Twelve percent.

Last week, a former classmate shared a Dave Ramsey article about early savings. Ramsey stated a teenager could save a couple thousand a year, stop saving in their 20s, and still retire a multimillionaire. I agree with the sentiment completely, but I’m concerned that Ramsey overstates how rich that person can expect to become.

Ramsey’s favored investment vehicle is a mutual fund that tracks the S&P 500.

The problem with the article is that he assumed an annual return on investment of 12 percent, which is well above every reasonable historical estimate I’ve ever heard of S&P 500 rates of return. Forbes agrees. Ramsey is basing his number on a subset of history, not all available history.

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Wouldn’t you agree, more income is the answer?

So a friend of a friend came over the other night, pitching a pyramid scheme. He just told me he’d started a business. I figured (and kind of hoped) he wanted to sell me handyman services. Actually he wanted to get me out of debt.

"But I have no debt," I said. He told me I needed to keep an open mind.

I remember the last time someone told me that. It was two Mormon missionaries. To be nice, my wife and I let him keep talking.He kept asking me how much other people would admire me if I helped them financially. "But people have to be ready," I said. "They can go to the library any day of the week and check out a Dave Ramsey book for free and get on their way to climbing out of debt. But how many people do it?"

He said he agrees with some of the things Dave Ramsey says. But he kept trying to sell me on the pyramid scheme. Even when I told him I already had a side business. (I didn’t tell him I’m thinking about two others, neither of which involve any pyramids.)

"Dave, what would you do with an extra $1,000 a month?"

"Max out the 401K, think about real estate," I said.

That wasn’t the answer he usually gets.

Finally he pitched a mortgage scheme. "How many years before you pay off your mortgage?"

"Zero," I said.

He looked at me like I was from another planet. And that was pretty much the end, because he finally realized he had nothing to sell me.

But the one line from his folksy, almost-slick presentation that rang with me was this: Wouldn’t you agree, more income is the answer?

Usually it’s not. Better management is the answer. If you just throw more money into your bank account and manage it poorly, that extra money isn’t going to help you get out of your hole much faster.

And what’s worse, pyramid schemes rarely live up to their financial promises. And they benefit the people above you more than you. From the slide he showed, for every thousand he made, his "trainer" would make nearly two thousand.

I don’t care how you spin it, that’s just not right.

Taking on side work helps when paying down debt. I sure did a lot of it. But I was making money for me, not for other people in a pyramid. Sometimes I paid fees, but we’re talking 10, maybe 15 percent. When I made $100, they made $15. Not $200. I got 85% of the fruits of my labor, not 33%.

But how much I made mattered less than what I did with what I had. I slashed my electric bill. I brown-bagged lunch. I wore secondhand clothes. I bought Chase & Sanborn coffee. (A big can costs $4.95, lasts a few months, and it isn’t very good.)

People sometimes told me life was too short to cut corners like that. But I’d do it again. I think life is to short to spend it paying interest.

I figured out that every extra $10 I could pay every month on the mortgage shaved a full month off the end. Ten lousy bucks. So I nickeled and dimed my way through, finding $1 here, $5 there, and $10 there.

Getting out of debt took several years. But more income alone wouldn’t have done it. My rule was this: I paid 10 percent, minimum, of my monthly income toward debt retirement. Plus at least 90% of any windfalls. By windfalls, I mean extra income from working weekends, tax refunds, bonuses, or overtime.

And if there was money left over in the bank account at the end of the month, I paid that in too. I’d hold back a bit of a buffer for emergencies, and send the rest in to whoever owned my mortgage at the time.

Note that we didn’t have to pay anyone or buy any financial products to get a plan to get out.

Read my other blog posts in this category. You can track the whole journey. I won’t charge you anything. Go to the library and read Dave Ramsey’s books. You can get a plan for free. And that’s good, because you’re much better off putting the money you’d pay for a plan toward actually paying down a debt.

But whatever you do, don’t sign anything!

Getting serious about budgeting

My wife and I are adopting Dave Ramsey’s envelope system.

We did OK budgeting up until now–I’d say paying off a mortgage 5 /12 years after I moved into the house qualifies as OK–but it doesn’t work as well when there are multiple things you’re saving for.The problem is that we want several things like new windows and new kitchen cabinets, and my wife kept asking when we’d be able to afford to get them. I never had an answer.

This week I sat down with a spreadsheet and made up a budget. I entered everything we spend that I knew, then I asked my wife about the things she knew. When we didn’t have an exact figure, we estimated. An estimate is better than nothing. Then I added line items for the things we want to save for.

So then we got some envelopes, wrote the line items on them, and put the cash inside. When the money runs out, we’re done spending on that for the month.

But really what I’m hoping is that the envelope system will cause us to be more careful spenders on most things. We’ll adjust when there’s a shortfall (when we need diapers and formula, we need them, and if the quantities change, something else has to give) but I’m hoping that in a lot of instances, we’ll be able to find ways to cut back a little. And then, of course, we can get those windows and cabinets more quickly.

