Reader Mailbag: The New Year

What’s inside? Here are the questions answered in today’s reader mailbag, boiled down to five word summaries. Click on the number to jump straight down to the question.
1. What does “savings” mean?
2. Getting out of a lemon
3. Dealing with multiple debts
4. Is a prenup needed?
5. Investing help
6. Best movie of 2010
7. Working on a goal
8. Saving for someone else’s college
9. Using multiple companies for investing
10. Best books of 2010

2011 has begun. I’ve been to the gym. I’ve practiced on the piano. I’ve read almost one book on my long list.

The goals are moving forward. It’s going to be a great year.

Q1: What does “savings” mean?
I read an article in Money that says that we need to save at least 25% of our after tax income. I agree. What I am not sure is what can I categorize as a saving. Here is my list:

My savings:

* Investment: General
* Investment: Retire
* Emergencies: Serious
* Emergencies: Day to Day
* Car: Insurance
* Car: Inspection
* Pet: Vet
* Baby
* Home Projects
* Gifts
* Vacations

This are savings that I don’t spend monthly. I use some of them every 4 or 6 months. Investment: General, Investment: Retire, Emergencies: Serious and Emergencies: Day to Day are the only ones that I don’t touch regularly.

My question is: What really is a saving? You know, I save for vacations. But I now that I will spend that money at some point during the year. Do I include vacation as a saving to calculate % of money on savings?
– Fernando

Generally, I define “savings” as meaning any portion of your monthly pay that you’re not spending within a month or so of receiving it. In other words, take your monthly take-home income, subtract all of your normal bills and all of your normal monthly expenses and all of the frivolous spending that you do. What’s left is what you’re saving.

I think most of what you listed above would be considered “savings.” They’re sitting around making sure that a major expense you’re going to face later on doesn’t sink you. That’s really the heart of what “savings” is – it’s making sure that you don’t get sunk by something unexpected.

Eventually, we wind up spending almost everything that we save. We save for retirement – and we will eventually spend it. We save for a down payment – and we will eventually spend it. The idea behind savings is that you’re saving for significant important things that you know will occur later on and that you’re financially and personally mature enough to begin preparing for it now.

Q2: Getting out of a lemon
I purchased a used car in 2008 (2004 Mini Cooper). I bought it from a dealership with an extended warranty which is now expired (time & mileage-wise). The car cost $22,000 (that price includes an extended warranty). The dealership’s finance manager told me I wasn’t able to get a traditional bank loan and could only finance through a subprime lender (15.9% interest rate). (I discovered this was a false statement as a month after closing the deal I rec’d a letter from a bank wanting to know why I turned down their loan offer.) Anyway, I used my Jeep as a $5500 down payment and went ahead with the purchase. I admit now, this was an ‘ego’ purchase and have vowed to leave my ego at home in the future.

The car started giving me problems, mechanically speaking, 9 months into ownership (the dealership said they no longer had any responsibility as to their warranty; the NYS Attorney General’s office agreed). I had to deal with the extended warranty co directly and AAMCO and borrow thousands for dollars worth of rentals while my car was in the shop. The transmission is acting up yet again (replaced twice with new, not rebuilt, in the last 2 yrs). Obvioulsy, I owe much more than the car is worth. Having gone through a lengthy and ridiculously expensive divorce my credit was terrible for years but I have recovered (good job/no late payments for 4+ yrs) and fear giving the car back to the loan company is going to damage my credit once again. That’s a really long, hard road to walk down and the idea of revisiting it makes me anxious. I’ve already gone to a few dealerships but due to the excessive amount owed, it’s not a viable trade-in at this juncture. I’ve taken on additional work, selling what we don’t need, etc., trying to pay this loan down so I can trade in the vehicle and start over. The way the engine is performing, it’s most likely going to break down before I reach that point. I don’t have a savings account or own property so throwing more money at a losing proposition is miserable. What do you think? Give the car back to the loan company and call it a lesson learned?
– Barbara

You’re in a pickle. This car is a lemon, and it’s something that is always a concern when you’re buying a used car that’s out of warranty. Sometimes, it’s a rust bucket full of imminent problems. That, unfortunately, is part of the risk, which is why I start to get hesitant about buying used cars that are on the verge of going out of warranty.

If you walk away from this car, it will be an absolute bomb on your credit history. Your credit score will go through the floor and stay there for years. This will cause higher insurance rates, inability to get future car loans (or, if you can get them, they’ll have very high interest rates) and/or loans of other kinds, and other credit issues. I’m not going to get into the morality of defaulting on loans by choice, but that’s another concern.

