available. As identity theft and cyber crimes continue to rise, there will likely be even more services available in the future. However, generally speaking, I do not recommend these types of services to clients. They could work and they could be worth the investment, but if you are vigilant, you are likely one of your own best (and least expensive) forms of protection.

I advise people to review their credit card statements and bank statements closely every single month, whether in electronic form or hard copy (which you must already be doing if you caught the fraudulent charge, so good job!). I advise people to be careful about using auto-pay and just assuming all is well. I advise people to save their receipts, use their checkbook ledgers, or use a program like Excel or Quicken to track their cash inflows and outflows to make sure they are the only ones spending their hard-earned money.

If you’ve already had one card fraudulently used, I would follow the steps I have mentioned above even more carefully just in case. If you have the option to have your credit card companies call you for purchases over a certain amount or purchases outside of the country, I would recommend utilizing these features. I would recommend not using the same password, secret question answer, or PIN for all of your financial accounts as an additional safeguard. Also, as you mentioned, checking your credit reports once every year or two (you are allowed to check for free once every 12 months, but you don't want to check too often because it can impact your credit score) can also be a good idea to make sure your identity is secure and all of your financial affairs are in order.


Thanks again for all the questions. Please always feel free to ask me anything that you think I may be able to help you with though, Lightning Round or not.

-Tom

Last Call

Credit: Stuart Miles

Three years ago, my wife and I bought a townhome. And, by bought, I mean took out a mortgage for a townhome. At the time, our parents and friends were high-fiving us for the interest rate we got: 4.75%. It was amazing. I mean, there was no way interest rates could get any lower, could they?

Fast-forward to the present: interest rates have gotten lower. To be honest with you, my 4.75% was actually beginning to smell a little as I have casually been comparing it to the mortgage rates that many of my clients  have been sharing with me over the past few months. The rule of thumb is that you are usually wasting your time refinancing if the refinanced interest rate is not at least 1% less than your current rate, but just as I could have never envisioned in 2010, many current interest rates have fallen more than 1% when compared to my 4.75%. Thus, my wife and I are right in the middle of doing what I have advised many clients to consider doing over the past few years: refinancing.

So, why all the fuss this week? Why not another post on what you should do after you have a kid, why you should check your engine now, or how to make sure you can survive mayhem? Because I personally think interest rates have, to quote the musical Oklahoma!, “gone (down) about as far as they can go.” Think about your checking account interest rate – it’s pretty close to 0%. Chances are that, unless you have refinanced within the last three years, current refinancing interest rates are probably worth your looking into. And you should look into them soon because the housing market is beginning to pick up a little steam, and the Federal Reserve has recently started signaling that the Fed could be thinking about scaling back their bond-buying program (many economists believe the Federal Reserve’s bond-buying program has been artificially keeping interest rates low).

If you heed my advice and look into refinancing, let me share a few tips that I think you will find helpful:

• Reach out to multiple lenders, including your current mortgage holder. The rates and fees will likely be very similar, but it’s worth talking to several lenders before you proceed as a sanity check just to make sure the particular lender you are considering is shooting straight with you. A crafty representative or two may try to pressure you by saying that “rates could change by the end of the day,” but don’t let that bother you; being thorough and comfortable is likely more important than one day’s worth of difference in rates and fees. Also, rates and fees aren’t necessarily going to get worse in 24 hours; they could improve, but not all loan representatives will mention that...
• Your current lender could offer a smoother transition than someone new, but if there is a relative tie in rates and fees, I would lean towards whoever seems the most knowledgeable and responsive, and offers the best customer service.
• Try to have some idea of what you are looking for before you call a lender. Are you looking to refinance into a 30-year mortgage? Are you looking to go from a 30-year mortgage to a 15-year mortgage? Are you planning on owning the property for the life of the loan? The more you can tell the potential lender upfront, the more specific and helpful information they will be able to quickly provide. Don’t worry though, because after you practice on potential lender #1, you will be much more comfortable when you reach out to potential lender #2!
• If it were me, I’d ask lenders for three scenarios: their lowest interest rate possible (will likely require additional money from you at closing, but gives you the best interest rate), a no-closing cost scenario (don’t let the name fool you - there will be fees, but you will likely pay less at closing and your interest rate will only be a little higher than the lowest rate), and a lowest total dollar amount scenario (kind of a happy medium between the lowest interest rate and no-closing cost scenarios where you pay a little at closing and get an interest rate between the lowest rate and the no-closing cost rate). This will likely give you three, pretty-solid options to consider as you decide what is best for your particular financial situation.
• Finally, know what you’re getting into. Refinancing can be a nuisance to the posterior, if you know what I mean, but going through the process can offer some real financial benefits. If you go forward with refinancing, you will have to provide tons of documentation, answer lots of seemingly ridiculous questions, and sign numerous forms relatively quickly. Don’t get overwhelmed, though. Take a deep breath, respond as quickly as you can, and by all means, carefully read what you are signing.

Sadly, Donna Summer’s Last Dance came to my mind as I started writing this post because I was thinking about the possibility that right now could be the last chance for many of us mortgage holders to benefit from these historically low interest rates. Have no fear though, since hearing from my soon-to-be new lender that my wife and I have been approved for a new mortgage (that’s even more favorable than the one we got in 2010), I’ve found myself humming Semisonic’s Closing Time.

What? Don’t judge. If you refinance, you might find yourself singing, too!

-Tom