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When the editor asked me to create this piece I struggled as to why her readers would be interested in hearing from me. I decided to add my content on this subject because in the days of bloggers, textors, spammers, and twitterers (is that a noun?) my thoughts are probably as credible as the next person. So here I go. First, some background on me. I’ve been married 23 years and I hold a Masters Degree in Finance. I’ve worked for various Fortune 100 companies in various capacities…all of my choosing. I’ve been in Sales, Operations, Marketing, Pricing, Financial Planning and Analysis, and Professional Services. I started my professional career working for U.S. Bank in the early years when it was called First National Bank of Cincinnati. I’ve also worked for NCR, GE, Sun Microsystems, and now Oracle, North America.
But enough about me. You are reading this article to gain financial insight, not to review my resume. I’d like to begin by saying, any suggestions I write are just that, my thoughts on what may be important for good financial planning and maintaining a happy marriage, at least on the finance side of things. To all of my readers, please “do the math.” I don’t know your individual circumstance so it is always a good idea for you to consult with someone more knowledgeable about your financial situation.
After two years in graduate school, learning finance and business, I graduated with a diploma and three basic principals regarding Financial Planning and Analysis. I use this in almost all of my financial decisions. They are called value-drivers. Let me share them now and then apply them to personal financial management.
- Maintain a positive spread between your return on your investments and your cost of money.
- Try to re-invest in these positive spread investments.
- Try to keep these positive spread investments for as long as possible.
Ok, so store these three drivers somewhere in your memory and I will get back to them in a minute.
Checking Accounts and Bank Fees
In a marriage you struggle with all kinds of things. I won’t go into all of them. I will stick with finances. Even in finance there are many topics to discuss, retirement accounts, investments, mortgages, cars, college, etc. Maybe I will have a follow-up article, if you find this one useful, to talk about some of the other major items.
But, in general, when starting out the first thing to consider are the assets each person brings to the union (we didn’t bring anything with us when my wife and I were married so I’m not going to speak about prenuptials -- I will let the lawyers write about that). The more immediate issues are around sharing a checking and savings account. My experience with checking accounts is they are great until you overdraw your account. Once you overdraw your account the wrath of the bank descends upon you with fees and embarrassment.
My bank, for example, will charge me $25 if I overdraw even a $100 check. In this example, it took the bank one day to make a 25% return. For the math geeks out there, that’s a 9125% annual return for the bank.
Remember driver number one above, positive spread? Well, your cost of money of 9125% (or even the 25% if that’s the only overdraft for the year) makes it hard to find an investment to be higher than your cost of money! So the question is, should you and your spouse share one checking account or have separate ones? Well, you need to do the math. If it is difficult to keep track of your spouse’s spending then having separate accounts for individual purchases and a master account for joint purchases and bills may make sense.
Credit Card Interest Rates and Fees
Everyone should know his or her credit score. I know it is hard to look at it sometimes because you believe the person generating the report is going to send you to the principal’s office. Well, get over it. Your score is your score. I don’t necessarily think it is fair sometimes how stores, car dealerships, and mortgage companies automatically raise your interest rate simply by looking at your score. Although I don’t agree, the simple relationship is this, the lower your score, the more you pay in interest. If we are not talking about a home equity credit card, then most credit cards are titled unsecured debt. What this means is there is nothing the bank or the finance person has as collateral in case you default on your loan. In business we call it “revolving” credit or a “revolver” for short. There is always a need for short-term cash (or credit) to take care of immediate expenses while your cash flow (money you have in a checking account) is low or constrained. I say this because having a credit card is probably a necessary evil for the majority of us. The challenge is how you manage the short-term credit needs.
As with checking accounts, multiple credit cards may be necessary based on your individual spending habits. You have to do the math. At a minimum, it is probably necessary to have one joint account for those emergencies where cash is low and you need to make a purchase (a busted water heater, a broken down car, unexpected utility bills). For luxury purchases such as a new TV, a stereo, or new clothes, if you can, pay with cash or a debit card. But if cash flow is tight, having a plan to payoff the credit card is a must.