I know you have all sorts of reasons for not wanting that car, but it’s going to cost you no matter what you do with it.

Q3: Dealing with multiple debts
I’m about to get married, and my fiance and I have really been working on a budget and ways to tackle a little debt and to save some money at the same time.

Current debts:
$990 in credit card debt (mine)
$3000 credit line debt (my fiance works in the auto service industry and their tools are over 15K, this is how the mechanics get tools and buy doing this they get their tools at 1/3 of the cost even with the interest)
$200 debt to Kay Jewelers in Month 3 of 12mos no interest (started at about $500)
~$30,000 student loans combined but not yet in repayment because i went right to grad school and he is still in his undergrad

I feel like we’re doing everything we’re supposed to, but at the end of the month I always find myself thinking we could be saving more or spending less. We go out to eat once a month only, and grocery shop for the rest (about $50 a week at most). The only money we’ve been spending is on the wedding. We save almost $800 a month to savings and have been for a few months now so we have almost $2k in savings for emergencies (we had to buy some furniture so that was purchased instead of all our savings made one month). My fiance has started his 401K only recently because he hadn’t met all the criteria to start contributing (amount of time at the job, just turned 21, etc) so they don’t let you. We pay about $100 a month to Kay to get rid of that debt so we can put it towards his other credit line. My fiance has been working into the sales and business aspect of the auto industry and no longer needs most of his tools, so he will be selling them and will end up making a profit, and all money will be first applied to paying off the tools and the rest will go into savings. I pay 2x my minimum on the credit card. We desperately need a new car (we’re downsizing to one, but my car is currently not even safe to drive and his car has 130K on it and is starting to have expensive problems) and even though we don’t want to have a car payment we’ve already been putting it in our budget for awhile so we’ll have money towards it and plan on buying used (i think cars are a waste of money!).

We end up with a surplus at the end of the month even with all of this, but I don’t feel comfortable if we do not have a cushion in our checking account–it just makes me nervous. Are we doing what we’re supposed to? Am I just worrying about it too much? Is there something we should be doing differently?
– Stephanie

I think you’re doing things as well as you can. You’re making progress on the debts each month, which is a good thing. I think you’re mostly just facing the long and painful slog of debt repayment.

One approach you may want to take is to use the Dave Ramsey method, which is to pay off the small balance loans first. I would probably wait on the jewelry loan for a few months since it’s interest free at the moment, but instead focus heavily on the credit card debt.

The idea behind that plan is to get rid of a debt payment as quickly as you possibly can so that you have more breathing room in your monthly budget. Of course, ideally, you roll that extra breathing room into larger extra payments on your remaining debts.

It’s an option that might help with the debt-related stress you seem to be feeling.

Q4: Is a prenup needed?
I want my bride-to-be to sign a prenupital agreement. She tells me it’s not necessary. What do you think?

– Ronald

My feeling is that if a prenupital agreement is a wedge issue in your relationship, then you probably need to season that relationship a bit more.

People have a prenupital agreement as a hedge against potential divorce down the road so that they have a legally binding plan for separating their assets. I understand that some couples want to have a hedge against that, but it works if the couple is in agreement about that hedge. It means they have a similar view of the commitment they’re about to enter into.

If one person wants a prenup and the other does not, there’s obviously some conflicting views about marriage going on. You need to sit down and explore those differences. Likely, if there’s one difference on a key issue like this, there’s more than just that, and if you’re finding you’re not on the same page on a lot of issues, it may be that marriage is not the right choice for the two of you.

Take it slowly. Make sure you’re compatible and you have similar views on key issues – or at least understand and respect each other’s views.

Q5: Investing help
In the past few years I have begun investing and basically I am self-educating on the topic. It took me a while to figure out that in order to invest my money that is sitting in an IRA, it needs to be with an IRA that offers a way to invest in the stock market. Currently my IRAs are with ING Direct, and as far as I can tell you get the small interest rate or you can put funds into a CD, but that’s about it. So, I need to transfer the IRAs to a place that can do what I want (I am looking at Vanguard currently from everything I have read).

Here’s the rub: my current IRAs are Traditional, which was done to reap the tax break at the time of filing. However from reading your site and others, I know Roth is the way to go. What is the best approach to both convert to Roth and move the IRAs to Vanguard so I can start on some retirement investing (I am looking at index funds by the way)?

What am I looking at as far as fees/penalties etc. For the Traditional to Roth conversion, and what order should it be done in? How do I pay the taxes on the money once transferred?

I have under $10K in the Roth IRAs, but also have some savings in a nominal (about 1.25%) interest bearing account with ING. I’m considering also putting that to work for me over at Vanguard as well. Any suggestions for someone just branching out of the beginner stages?

