Where the money is....

When Willie Sutton bank robber was asked why he robbed banks he said "Because that is where the money is". How things have changed.

The banker's Bank the Federal Reserve is now robbing savers with near zero interest rates. Why? Because that is where the money is. It is a hidden tax. No law was passed. Still you are having the your money stolen through near zero interest rates to restore bank's balance sheets. If you had $300,000 in an IRA (or 401k) earning 5% in 2007 ($18,000 a year with nearly no risk) you are lucky if you earn half that today. That is a $9,000 or more of hidden taxes.

I hope to expose these types of actions and others by the FED and government. Boomers need to be vigilant - because their savings is where the money is. I will also delve into other areas of finances of interest to Boomers.

Monday, December 26, 2011

Tracking a Boomer's finances

Financial planning is not something you look at every 3-4 years. It is an ongoing process you consider every day in how you manage your income and spending. Buying an expensive item on a whim is the opposite planning. Paying $50 a month to have a cell phone for emergencies on the road is wasteful and the opposite of maximizing the value of your dollars.

You can tell a lot about a person's planning (or lack of) by looking at something simple like their mortgage and refinancing record. Every time the financial situation got tough did they use the home as an ATM? If they did then they have no financial plan.

I have no training or credentials as a financial planner, yet I have achieved goals I set when some thought I was nuts because of the approach I took. Yes, I got fed up with being a salary slave to "the" man and quit working for the man at 55. It resulted in some financial sacrifices, but freed me being a slave to other's demands and whims. I have not one time regretted that decision. Through detailed planning I determined I could buy a place even though I was unemployed. I had some savings earning very low rates and my analysis led me to believe I would be better off investing part of those savings in real estate - which I did.

So for 4 1/2 years I lived off savings, interest income and rental income from the property I bought. By then (59 1/2) the property was 50% paid off. At age 59 1/2 I took $12,000 out of an IRA account and at age 60 I activated a pension account to bridge income to age 66. At age 62 I signed up for Social security. By age 63 the property was paid off (as well as replacing things like the heat pump and hot water heater). I now have excess income, have rebuilt 50% of what I had in savings at 55 and have let my retirement IRAs grow. I did this on what many would consider a poverty level budget the first 5 years (but I did it according to MY financial plan).

Yes, at times the financial situation was tight - but not once did I ever consider refinancing and extracting equity from what was to be my home - which is now paid for and most of the updates and improvements finished (I have spent something like 10-12% of the original cost on this). What is it worth? Probably at least what I have in it - maybe a little more. Not that that matters as I have to live somewhere and if I decided to sell and move I probably can get at least as good a deal on a place somewhere else.

Now in contrast take someone who purchases a home in the early 1990s for around $165,000 with about $140,000 mortgage. In 2001 they extract about $31,000 in equity (the oldest daughter is in college so one would assume it was for that, although I suspect there was a credit card debt problem as well). Supposedly there was something like $35,000 in savings between husband and wife of college savings. So one wonders - why the hell would you tap home equity before you absolutely have to do so. That $35,000 should have paid 2+ years of college. It was an instate college and tuition and room and board was around $15,000 a year. The student had some scholarships and grants at least part of the first two years and worked part time and served as an RA for two years which should have reduced the total out of pocket costs at least $3,000 a year on average
So in all likelihood $35,000 college savings would have covered at least 3 years of college. Also, consider supporting the student at home when in high school had to cost at least $3,000 a year and that money could have gone to support while in college. This is why there is reason to suspect that the home refinancing in 2001 was related to something like paying off excessive CC debt. So in 2001 the mortgage is back up to $150,000. NOTE: due to low interest rates at the time of under 5% the home probably should have been refinanced (not to withdraw equity), but to reduce the monthly payments and free up money to help pay for college.

So let's examine this. The student through grants, scholarships, working contributed let's say $3,000 a year to their college expenses. If the same support that was provided as when the student was at home in high school was applied to college expenses that is another $3,000 a year. If refinancing the home would have saved $100 a month in interest that is $1,200 a year. That is $7,200 a year. The student took 5 years to finish college so the total cost was around $75,000. But the offsets detailed above amounted to about $36,000 leaving $39,000 or so not covered. Supposedly there was college savings accounts that should have covered most of that. The one thing not accounted for was the purchase of a new auto for the student. This was probably over-the-top as a good low mileage used car surely would have sufficed.

It appears none of this was considered and analyzed in planning for payment of college expenses or there were other issues such as CC debt..... There seems to have been little reason to extract home equity to pay for college for the oldest child otherwise.