Typically, even with the best credit, you are paying anywhere between 7% to 25% annual interest on credit card debt. Again, looking at value driver number one, the credit card interest rate is probably higher than you are getting on any of your investments. So when you get extra cash at the end of the month or end of the year and you are trying to figure out what to do with the extra money, consider paying off or at least paying down the credit cards. You can see the math. If I had $1,000 of extra cash and I have the choice of either investing the $1,000 in a stock fund paying on average 13% annually or paying off the $1,000 balance on the credit card, which should you choose? Again, the spread between your return on investment and the cost of money is negative 12% (13%-25% = -12%). Yes, payoff the credit card. Interestingly enough, you get a better return on your $1,000 by paying off the credit card.
Healthcare Spending Accounts – Get One!
I know it is tax season and we can spend this entire article on tax shelters and what you should do with various investments and expenses. However, I want to point out one simple tax savings that all of us should take advantage of if we are working and our employee benefit offer such a program. It is called a Health Care Spending Account. What it does, is allow you to designate during your company’s benefit enrollment period to designate how much money you want to set aside to pay various medical expenses, i.e. doctor appointments, co-pays, glasses, medication, and some over-the-counter medicines.
Again, do the math but let me show you how this feature helps me. My wife, son, and daughter seem to go to the doctor on a monthly basis. We spend $3,000 out of pocket every year just on prescription drugs, physical therapy, and doctor visits. What the health care spending account allows me to do is designate $3,000 a year (or $250) to be deducted from my paycheck every month. The catch is they deduct this before taxes are calculated. If I am in the 15% tax bracket, to pay $3,000 in health care expenses I have to make $3,529 to pay my medical expenses ($3,529 – 15% taxes = $3,000). However, if I have a health care spending account, my benefits provider takes $3,000 from my annual paycheck and sets it aside. When I need to pay a medical expense, I submit a form to be reimbursed for the $3,000 that I spent on medical expenses that year. I don’t have to worry about making extra money so the after tax amount equals $3,000. I hope I didn’t lose anyone. I have a tendency to lose myself in these calculations. But the immediate take away is this. You’ve just saved yourself $529 on medical expenses because you didn’t have to earn a pre-tax income of $3,529. You just earned a 17.6% annual return with little to know effort! For more information on Health Care Spending Accounts review the information on the Bureau of Labor Statistics website at http://www.bls.gov/opub/cwc/cm20031022ar01p1.htm.
Other Investments
So mostly we’ve talked about the cost side of value-driver number one. Let’s talk about return on investments. For those of you who are early in your marriage, it is important that you establish some type of diversified investment plan. Imagine you each had $5,000 to invest. If you keep the $10,000 in an investment that averages a 13% annual return, after 10 years you will have $33,946.
Remember my value-drivers, now bringing it home. If you have a 13% return you need to watch your cost of money so you have a positive spread between your return on investments (13%) and your cost of money. So if you have credit cards costing you 25%, pay them off, find collateral that you can use to reduce the rate, or raise your credit score. If you are overdrawing your checking account paying anywhere from 25% to 9125%, stop it. Figure out how to avoid overdraft charges.
Once you’ve lowered your cost of money then re-invest in those positive spread investments (Driver #2). In other words, if you get cash and can afford to do so, re-invest it in the 13% investment. And lastly, watch your investments (Driver #3). Don’t trade on a daily basis but frequently look at your investment goals and make sure you are achieving your goals and getting the rate your personal financial drivers require.
Summary
This was a simplified treatise on financial value drivers and how you may apply them to your own personal financial situation. Simplified because I did not go into all of the investment options available to you, like 401K, Stocks, Bonds, Certificate of Deposits, and so on. Nor did we talk about the tax treatment of your cost and investment strategy. Hopefully this article will give you some food for thought for those of you who have not thought about these things. If this article is helpful to some and I didn’t miscalculate too many of the math examples, perhaps the editor will ask me to follow-up this article with another one.
Austin |
