Tuesday, June 19, 2012

Spending money I don't have

Today I bought a used Honda Fit. I bought it using money I don't have: a loan from my credit union.

Buying a car on credit was a difficult decision for me. I vacillated among buying the cheapest beater I could find on Craigslist, to getting it over with quickly and buying a car at Car Max, to closing my eyes and just ordering a new car. ...Just kidding, I was never considering getting a new car. That would fly in the face of everything that Mr. Money Mustache stands for. If I'd gone down that path I would not be surprised if MMM himself showed up at my door step to personally deliver a punch to my face.

The decision for what car I would purchase, really, was a three-way one. The options were 1) cheapest beater possible, 2) something in the $10-15k range from a dealer, or 3) something in the $10-15k range from a private party. As I did a lot more research I concluded that dealers overcharge, and that really all they provide is convenience. This convenience is minuscule when dealing with used cars because inventory is all over the place. The inventory on Craigslist was comparable to inventory at all the local dealers I could find and Craigslist provided one website whereas each dealer has its own website.

I got lucky and found a 2007 Honda Fit Sport, manual transmission of course, with 67k miles. My insistence on a manual transmission explains the lack of used car inventory at dealerships. The guy I bought it from was really nice, explained how diligently he had serviced it and why he didn't need it anymore (he bought a used Saab). I paid $10,500, which is maybe $100 or $200 more than book value for this car in Very Good condition. I was happy with the price because the service record has been sterling and all it needs is new tires in around 10k miles (I'm estimating ~$500 at Costco).

$10,500 is more than I have in cash right now. Remember that I've been holding back cash since almost the beginning of the year in anticipation of buying a car. There was the possibility my mom would lend me her 2008 Yaris, but in the end we decided she would be better off selling it and using the money for her pending retirement. I have around $6k in cash, which does not include $2k that just last week I sent in to pay down my student loan (I hadn't told you guys about that payment yet). Tonight, now that my car situation is settled, I'm going to send in another large payment, probably around $4k.

Here is a copy of the relevant details on this used car loan of mine:
My Truth-in-Lending Disclosure for my used car loan
The obvious problem with car loans, or any loans for that matter, is the interest you have to pay. In this case I think it's an acceptable tradeoff. If I don't pre-pay any of this loan (unlikely!) then my total finance charge will come to $550.52, or a little over 5% of the loan amount. I'm not worried about the new monthly payment either since I'm basically swimming in free cash flow right now. Other things equal I'd rather have the $550 over five years, but even more I'd rather have the $6k in my bank account to pay down my student loans.

The really insidious problem with car loans is that they subtly and inexorably encourage you to buy more and more expensive cars. If I didn't have access to credit I would literally not have been able to purchase this car. What's worse, I could have easily gotten approved for a much larger loan, maybe even $30k. Can you imagine if I weren't relatively frugal? And I do mean relatively frugal: my Fit is a damn nice vehicle and I paid a premium for it over, for example, an early 2000s Toyota or Honda.

I'm sure I could be just as happy with an older and less expensive vehicle. But I did the calculations and I decided on the set of tradeoffs I describe above. Access to credit shifted my decision toward a more expensive vehicle and now I'm poorer because of it. The thing is, I'd still make the same decision. Debt is sneaky like that.

I don't mean to be all doom and gloom. But I do want to give myself up as a cautionary tale. The less automotive inventory you keep the richer you will be.

I think it's funny how everyone I tell is congratulatory. I'm happy about my new (used) car, too. I don't think congratulations are necessarily out of order. But it would be more reasonable, I think, if we offered each other condolences upon taking on new debt.

Sunday, June 17, 2012

Debt: the financial equivalent of the dark side of the force

Yesterday I wrote about interest rate arbitrage, or using debt for what amounts to financial jiu-jitsu. Today I want to write about how my views on debt have changed since I've adopted a more Mustachian outlook.

