Reader Mailbag #58

Each Monday, The Simple Dollar opens up the reader mailbags and answers ten to twenty simple questions offered up by the readers on personal finance topics and many other things. Got a question? Ask it in the comments. You might also enjoy the archive of earlier reader mailbags.

As usual, we’ll start things off with a few links to older articles that directly answer questions I’ve heard recently. A few readers have asked for books to read on debt recovery. Here are my three picks (links go to my reviews):
The Total Money Makeover by Dave Ramsey
Pay It Down by Jean Chatzky
You’re Broke Because You Want to Be by Larry Winget

And now, some great reader questions!

I haven’t quite figured out why some experts recommend a 6 month EF (emergency fund), but a 9 month EF if you have kids. Why do you need the extra three months, just because you have dependents? Since you have kids your expenses would presumably be higher. Your EF would automatically account for that because it’s being guided by month’s worth of expenses and not a dollar amount.
– Seth

First of all, statements like “build up a six month emergency fund, but make it nine months if you have a kid” are useful rules of thumb for goal setting, but they’re never the absolute perfect solution for everyone’s situation. Some people are simply more prone to emergencies in their life than others. Things that make you more prone to needing an emergency fund include poor health, an unstable job, driving an old car, and so on.

It’s commonly held that children are another factor that increases your likelihood for emergencies, and I’d have to agree with that. Here’s my feeling: the more dependents you have, the more likely you are to have huge emergencies in tandem, and thus the larger your emergency fund should be.

If you’re the sole person you’re keeping an emergency fund for, you’re the only person who can suffer an emergency. On the other hand, if you have a spouse and two kids, you have four people who can have an emergency. You lose your job, then your kid gets hit by a car. Double whammy, one that can’t happen without kids.

That’s why it’s useful to have a longer-term emergency fund if you have kids. Six month versus nine month? Numbers that specific are somewhat a matter of opinion.

My question is regarding the size of home I should buy. My wife and I are newly married and do not plan to have children for probably 2 years. Should we buy a home that’s just big enough for what we need now and move up later, or should we take advantage of the especially low prices to get a house that is big enough to meet our future needs (without breaking the bank)?
– jonathan

As a rule of thumb, you’re better off just buying the house you need right now. Excess space is expensive, not only on the upfront sticker price, but also in terms of maintenance and a tendency to fill that space with stuff (which also has a cost).

However, you have at least three big factors pointing you to buy a little bigger right now. First, interest rates are incredibly low at the moment. You’ll likely not get a loan this low in two years once the economy has begun to recover. Second, the housing market is still reeling. Prices aren’t falling sharply like they were a year or so ago, but they’re certainly not rising at the moment. When the economy recovers, it’s hard to say what will happen to that number, but the prices are certainly better right now than they were two years ago. Also, you know that children are coming and you’re planning on settling in the area, which means you know you will actually need more space.

Given those factors, I would encourage you to go against the rule of thumb and buy that larger house. Don’t get anything unnecessarily large, but pick a home that’s appropriate for you and your family post-birth.

I’m currently looking to leave the nest of home. I have a good, stable job in a stable industry. What’s some things to have in advance. I am personally hoping to have a 6-9 Month emergency fund pre-established before I leave but how about other tips? Thanks!
– Battra92

First of all, you have incredibly supportive parents if they’re allowing you to continue to live at home while you have a good, stable job. Most parents would have shooed you out the door long before now.

That being said, you’re going to have a very hard time judging your real expenses until you’re out there on your own, and thus a “6-9 month emergency fund” is a hard number to judge (unless you’re trying to match salary).

With such supportive parents, I would move out sooner rather than later. If something goes wrong, they will apparently be there to support you. Moving out now gets you on your own two feet much sooner.

I recently got into a surprising argument with a friend who insisted that my partner and I should be buying a house as we are both securely employed and are making decent incomes. She argued that we would actually be saving more by taking out a home loan. My partner and I both live in a very inexpensive rented apartment in a very nice part of our city and have not wanted to take on the responsibility of a home especially because we both are somewhat nomadic. Owning a house is not something that either my partner or I aspire to in the near future but do you think we are missing an opportunity here?
– pv

That person’s idea is based on the sense that a mortgage payment builds equity. In part, that’s true, but most of a mortgage payment goes away in interest, particularly early on. There’s also some advantage to buying a home right now because the housing market is down and interest rates are very low (as I mentioned above).

That being said, if you’re not interested in being a homeowner, don’t be a homeowner. There are many other places you can put your money to build value – stocks, direct real estate investments, bonds, CDs.

The key is that you’re actually doing it. Many people who are in a situation where they don’t need to make payments don’t use that extra money effectively. If you use it effectively, you can build a lifetime of wealth and security.

I have seen a number of times the “rule” that people should pay themselves (savings) first, before their creditors and before their regular expenses, but this is something that I don’t understand. Partly because I thought it was obvious that if you have savings, you use them to pay debt where you have got it because it seems counterproductive to keep savings but also keep debt as well. If you used your savings, your debt would be gone quicker – the same goes, as far as I can tell, for putting money in savings on a monthly basis. Or does it depend on what you’re saving for and your income level (barely make the bills or got a little to trim down) and other things?
– princes_peas

The reason for having money in savings when you’re also paying down debt is to prevent emergencies from undoing all of your progress. From a psychological standpoint, that’s an incredibly powerful element.

