This blog contains some simple tips and advice from two regular guys. We're not accountants, financial advisors, or brokers, so follow, ignore, or discuss our ideas as you see fit.

Thursday, August 28, 2008

Frugal vs. Cheap

Posted by Matt

My friend sent me a link to an article about the difference between frugal and cheap. It's a great topic, but I totally disagree with the author's stance. For them, the only distinction is the intended recipient of the object being considered for purchase.
The secret is simple. If you try and save money and cut corners when spending on yourself, you are being frugal. If you try and save money and cut corners when spending on others, you are being cheap.
I think the author arrived at this conclusion based on the positive and negative connotations applied respectively to the words frugal and cheap. In this definition, cheap is just a type of selfishness peculiar to spending. I think there is more to it than that and that people can be cheap even when shopping for themselves. For example, assuming you have some discretionary income to spend on replacement shoes for yourself, is it frugal to save money by buying cheap shoes that hurt your feet and/or wear out quickly? Not if you don't wear them often enough to get any value from them and end up replacing them quickly with another pair.

The friend who sent the article to me argued that people can be both frugal AND cheap in different situations. I think that what this really means is that it is not the people who are frugal or cheap at all, but the decisions that they make and the actions they take. I evaluate each situation separately with a simple test:

Trying to avoid wasting money is frugal.
Trying to avoid spending money is cheap.

Another example: say my friend wants a new computer monitor for her birthday. If I go to the store and just look for a monitor at the low end of the price range, I'm being cheap. If, on the other hand, I elect not to buy her one of the higher-priced monitors because I know she doesn't need extra USB ports or the fast pixel response time required by gamers, I can call myself frugal.

Note that this rule becomes less appropriate as less money is available. Truly poor people don't have much opportunity to waste money and must be frugal to survive. Also, my definition for frugality is admittedly up for interpretation based on what a person would define as wasteful. This is why there is so much variety in the marketplace; different people place different values on the various attributes (features, reliability, appearance, practicality, price, etc.) of each product.

Regardless of what you define as valuable, we do need to purchase things (even if only food and shelter) occasionally, and it just makes sense to put in a little more thought than is required by simply making price the top priority.

Consider a humorous example from my experience.

My friend's father went shopping for new tires for his son. He's notoriously thrifty, but I think he was also worried about how guilty he would feel if a cheap tire blew out on the freeway and his son crashed his car. His solution? He walked in to the local tire store and said "Give me the second least expensive set of tires you've got!" Kudos to him for at least going one level up; but given that price was still the primary consideration, I'd call this decision more cheap than frugal.

In his place, I might have asked the tire salesman to recommend a reliable, long-lasting tire that offered good value for the price. Maybe the shop could have saved me even more money by offering a set of retreads. Maybe my favorite local tire chain would have been willing to match a competitor's lower price. Who knows? After all was said and done, I might have ended up with the same set of tires that my friend did. But I would sleep better knowing that I purchased a quality set of tires without wasting money.

Maybe that means that frugal people are just cheapskates who make a little extra effort. :)

Tuesday, August 26, 2008

From the utility companies: a good tip and some bad news

Posted by Matt

Does anyone ever read their utility bill inserts or email newsletters? I've been surprised at how much helpful information they can contain. Here are the latest items worth sharing:

"Send Your Water Heater on Vacation" - This is a great little article that I found reminding everyone to turn off their water heaters if they are going to be away from home for more than 24-hours. I try to always do this, but learn from my experience and do something to ensure that you turn the heater back on right when you get home. It takes about an hour for the water to warm up. The article recommends leaving yourself a note, but I also set a reminder on my cell phone as a backup. Murphy's Law almost guarantees that if you forget to turn the heater back on, the first time you notice it will be when you need a shower (as my wife experienced...Sorry!) Update your vacation checklist!

Now for the bad news.

You thought gas prices were getting bad? Well, wait until you get your winter heating bill (assuming you use gas for heat). I recently received an email from the gas company (similar to information they posted here) that warned of a potentially huge jump in rates at the beginning of November. The initial projection was an increase of between 35 and 40 percent, although they now are hoping it will be slightly lower. Given that our gas bill is usually a significant portion of our expenses in the winter anyway, even a 20% increase would be significant.