There is something satisfying about gaming the system with rewards credit cards, as Mr. Money Mustache and many others have written about. I like it because it feels like getting one over on those fat cat 1% bankers I keep hearing so much about. It's not for everyone, and I consider it the financial equivalent of playing with fire.

Then there are other forms of leverage. Almost every homeowner uses a mortgage. Just imagine, taking 20% of a house's value in cash and having someone else give you the remaining 80% so you can buy it. If you're in the real estate business you can use leverage to greatly increase the profitability of your invested capital a la The Aggressive Landlord in this MMM post.

Leverage increases your risk. Let's say you're leveraged 4-to-1 on your house (25% down, and let's say it's a rental house so it counts as an investment). If housing prices go up by 10%, awesome! that's 40% profit! But what if housing prices drop by 10%? Crap, there goes 40% of your equity. Wall Street investment banks use massive amounts of leverage, sometimes in the ballpark of 100-to-1, to greatly increase their potential profits and endanger the health of the global financial system while they're at it. (See, for example, the history of Long-Term Capital Management).

Using debt is the quicker, easier, more seductive side of personal finance. I'd be lying if I said I wasn't tempted. I've even been engaging in some debt-fueled risky business per yesterday's post. But I've decided that my ultimate goal is to lead a debt-free lifestyle, even if it means foregoing lucrative financial opportunities like investing in rental properties.

Warren Buffett famously eschewed debt over his many years of investing. (I read his biography, it's a great read and totally worth the length). When he was in his twenties and thirties he had dozens of partnerships and knew about hundreds of insanely profitable investment opportunities. He was consistently cash-starved up until the 80s (I think) in that he always had many more good investments than cash to buy them with. But he would never take on debt to pursue those investments, no matter how much of a sure deal they were. His brand of long-term investing requires that he always stays solvent, no matter how irrational the market is. Having to make a margin call even once would have cost him billions.

I like the principled stand of no debt, only equity. There is an oldschool feel about it. If you don't have a mortgage then the bank can't foreclose on your farm, no matter how bad this year's crop has been.

I'm already committed to paying down my student loans. After that, I'm thinking of winding down every other debt I have. Right now that's the mortgage, the 0% credit card debt, and the 401k loan. Soon it will include a used car loan (more on that later, it's not as bad as it sounds). That's a lot of debt, especially the mortgage, and I need to decide how aggressive I'll want to be in paying it down. I do want to pay it down, though, all of it, that's what I've decided. I want to live the equity-only lifestyle.

The allure of leverage isn't going to go away. But avoiding temptation is future Mustachian Acolyte's problem. Right now I'll keep putting one financial foot in front of the other.

Saturday, June 16, 2012

Interest rate arbitrage

Don't try this at home, kids.

Around the time I paid off my first student loan, I applied for another credit card. I had heard good things about Discover and I don't need my credit for anything in particular going forward. I had an ulterior motive though.

Back in my non-Mustachian heyday as a college student I played a little game with credit cards. First, some background. I went to a private university, and an expensive one at that (though what private universities aren't expensive these days?), and had my way paid for me through a combination of scholarships, student loans, and parents. I made it a point not to work during school so as to focus on schoolwork. In my defense, I finished with a good GPA and I worked and saved up money every summer. Still, I didn't have a lot of cash money, and I was fine with that because I was fully expecting to be well-off after I got out of school. (Now that I think about it, that's a bit of revisionist history. I planned on going into a PhD program so it would have been years before I got a good salary.)

My first two years I signed up for the college-provided meal plan. It was decent food but mondo expensive. In my junior and senior years I opted to cook for myself, and that decision probably saved me between $2k and $3k a year. I knew that signing up for the meal plan would be the easy way out. It would also be paid for with future money, and potentially my parents money, but a 2x markup is pretty steep. I guess I would have to pay for my food out of my meager cash savings. Unless...

Unless I could use future money without using student loans. I'm talking, of course, about credit card debt! Don't worry, I wasn't totally insane. I managed to score two credit cards at 0% interest for 12 or 18 months (the details are fuzzy, I think it was an Amex Blue and a Citi Mastercard). The limits were low, like $2k or $4k. That way I got to keep my cash while still buying foodstuffs to keep from starving. The low limits were a boon, too, because I could still feel poor without having to pay cash for things.