In 2004 the second daughter started college. The home was refinanced again pushing the mortgage back up to $150,000 again (extracting something like $10,000 or so in equity). Now supposedly the wife and husband still had most of the savings for college left ($35,000?). Why would someone not use up savings first before even considering home refinancing to extract equity? It make no sense. Still this presented a new scenario of financial planning as there were now 2 children in college at a cost of around $35,000 a year (for 1 year).

Let's say that the support at home to support the second child was applied toward college expenses ($3,000) and that the child through grants, scholarships, working was able to contribute $3,000 a year. That covers the first $6,000 each year of college expenses. The second child went to an out-of-state college so it was more expensive (around $22,000 a year). This left about $16,000 of costs not covered ($1,400 a month).

That is a tough nut - which is why meticulous financial planning is required, but the couple earned $100,000 a year or more so it should not have been impossible (That should equal around $6,000 a month of take home pay). There was the $4,000 or so a year in tax refunds.  It would have taken 15 minutes to file the forms to adjust with holdings increasing monthly cash flow by $330 a month. That leaves about $1070 a month not covered. There was the car payment for the older child going away by the second year freeing up say $260 a month. That would have left about an $800 a month gap (years 2-4). Then there was a car payment for one parent going away by the 3rd year of college freeing up another $400 or so a month. So the gap in the last 2 years would have been around $400 a month.

I suppose home equity at that point was one option. To me though home equity is sacrosanct. I believe that up to $500 of cuts in living expense could have been found by things like eliminating expensive cell phone plans, a more basic cable TV plan, etc. I suspect there were other options. I would probably have opted for student loans with the promise to help pay them after graduation rather than tapping home equity.

The point is with some planning taking equity out of the home probably could have been avoided. Instead in 2007 another $50,000 lien was placed (second mortgage, Equity line of credit, Equity loan) against the home. This probably pushed liens against the home above $160,000 (more than the cost in the early 90s). Recently that lien seems to have been combined with the first mortgage (which should have been down to around $87,000) leaving something like $137,000 owed on the home. So over about 20 years the mortgage amount is about the same as it was 20 years ago!!!

With appropriate planning the mortgage amount would now be in the $50,000 range and after 3 years of no college payments a large portion of any student loans retired.

This is an actual case - the mortgage liens/refinancing are recorded in public records.  I believe it illustrates how many Boomers have failed to plan and manage their finances.  In this case you have 2 people looking to retire in less than 10 years, but probably can't as long as they have this large mortgage hanging over them.  I am sure you know of cases as bad or maybe even more extreme.

The year ahead - 2012

With the economy (and I am speaking of the world economy not just here in the US) things probably get worse before they get better. More job losses definitely seem likely over the next 2-3 years as countries (like Ireland and Greece) default and more people default on mortgages and bankrupt. Tough times also will lead to more corporate defaults (what the talking heads on TV say about corporate cash reserves is all fiction - according to the latest numbers corporations have about $30 trillion of debt) . Bank failures will increase. Insurance companies and other financial entities may not be able to pay the promised pension payments.

Now most people will tell you that the Federal Reserve will print more money and this will lead to inflation. This is wrong. We know from the Great Depression systemic economic failure leads to deflation not inflation. Or, look at the housing market. The Federal Reserve has added about $3 trillion to its balance sheet (much of it GSE debt of Fannie and Freddie) and housing prices have still deflated. You don't have to be a rocket scientist to figure this out - all you have to do is look at what is happening in the housing market. This proves that the Federal Reserve is powerless to stop deflation once you get systemic failure.

As countries fail the banks in Europe have to take huge write offs on their government bonds collateral and make related adjustments to the asset side of their balance sheet. This results in reduced assets and the ability to loan. Less money (reduced loans) and reduced velocity of money leaves Central Banks like the Federal Reserve powerless. They can print all the money they want, but they are powerless to put it into circulation if there is no demand for it. The result is deflation (not inflation).

With deflation those who have debt have to pay with dollars that are worth more over time so it becomes harder to service that debt. Inflation is the debtor's friend and deflation is the debtor's enemy.

Think it can't/won't happen. Watch the news. Japan just cut their projected growth rate in half for 2012. Japan/China just announced an agreement to trade priced in each other's currency rather than dollars (they know what is likely to happen). It appears likely China may hit a wall as economies slow and exports falter. Europe is probably already in a recession. The US seems to be at a stall point (note the stock market which often is a predictor and is about unchanged over the past 12 months) as 3rd qtr GDI was at .3%.  The US government is a mess - and I see no one (DemoRat or RePukeCon) with a long term plan to address the existing issues. I probably could go on and on, but you should get the picture.

So your best plan is to be/get debt free and build your cash reserves (some gold/silver may be advisable). Invest in real assets (land on which you can grow your own food?). Precious metals and land may deflate, but will probably do so at a rate slower than assets such as stocks, credit paper, etc.

The K-Wave winter is starting. Prepare.  Good luck.