I’d like to see the money I have just sitting in the savings recoup some higher interest rates, but also need to be safe enough that in case I need some of that money I can get access to it as I can with the ING savings accounts.

And for a little background, I have been self-employed for the past two years as an illustrator. All my student loans, car and debts have ben paid off, save for some gadgets I have on a 36-month no-interest plan that I pay automatically each month (less than $1500). Being self-employed I need to handle my own retirement as you I am sure are familiar with. I am basically looking for something that gives me a better return than the 1.25%, but still conservative as I am just dipping my toes into all of this.
– George

My honest suggestion is that if you’ve settled on Vanguard, call them up and ask what plan they suggest for minimizing your effort and your tax burden. It is in their best interest to identify that plan for you, because the smaller your burden, the more you’re likely to invest there and the more money they can collect instead of Uncle Sam (Vanguard earns the money to keep the doors open by taking a small percentage off the top each year, often a fraction of a percent).

When you convert a Traditional IRA to a Roth IRA, you’ll have to pay income taxes on the amount you converted – it’ll be treated as additional income for the year. You’ll be liable for that. The best approach is to convert early in the year and then take some of your usual retirement savings and channel them into a different account for your tax bill at the end of the year.

It’s worth it, though, because you’re paying the income taxes now as opposed to paying them in retirement when, in theory, they will be higher.

Q6: Best movie of 2010
What was your favorite movie of 2010?

– Antonio

People might expect me to name Inception or The Social Network or something like that. While I did enjoy Inception (and, unfortunately, I’ve yet to see The Social Network), my favorite film was a bit more obscure.

My favorite film in 2010 was Exit Through the Gift Shop, a documentary about the commercialization of street art. I watched it mostly due to the recommendation of a friend and a vague interest in street art, but the story told in this documentary – about an individual who masters the commercial nature of an art movement – was utterly fascinating and, in places, hilarious. I’ve watched it twice and spent more time discussing it than virtually any film I can name in the last several years. Is it a hoax or not? I lean towards hoax, my wife leans towards not. You need to see it to know what we’re talking about, but it’s well worth seeing.

If you have Netflix streaming, it’s available on there.

Q7: Working on a goal
You often recommend ways for people to change their lives – transition to new careers, decrease spending, and pursue goals.

I am confounded because the goal I want most of all at this point in my life (I have a home I love, a job that brings me joy, and enough money saved to sleep well at night) isn’t something I feel like I can go out and work on. I want to get married and have kids. This isn’t a goal I feel like I can break down into steps (like for weight loss – I could walk 10 min today and work my way up to 45 min). I can’t exactly set up a timeline – go out on a date on Friday; in 3 months have a conversation about being exclusive; in a year or two get married, etc. This is becoming much more of an issue because I’m a woman and approaching 35 – I know if I want to have biological children, I don’t have unlimited time.

I do follow most of the conventional advice – I talk to people around me (at the store, the bus stop, church). I participate in activities that I love (church, karate, social time with friends). I have a life that makes me happy – except that I want a family. I am close with other kids in my life (nephews, children of friends), but it’s not the same. I’ve done online dating – and even had friends help me with how I’m “selling” myself.

I know we don’t all get to have every part of our dream but when I look at big questions about my life (what would you regret if you died tomorrow, what can you give to the world) it’s the part of my that feels missing/unfulfilled. And, deep down I know it’s not a goal I can seek in a traditional manner. Any thoughts?
– Mary

I think what you’re asking me is how you would go about finding the right person to marry, settle down with, and have children with.

I’m going to say something that goes against a lot of the “relationship” advice out there. I dated my best friend and eventually married her.

Sarah was my best friend before we even thought about dating. We had conversations about not wanting to be single all of our lives and how we each wanted to eventually have children, but we knew each other for years before even the slightest hint of dating occurred.

I think at some point we simply realized that we enjoyed spending a lot of time together and we decided to try dating, just to see how it would work out, and what we found is that we loved each other deeply, especially over the six years that we dated before marriage. I would not have anyone else in the world by my side. Sarah is my wife, but she’s also my best friend. I would rather just hang out with her than anyone else that I know.

When people ask me for relationship advice, I’m never sure what to say because that experience with Sarah is simply what worked for me. My best friend and I sat down, decided that we really enjoyed spending time together even though there wasn’t initially that big romantic “spark” that is lauded in the movies, and decided to give dating a try. If it fails, so what? You have something to laugh about with a close friend. If your friendship is fragile enough to not survive that, then how deep is that friendship?

Who do you really enjoy spending time with? I would start there, because that is what worked in my own life.