I kept those cards at or near their limits for months on end. Often times I would need to pay more than the minimum payment so I would have room for new purchases. This whole process took a lot of fine tuning. I wouldn't recommend it if you don't plan on being very hands-on with your money. When the introductory APR period came up I would either pay the card off in full, if I had the cash, or I think once I needed to balance-transfer the money onto another 0% card (and eat the $30 fee).

It was a dangerous game I was playing. I didn't pretend otherwise, though in my youthful swagger I didn't really have a concept of what exactly could go wrong and just how wrong it could go. To tie that story up, I managed to pay off all my credit card debt during my one year of grad school, on a stipend of $18k/yr. I kept my living expenses low and I'm pretty happy about it, though part of that should be considered a debt rollover since I took out the maximum I could in Stafford loans.

I knew some things about money, but I certainly did not know everything.

Fast forward to today. I've seen the light of Mustachianism as delivered by our wise mustachioed sage. I've been aggressively paying off my accumulated student loan debt for over six months now. I make an obscenely large amount of money and I live an over-the-top flippantly luxurious lifestyle. And the thought crept into my brain: could I use credit card introductory teaser offers to accelerate my student loan debt paydown?

I've started down a dangerous path once more. Since I got my 0% Discover card in May, I've been charging anything I can to it instead of my other cards. I will only be paying the minimum. This will free up a few hundred dollars of cash per month which I will be using to pay off my loans. I've also gone one step further by charging some joint account purchases to the Discover card and reimbursing myself with cash from the joint checking account (having cleared this with my girlfriend first, of course). In this way I can borrow money at 0% to pay off my student loans at 6%.

I'm taking on additional cash flow related risk with this little maneuver. I'm also taking on the risk that I'll buy things I wouldn't have ordinarily bought because I don't have to pay for them right away. The benefit is something on the order of $100/mo of interest I'll save by paying off my student loans earlier (0.5%/mo on $20k is $100. I have over $25k student loan debt outstanding.)

I've been grappling with what my personal stance on debt should be. But this post is a lot longer than I had originally intended, so I'll pontificate some more tomorrow.

Thursday, June 7, 2012

A one-car household once again

We sold the Land Rover last Thursday. June 1st was the next day, which meant our time was up, and we had to sell the car per our agreement with my girlfriend's dad. So we did. It's pretty easy to get a car dealership to cut you a check for a car you own outright. I had the car listed on Craigslist for about a month, though in retrospect I started the price off too high and didn't bring it down quickly enough. A lesson is learned: time is a good thing to have when you're selling something.

But that's alright because this is a step forward on the vehicular subchapter of my Mustachian journey. Today is Thursday again, which means we've been a single-car household for a week. And it's been pretty great! I've biked to work every day since we sold the car. I plan on continuing to bike to work every day until I get a new car. I'm not sure exactly when that will be. It's totally worth it not having to bum rides off my girlfriend — and I know she appreciates it.

We were a single-car household once before. A year or two ago, my girlfriend and I carpooled to work each day for a period of two or three months. This had the effect of doubling one of our commute times (from 10 to 20 minutes, so not bad). It was annoying at the time, though. I'm not sure why. Maybe a sense of entitlement on my part, or I was used to independence and not having my plans depend on someone else. Whatever it was, I feel like I've grown up since then.

I do find it really cool that I can rely on myself for transportation without the use of a car. I never imagined being in this position, either, but it's totally worth it. Yet another thing I owe to Mr. Money Mustache. I consider it a pretty big shift, and it's a shift for the better.

My legs are sore pretty much constantly nowadays, though it's not as bad as it sounds. I'm expecting that to go away in a week or two. As far as I'm concerned it's the feeling of my legs chiseling themselves into a finer specimen of humanity, and I'm okay with that. Stretching helps too.