After our high costs last winter, we are already considering a few options to reduce our gas usage. I have the highest hopes for switching to space heating in our bedrooms at night instead of having to heat the whole house just when it gets coldest.

Whatever you do, start planning now. If you're on a tight budget (i.e., you don't have a lot of extra cash available for heating bills), start looking for extra things to trim out so that you can keep your family warm this winter.

Friday, August 22, 2008

Savings Bonds Revisited

Posted by Paul

If any readers recall my earlier post from 2007 on savings bonds they'll recall that I purchased some and that I wasn't too excited about them at the time.

Well imagine my surprise to discover that currently my savings bonds have an interest rate of over 6%. This is far better than my savings accounts or even my CD's!

I wanted to double check the program that I downloaded that tells me the current rate of my savings bonds, so I went to the page on Series I bonds and confirmed the numbers.

Currently the determined inflation rate is 2.42%, and the bonds that I bought back in 2006 have a fixed rate of 1.4%.

Using the formula we get:

Composite rate = Fixed rate + (2 x Semiannual inflation rate) + (Fixed rate x Semiannual inflation rate)

Composite rate = 0.016 + (2 x 0.0242) + (0.016 x 0.0242)
Composite rate = 0.016 + 0.0484 + 0.0003872
Composite rate = 0.0647
Composite rate = 6.47%

So currently my bonds are earining almost 6.5%. Wow! Pretty good for such a low risk investment!

So what does this all mean? Well I guess it means that if you purchase I-Bonds when the fixed rate is high (the fixed rate doesn't change for the life of the bond), then you can make a great return when the conditions are right.

As an example, let's pretend that I had purchased some I-Bonds back in May of 2000 when the fixed rate was 3.6, their current interest rate would be:

Composite rate = 0.036 + (2 x 0.0242) + (0.036 x 0.0242)
Composite rate = 0.036 + 0.0484 + 0.0008712
Composite rate = 0.0844
Composite rate = 8.4%

That'd be a pretty amazing return for a no risk investment.

I plan on continuing to watch the I-Bond rates and purchase some more bonds once the fixed rate gets up to a decent amount. It's nice to have part of my money in a low risk investment that has a built in guard against inflation.

Tuesday, August 19, 2008

The search for the frugal bulb, continued

Posted by Matt

Readers who saw my previous post about money-saving light bulbs may remember that I didn't have much luck with the LED bulb I ordered or the CFL bulbs that we received during our energy audit. I was planning on waiting out the next generation of LEDs in the hope that prices would come down and that the light quality would be closer to our incandescents.

Scratch that. New plan.

I just read about an entirely new lighting technology that is soon to be released by a company called Vu1 (read "view one"). They claim that it has all of the advantages of other types of energy efficient bulbs without the drawbacks.

Here is a table from their website that compares their ESL technology against the competition:

The table shows them (like all other new bulb technologies) to be less affordable than regular incandescents, but I think that is misleading given the longer lifespan of the new bulbs and the energy savings they will achieve. One thing that is missing from the table, but that I know some people will be happy about, is that the ESL bulbs will look a lot more like regular light bulbs. No weird squiggly shapes like with the CFLs.
If the bulbs truly live up to all of these claims, I'll eventually upgrade the whole house with them as the incandescents burn out, of course. Unfortunately, the bulbs aren't scheduled to be commercially available until the first quarter of 2009, so I guess my new plan, much like the old one, mostly involves waiting.

Related links:

Monday, August 18, 2008

Cost + Subscription = Adding insult to injury

Posted By Paul

A product model that you see all the time is the system where you get the initial product cheap (or free) but the supplies that you need to purchase to USE the product are either less affordable, or downright expensive. According to an article on Wired (called "Free! Why $0.00 Is the Future of Business" which can be found here) one term for this is "cross subsidy" (where you get one thing free or cheap, but you need to buy another thing to use it).

One thing I've been seeing more and more are cool gadgets that are sold under this model EXCEPT the initial price tag for the item really isn't that cheap.

These types of devices are dangerous and thinking hard about them are a great way to take a frugal approach to life. Here are a few modern toys that come with a hefty initial price tag AND a monthly service fee:

iPhone - Yes, they are cool, but not only does the phone itself cost quite a bit ($200-$300), but they require a high cost data plan that seems to be about twice that of a normal cell phone plan ($70 per month per line for the iPhone, as opposed to most cell plans that cost $30-$40 per month per line). Just imagine what you could do with an extra $30-40 per month. If the whiz-bang technology is your thing and you can afford it then go for it, but give it some thought first.