And beyond that? We still have lots of things to save for, so having a system to do it will help us get there. We may or may not get there faster, but it’ll be a lot easier to know where we are and to project endpoints.

Now, as far as plans. I’ve had plenty of conversations about whether John Cummuta’s plan is better than Dave Ramsey’s plan, or if someone else’s plan is better yet.

As long as the plan has you paying down debt and not making risky investments (that’s not to say all investments are risky–but many financial books are just get rich quick schemes), and most importantly, you’re able to stick with it, I don’t think there’s a huge amount of difference. What bothers me is when I see people fretting over the differences in the approaches, and then not following any of them.

Like I told my insurance agent earlier this week: If you pick the wrong plan and pay your debts in the wrong order, you’re in debt one more month. Whichever way you go, you save thousands of dollars, if not hundreds of thousands.

The overworked American

This is old, but still true, and Labor Day is a great day to explore the topic of The Overworked American. The trend has not reversed since it was written.

Basically, what Juliet B. Schor says is that productivity has soared since the 1940s, and when productivity soars, you can choose to do one of two things: work more, or work less. Europe by and large has chosen to work less. The United States hasn’t.I know ever since I saw a John Cummuta seminar back in November 2004, I’ve been harping on living cheap and paying off debt as quickly as possible. The goal isn’t so much to pile up tons and tons of money. That’s just a side-effect. That’s not the goal. There’s a different goal, and it’s actually a lot shorter-term: The goal is to buy freedom.

When I was growing up, Dad almost always carried a beeper. And invariably, when we would go out (on those rare occasions when we did get to go out), that beeper would go off, and Dad would have to find a phone, and more often than not, then Dad had to go away.

Then I grew up and I got a beeper of my own. Back in the ’70s, you had to be something really important like a doctor to have a beeper. Today all you have to know is what ctrl-alt-delete means. I guess it was the first time my pager went off in the middle of a date that I knew something was horribly wrong, but I didn’t know what to do about it.

It took seven years, but I finally got the answer.

Cummuta’s tapes are pretty expensive, but you can go to the library and get a book by Dave Ramsey or David Bach and get the same benefit because all of those guys pretty much say the same thing.

What those guys can’t give you is motivation. My wife and I have amassed a library of financial books. In a lot of cases my wife had a conversation with the original owners of the books. They all said the books had good ideas, but it was so hard to do.

Which brings me back to The Overworked American. What Schor doesn’t say in that excerpt is that you do have a choice. When your boss comes to you and says you’re going to work Labor Day, and not only that, you’re also going to work on Saturday and Sunday of that weekend too, and, oh yeah, you’ll probably have to stay late on Friday, you’d better believe you have a choice.

Well, assuming you don’t have to write a check to the bank for $1,000 every month for that roof over your head, and another check for $400 or $500 every month for those four wheels that get you to work, and another one for the four wheels that get your spouse to work.

When $24,000 of your annual income goes strictly towards transportation and shelter, you will return the call when the beeper goes off. You’ll answer the cellular phone (which you pay for) on the first ring if that’s what your boss wants. You’ll work Labor Day weekend and you’ll like it because your boss has you exactly where he wants you.

That’s why I’ve been harping so hard on living within your means. I don’t drive a Honda Civic because it’s what all the cool kids want to drive. I drive a Honda Civic because it’s a reliable car that rarely has to go into the shop, because it gets really good gas mileage, and because I was able to pay it off in two years.

Perhaps more importantly though, I plan to still be driving that Honda Civic on the day I write that final check that pays off the mortgage.

Unless something were to happen to that Honda Civic in the meantime, that is. If that happened, I’d probably go buy a 2000 or a 2001 model and put whatever money was left over towards the house.

You don’t have to get a new car every three years, or even every five years. We’ve been conditioned to trade in our cars every few years, but if we do that, then someone else gets to control our lives. We’re slaves to consumerism! Slaves!

And when you can’t spend any quality time with your spouse because you’re always at work (or working from home), and you don’t have the time or energy to pull your own weight at home, and there’s all the stress that puts on your marriage, could that have anything to do with why divorce rates are as high as they are?

But if you can drive home every night in your car that you own outright to your house that you own outright and can sit down on your couch that you own outright, guess what? When your boss tells you that you have to work Labor Day, you can say no. Why? Because if your only monthly expenses are medicine and food, if your boss says the f-word (the five-letter one), all that matters is whether the White Castle down the street is hiring because that job will more than cover your expenses while you try to find another regular full-time job.

And that, my friends, is why I’m typing these words on an old 700 MHz computer, why I didn’t go out for lunch this afternoon, and why I haven’t traded in my four-year-old Honda Civic. The math tells me I can have this house paid off in two and a half years. I don’t know if that means I’ll find a way to do it in a year and a half, or if it means it’ll take closer to four. But I look at it like high school–something with a beginning and a very definite end. In the meantime, there’ll be some good things that happen and some bad things. But there will come a day when it will be over.

And on that day, I’ll get a taste of the real world.

I don’t know about anyone else, but I’m really looking forward to that.

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