Wow, I've written this much without even mentioning the money. Here's a really cool thing you'll find on your own path toward Mustachianism: after a while, the whole "saving money" thing fades into the background. You spend less time thinking about saving even though you're doing it constantly. Almost all week when I would think of biking, I would think about either how beautiful the weather is, or how my legs felt, or how hard I try not to get hit by a car when I'm crossing the road. I kind of stopped considering how much money I save by making a trip by bike instead of by car. But you know what? It's happening all the time, automatically. Biking is its own reward, it's awesome all by itself, and the money takes care of itself.

My round-trip commute is 7 miles. At 15 mpg that's a half gallon a day. With gas prices somewhere between $3.50 and $4/gallon (I never pay close attention), and doubling the cost for vehicle wear and tear, that's like $4 per day of commuting. That's pretty close to the IRS's mileage reimbursement rate of $0.555/mile so my numbers are probably sound. Hmm, four dollars a day. That's not too much... and at the same time it's really a lot of money! It means I saved $20 this week, and toned my legs, all without thinking too much about it. Pretty awesome. And all in a days work for the budding Mustachian.

Does this all mean we'll stay a one-car household?

I have given this question serious thought and the answer is no, I'm not planning on it. It would be super awesome to avoid car taxes, insurance, and fuel all together. I'm just not ready to give up the safety margin another car provides, even at the rather high cost I'll have to pay for it.

I'm hoping in the future a more badass me will step up to the challenge of making a one-car household work. I see it going something like this: a month or two will go by and I'll realize that I didn't use my car once. Not for commuting or errands, and I never had to go shopping when I wasn't accompanying my girlfriend anyway. Then I can sell my car from a position of power. That would be really sweet. But I digress.

As I've mentioned in previous posts, I've been saving up cash for a car purchase for a few months now. Last time I counted I have something like $7k. It's still possible I'll buy my sister's Yaris, but more and more it's looking like her apartment search will take another month or two and she'll be keeping that car until she's found another place to live.

More likely I'll find a car I like on Craigslist. But here is a twist: I applied for a used car loan through a credit union that I'm a part of. I was approved for $15k at 2% interest. This has made me lean heavily toward the idea of financing all of my used car purchase, and putting all that cash toward my student loan.

Yes, that means I'll take out more debt. Yes, it means I'll probably buy a car for more money than I have on hand. This isn't a perfectly Mustachian choice. But I don't think insisting on being a one-car household is tenable in my situation, not now anyway, and I think a credit union used car loan is a pretty reasonable choice.

I'm going to leave all the details of my financial shenanigans for a future post. For now, suffice it to say that I consider trading student loan debt at 6% for secured debt at 2% to be a pretty good deal.

Until next time, folks.

Monday, June 4, 2012

One loan down, one to go

Two months ago now, I finished paying off my Sallie Mae loan. I sent the last payment, for $1,322.72, on April 10th. On May 11th, I received a letter saying "Congratulations! You've completely paid off the student loan(s) listed below".

I took that loan out in January of 2007. The initial amount was $4,725.00. By my count, I've paid $1,921.41 in interest over the life of the loan. This eliminates $69.88 from my monthly expenses, and paying off this loan early saved me over $1500 in interest.

When I took that loan out I didn't imagine paying it off aggressively (and I also didn't imagine student loan rates would be 6% when the prime rate is hovering in the 3% range). But I got a new, better philosophy on money and life, and now I'm $1500 richer because of it.

It feels pretty good to be free of one loan, but the other one is looming, and it's way bigger. $25,665.74 as of now. Okay that's a pretty big number now that I just typed it out. I'll be rid of it soon enough. At my current rate of paydown, and controlling for other factors like needing a car, I'm still on pace to hit my end-of-2013 goal to be student loan free.

I should note also that I have a little over $5k cash sitting in my checking account, which I'm holding back until my car situation gets settled. I'm still not sure how much of that I'm going to need, but I'm planning on talking more about my car situation in another post. Suffice it to say that any extra will be immediately applied to my outstanding loan.