Bodybugg - A device a I saw recently that is used for monitoring your calories burned. It's a really cool fitness device, but in order to use it you have to pay a $15 a month subscription fee on top of the $300-$400 initial price tag. If you ever decide that you don't want to pay the $15 a month then the device becomes essentially useless.

Satellite Radio - The receivers aren't cheap, and there is a monthly subscription fee involved. Not as bad as many other subscription based services but it's still another bill every month.

Not to say that owning any of these things make you a bad person. If you want some toys, and can afford them without putting your financial well being in jeopardy then go for it. Deciding to splurge on something doesn't necessarily make you financially irresponsbile (see my earlier post Know Your Indulgence), but I think that any non-essential item that requires a decent initial cost AND a monthly fee should be given some serious thought.

One way I like to think of these purchases is by taking the service cost of an item and adding it to the initial cost, and then see if I still think it's a good idea.

For example, let's say you're thinking of getting an iPhone, but you're not sure if you want to spend the money. Another way to look at the purchase is by taking the service cost and imagining it as part of the initial cost. Assume a 2-year service contract and an extra $30 a month for the iPhone plan over a typical cell plan, then that's $720. If the iPhone service still only cost you the same as a regular cell plan per month, but the device itself cost you $920-$1020, would you still buy it?

On a related topic is an earlier post:

Beware Of Subscriptions

Thursday, August 14, 2008

Shrinking the mortgage

Posted by Matt

When my wife and I first bought our house, I posted some thoughts about whether we should make any additional payments to the mortgage principal. We deferred, electing instead to focus our savings efforts on retirement and our son's education savings account.

Those efforts have been going along just fine; we've been making regular, automatic contributions to the 529 and I'm maximally funding my 401k, but still we had a little extra and felt like our emergency savings accounts were adequate for now.

So, that brought us back to the question: "Should we use the extra cash to reduce our mortgage?"

The arguments against:

  1. The additional capital that we convert to home equity becomes inaccessible (well, OK, less accessible anyway; we could take out a HELOC, but that brings us right back to paying interest again.)

  2. The extra money could effectively earn a greater return invested elsewhere.

These are both valid arguments that Paul and I have explored the pros and cons of previously. Now that we have "adequate" (debatable; the term is relative and you could make the case that more is ALWAYS better) cash on hand for emergencies, I wasn't too worried about the first argument, but I had a hard time getting past the second. What finally sold me is that the payoff scenarios I sketched out revealed that we could pay off the mortgage in a much shorter period than I had originally guessed.

I still have some confidence that the stock market will outperform my other investments over the long term, but over the short term, I'm much less optimistic. In the short term, I decided to go for the guaranteed return of reducing our total interest expense on the mortgage. So toward that end, we transferred our first extra principal payment (a very easy online option since our mortgage and checking accounts are held by the same bank) this month. Because we just bought this house last year, we're still in that frustrating stage of mortgage repayment where most of the payment gets applied toward interest (read this if you're not familiar with how amortization works). Now I'll be watching much more intently for our principal balance to drop off more and more steeply.

Another part of the plan that I like is that we've got an easy out. I didn't automate the extra payments (which is unusual for me), but this allows us to be flexible in how much extra we pay. I'll target a set amount each month, but there will certainly be months where we need to adjust it up or down, e.g. during the holidays or months when we have travel expenses.

In case that isn't enough for you, here's another bonus I thought of: we'll be able to reduce our life insurance coverage eventually. When I was evaluating life insurance, I decided to pay for adequate coverage to pay off our mortgage if I die. As our principal drops, I can periodically reduce my insurance payments until I get to the point where the basic coverage that my employer provides will cover the remainder. Okay, this one is less significant than the other benefits, providing maybe 4-digit savings as opposed to 6-digit savings achieved through reduction of interest payments, but every little bit helps!

Let me end by acknowledging that this strategy isn't going to apply for everyone. My wife and I are grateful that we are fortunate enough to be in a position to even have to consider where to put our "extra" money each month. But I hope that everyone who reads this, whether they have a little extra money each month or a lot, will at least appreciate the benefits of prioritizing spending. As I mentioned above, this strategy only achieved priority after we'd eliminated car and student loan debt, carefully filled up our emergency funds and ensured that we are saving adequately for retirement and our son's education.