Q8: Saving for someone else’s college
A couple friends of mine recently had a baby. They used to live in my state and have been friends with me since junior high school. They recently bought a house and neither one has a great job, but they are not struggling financially. However, I don’t think they have much money to contribute to a college fund for their new daughter. I am going to fly and visit them later this year and wanted to get something for their daughter, like a college savings account. Neither one of them finished college, so I am not sure how much importance they will put on sending their daughter to college. I don’t want to ask them beforehand as I want it to be a surprise, but I don’t want to put money into a college savings account that will never get used. I am thinking about putting about $500 in it to start, then contributing smaller amounts every birthday and Christmas and hoping they’ll contribute a bit here and there. So my question is: Is contributing to a 529 the best idea? Is there another type of account that could be used either for college or just be good for general getting off her feet expenses when she grows up? And is $500 as an initial investment sufficient to get a good amount in 18 years?

– Dan

A 529 is a very good idea in this case, I think. Make sure that it’s an “open” 529 that can be used for any educational expense, not just a prepayment program. Iowa’s college savings program is a very good one.

If I were you, I’d tell them about the plan, start it yourself, contribute $500, and have that child as the beneficiary. After that, don’t mention it until the child is close to thinking about college, then let that child know that you started this for her when she was a baby so that she could make a go of having the life of her dreams.

I am always hesitant to encourage people to turn over control of such accounts to parents in situations like this because I have personally seen such gifts horribly misused.

$500, after 18 years at a 7% return, would add up to about $1,700, which will certainly help. You might also put a small amount each year into the account on her birthday.

Q9: Using multiple companies for investing
Is there anything wrong with doing my 401k with Fidelity and my Roth IRA with Vanguard? I searched through your blog history and never specifically read about utilizing two different companies. Do you foresee any issues with this? OR, is it better to stick with Fidelity exclusively? I always worry about spreading out my funds too much, as it seems easier to have everything consolidated with one company.

I’m 24 years old, contributing 12% to my 401k (with 6% match from my company) , and have decided to use the money from my most recent promotion to go exclusively towards a Roth IRA. I also have 27k in savings and zero debt (i’m living home rent-free).
– Jenna

I don’t see any issues with this at all. The only concern I would have is simply making this arrangement clear in your personal papers, so that anyone who might inherit your money is aware that you have both of these accounts open. There’s also minute identity theft concerns, but I consider them to be negligible.

There’s also an additional benefit that both companies are separately insured, meaning that you have $250,000 in insurance with Vanguard and $250,000 in insurance with Fidelity. Insurance means that if the investment house fails, up to $250,000 of your investment is protected and will just appear in an account at another investment house (you’ll be informed of this).

Fidelity is a good company. If you feel more comfortable with Vanguard, then use them for your Roth.

Q10: Best books of 2010
I know you read like crazy. Give me your top ten books for 2010.

– William

Aside from personal finance (a genre where I try to be objective), I read about eighty books in 2010. After looking through my list, I’d name these as the top books of the year. These eight were clearly ahead of the pack for me – whenever I tried to find two more, they just weren’t up to the others, in my opinion.

The Big Short, by Michael Lewis, is a brilliant retelling of the financial crisis of 2008, with some deep insight as to who was ahead of the curve in figuring out what was going on (leading to Goldman Sachs profiting from it).
The Lacuna, by Barbara Kingsolver, is the tale of a novelist lost in Mexico in the 1930s. I didn’t like the novel when I first read it, but it has stuck in my head like few others.
Chronic City, by Jonathan Lethem, works for me because of Perkus Tooth, one of my favorite literary characters in a long time.
Manhood for Amateurs, by Michael Chabon, is a wonderful collection of essays on fatherhood, a theme that ran through my reading in 2010.
Rabbit, Run, by John Updike, was easily the best “classic” literature I read in 2010. Updike’s writing style draws me in. I’ve read a lot of his books over the years, but never this one (arguably his most famous one).
The Kingdom of Ohio, by Matthew Fleming, is a wonderful chunk of historical fantasy involving alternate universes where history didn’t go quite as it did here (hence the title).
Are We Winning?, by Will Leitch, pairs with the next book in a way as a look at how baseball impacts the life and the relationship between father and son. This is a modern take, while…
The Boys of Summer, by Roger Kahn, covers much the same material, just a few generations earlier. It is that longstanding thread of baseball, fathers, and sons that draws me in.

Got any questions? Email them to me or leave them in the comments and I’ll attempt to answer them in a future mailbag. However, I do receive hundreds of questions per week, so I may not necessarily be able to answer yours.

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