Think of each of the two scenarios for a moment. For several months, you throw all your extra money into paying off debt, then an emergency hits and your balance goes right back to where you started with a life that’s seemingly reliant on debt. Or, you make minimum payments and put your extra money into an emergency fund without racking up any new credit, then when the emergency hits, you can actually deal with it without the credit.

In one scenario, you’re relying on high-interest debt to live your life. In the other one, you’re standing on your own two feet and merely paying off the mistakes of the past. There is a lot of psychological value in standing on your own.

My husband and I have been pondering the prices at Sam’s Club to determine what’s worth it. I read your earlier posts, and see that you buy diapers and a few other things. What have you found there to be less expensive than locations that do not require a membership. Could you estimate the price difference?
– Rebecca Hammer

For the most part, if you’re willing to buy a large quantity of a particular item, Sam’s Club will beat your local grocery stores in price. Although it’s not the case on every item, it’s a strong enough rule of thumb that we’re almost always willing to default to Sam’s on price.

The catch here is quantity. In a home with just two people, if you buy much at Sam’s Club, you’re going to be putting a lot of the extras into storage. Do you have a big freezer and an adequate amount of dry storage space? If you don’t, you’ll either end up restricting your purchases enough that the membership won’t be worth it, or you’ll end up wasting portions of your purchase.

One effective way of dealing with this problem is to buy bulk items with friends and then split them into reasonable portions. For example, you might go there and buy an eight pack of spaghetti sauce at a price per jar that’s much cheaper than the store, but you simply don’t have room for all the sauce, so you actually split the cost of the eight pack with a friend and each of you take four jars. You might even want to consider splitting the membership with a good friend.

How do I go about finding a local credit union?
– princes_peas

The easiest way to find a credit union in your area is to use the Credit Union Locator at the Credit Union National Association website.

Having said that, you should also hit your social network for advice. Ask people you know that live in the area if they use a credit union or have any good/bad anecdotes to share. I tend to trust what my friends have to say on topics like this, because the experiences of a “random” customer often reflects how you will be treated if you use the service.

I have an artist that I stumbled upon and I would like to own one of his paintings (even if only a print). What is your opinion on purchasing artwork? (Especially if they are over 200 dollars)
– Chris

First of all, never buy art as an investment. Investment-grade art is expensive and incredibly prone to huge market fluctuations that are hard to predict. If you buy art, buy it for your own enjoyment.

As for whether or not an expensive print or original art is an appropriate purchase, it depends on what you’re looking for. I tend to believe that it’s worth investing in one quality item that truly expresses what you want than it is to buy five low-quality items that merely fill a room. Your decorations should reflect who you are and a great piece of art can last a lifetime and be handed down as well.

Having said that, you need to be sure that a piece of art that you’re going to invest a lot of money in is something you’re going to want around for the long haul. Don’t buy it rashly – this is definitely a “six month rule” kind of purchase – wait at least six months and make sure you’re still passionate about it. See if that item really sticks in your mind. Put images of the item up in your home and see if they fit. Save appropriately so that you’re not putting such a person on credit.

If you go through that and come out on the other side still wanting the art, go for it – it can be a wonderful long-term addition to your home decor that brings significant personal value into your life.

My boyfriend’s father has been telling me recently how “dumb” it is to be putting away money for retirement at my age (24). He thinks I should be putting more money away in my savings, buying a house with a 15 or 7 year mortgage, then start saving for retirement around age 40 when my house is paid off. Now, I know this is taking a lot of things for granted: that when I’m 40 I’ll have a job with a decent retirement plan, that I won’t have kids in college, etc., and it’s not really a risk I’m willing to take. But I’m considering maybe a slight decrease in the percentage I am putting away. Right now I contribute 8% of my income to a 403(b). Once I have been with my current employer for one year (September 2009), they will begin contributing 11% of my annual salary. With the market the way it is, I know I am buying low and should continue to contribute, but is it worth maybe reducing my contribution to, say 6% and putting that money right into my savings? I have considered that my 403(b) contributions are pre-tax, so it’s not exactly an even trade. Sorry for the long-winded question! Thanks!
– Marcy

Not only is it dangerous to take for granted what you’ll be doing when you’re forty, it also ignores the concept of compound interest.

Let’s say you can put money away for retirement and it will always return 8% a year (we’re not going to worry about the vagaries of the stock market here). If you put in $5,000 a year (the Roth IRA maximum contribution right now) from age 24 to age 30 – just seven years – you’ll have $659,633 at age 65. On the other hand, if you wait until you’re 40 and put in $5,000 a year, you’ll have to put in $5,000 a year EVERY YEAR from age 40 to age 65 – and you’ll still only have $399,722 at age 65.

Assuming that 8% return, every $1,000 you put in right now at age 24 is worth $3,430 at age 40. Waiting until you’re 40 only means that retirement savings will be much harder than they ever would be if you started now.

Do you still do computer work on the side? How is that going?
– Nate

I still do computer work for people who ask me directly, but I am no longer seeking new customers. To put it simply, I have far, far too many things going on in other avenues of earning to keep up with computer work.

I didn’t particularly get tired of it. What happened is that my life filled up with commitments and income opportunities and I had to make some difficult choices. That meant, simply, that computer consulting, for now, has gone the way of the dodo.

Got any questions? Ask them in the comments and I’ll use them in future mailbags.