Wednesday, August 13, 2008

Article: Save Without Sacrifice

Posted By Paul

There was an article on Yahoo Finance today:

Save Without Sacrifice

I liked the fact that it opens with an emphasis on looking carefully at the luxuries in your life, and specifically talks about the distinction between need and want.

But my favortie part was where the article talks about the "Vice-A-Day Deal." It is saying that if the cold turkey approach to cutting out the daily frills from your life is too hard, then try limiting yourself to one frill a day.

It reminded me of the idea that while you may not last long on a super strict diet where you eat nothing but healthy stuff, a more moderate diet where you eat healthy but occasionally splurge will still yield benefits and will hopefully be something you can stick with long term.

I liked the idea of trying to find a moderate approach to saving money. So often I see people who do financial "crash diets" where they decide to cut out every frill from their life (movies, Starbucks, meals out, etc.) and they end up being unable to stick to it long, and then they are back to their old patterns. By creating a system where you can only have one frill per day you have a better chance of saving money AND sticking to it.

Tuesday, August 12, 2008

Some House Hunting Tips

Posted By Paul

I recently saw a show on the Home and Garden Network called 'My First Place'. Where they follow a person or family through the process of buying their first home.

In the one episode I saw, the young couple found a house they really liked with a price they were comfortable with, so they go to the mortgage company and discover that they don't qualify for as good of a rate as they had hoped, which means the price they were comfortable with is now quite UN-comfortable.

So they spent some time agonizing over whether or not they could swing the bigger payment by cutting costs in other ways. The end result is that they had to pass on the house and keep looking. It had a happy ending in that they found a smaller place that they liked AND could afford, but I think the episode really accentuated some lessens for house shopping:

1) Research the mortgage first. To me this seems like an obvious choice, but many people don't do this. I shopped for a mortgage first, checked rates and saw how a specific interest rate + house price translated into a monthly payment. I was then able to see how coming up with a little more down payment lowered my monthly payment and so on. Once I was comfortable with the numbers, the mortgage company "pre-approved" me for a loan of a specific amount. I had heard that there was a time where being pre-approved for a mortgage was a big plus to the seller when you make an offer, though I didn't really experience that. However, it did give me a chance to house hunt with a sense of what I could comfortably afford.

2) Don't even look at a place you can't afford. If you already know what you can afford, why look at a house that you can't? It will just make the houses you CAN afford seem smaller and shabbier in comparison, so in my opinion you just shouldn't bother.

3) Don't let yourself tip toe into something you can't afford. I experienced this a little when I went house hunting. I had my target price that I was comfortable with, but I also knew that I could go up a little more if I really wanted to. It was sooo easy to look at a house that was a few thousand above my target price, and then look at a house just a little above that, and then a little above that, and the next thing I knew I was looking at places that were well over 20% out of my price range. I had to force myself back into the range I was comfortable with.

So what happens if during your house hunt interest rates change dramatically? Well first of all in my experience interest rates don't change THAT much in a few months and if they do then you can always go back and run the numbers.

This way you won't be caught in the sad situation where you've fallen in love with a house that you can't afford.

Wednesday, August 6, 2008

Better rates for the vigilant.

Posted By Paul

I have some friends that are going to try a cool experiment.

Their plan is to take some money and open some new accounts at a credit union in order to take advantage of a program for new members. The deal is:

If you open a checking account you get 4.5% interest on up to $25000 for each month where you jump through certain hoops. The hoops include things like making at least 10 debit card transactions in a month, logging into the online banking at least once a month, and so on. If in any month you fail to jump through the hoops successfully you don't get the 4.5% interest for that month.

I generally shy away from these accounts since I just don't think I have the time to make sure that I jump through the hoops successfully month after month, but if you're up to giving it a try, I think it's a cool idea.

Of course not only do you have to make sure that you jump through the hoops each month, you also have to watch the account to make sure that the terms of the account haven't changed. If the terms do end up changing you also need to be willing to take your money out and look for a place to put it all over again.

I'm eager to hear how it works out for my friends. Has anyone out there ever had an account like this? I'd be really interested to hear comments of how it worked for them. How easy was it to get the special rate, how long did the terms last, etc.