Can You Ever Get Back From the Frugal Tipping Point?

Millionaires’ Row?

“I went to the bank and reviewed my savings, I found out I have all the money I’ll ever need. If I die tomorrow.”
–Henry Youngman

“It’s a fine line between frugal and being a cheap *$#&$.”

I loved Thomas J. Stanley’s book The Millionaire Next Door. I found the stories inspirational, and they aligned with my beliefs. Ostentatious showiness is often a cover-up for a poor life – both in the financial and in the mental/spiritual sense, and as I drive my paid-for hoopty down the road and get passed by much nicer, newer cars, I often wonder how much the payment is on those and if it’s worth it (the answer is that if there’s a payment on it, it’s not worth it). I smile when I pass the cars which have bumper stickers which say “Don’t laugh. It’s paid for!” I appreciate sales and deals and downsizing more than the average person.

The habits of frugality are great. They keep you from overextending yourself financially. They keep you from getting onto the hedonic treadmill. They ensure security through old age.

They can, though, become an anchor as well, just as much as living a life of excess can. Take a look at the example of the millionaire grandmother in a trailer home cited by Stanley in his blog. This is a woman who is, according to her son, making a six figure passive income but refuses to turn the heat above 65 degrees in the winter.

It was the statement about still not turning the heat above 65 degrees in the winter which struck me. Yes, the woman in the anecdote had to scrimp and save and work hard all of her life to get to the point of wealth that she is at. I suspect that the behavior is so ingrained in her now that she wouldn’t consider loosening up, even a little, to enjoy the fruits of her labor and her sacrifice. She has lived a life of thrift for so long that she has reached a frugality tipping point from which she could never return, no matter how much money she had.

Money for many people represents, first and foremost, security. It represents the knowledge that they will never want and never be in abject poverty. Many people never even reach that level of security and continue to work until the day they drop. However, for those who do reach that level of security, money can then play a secondary role as an enabler – to enable comfort, experiences, giving, and assistance.

Some people, like the grandmother in Stanley’s anecdote, just keep moving the security bar farther and farther away and never allow themselves the opportunity to believe that they are secure and can move on to looking at the enabling powers of money. In denying themselves extravagances and comforts to ensure security, they abnegate their financial power to do so once they have reached security. Just like the people who continue to stock up years and years of supplies in the bomb shelter for the extremely remote possibility that they’ll need it, these habitually frugal people continue to build their financial bomb shelter long after they no longer need it.

I’d love to read more stories about the people who achieved financial security and then were able to truly enjoy the boon rather than continuing their path of miserly living. Do the people who loosen the reins achieve more happiness? Or do they, upon loosening up the reins, feel so uncomfortable after having lived for so long so tightly that they go back to their frugal ways?

Six Things You Won’t Learn About Real Estate From HGTV

Using HGTV for your real estate knowledge could land you here.

“No real estate is permanently valuable but the grave”
–Mark Twain

“If you want to know exactly where the property line is, just watch the neighbor cut the grass.”

Today, I was in the gym. The person before me had left the television on, and it was on HGTV. Not exactly ESPN – the usual gym fare – but as long as it wasn’t Food Network, that was fine with me, particularly since the show was “House Hunters International,” and I have a fascination with expatriates. As an aside, who really WANTS to watch the Food Network while working out? Does seeing someone cooking a giant chocolate cake really make you run faster or lift harder? It just makes me nauseous.

Anyway, if you’ve not seen the show, the premise behind House Hunters International is that U.S. citizens go somewhere else in the world and go looking for property. The agent shows them three pieces of property and then the buyers make a decision. Granted I’ve only seen three episodes in my life, so I’m extrapolating, but so far, the plot hasn’t changed.

In this episode, the woman was trying to buy an apartment in Paris. Her budget was $1,000,000. The real estate agent, helpfully, showed her three properties which each had a price tag over $1,000,000. Two of them needed work and renovation as well.

So much for budgets.

The woman thought about it and finally picked a place. Six months later, she was happy as a clam. They’re always happy as a clam six months later. I suspect that HGTV cans the shows where the post-purchase interview is reminiscent of Tom Hanks and Shelley Long in The Money Pit.

Before he made the disastrous house purchase.

The next show which came on was “Income Properties.” All I caught was the intro segment. The person whom they were featuring had a rental home. His mortgage was up for renewal. Apparently, his rent was barely, or worse, not even making the mortgage payment for him. He wanted to renovate the basement to be able to rent it out so that he could go buy another rental property. Fortunately, at this point, I was done with my workout and left the gym, so I didn’t get to see how the episode ended.

I can imagine that there are people in the United States who watch HGTV and think “I can do that!” Two years later, they’re up to their eyeballs in debt and underwater in an investment property they couldn’t afford with a renovation that cost 2.5 times what the contractor had originally budgeted. That doesn’t make for good TV, though.

What lessons shouldn’t you take away from HGTV?

  • Only look at three properties. I don’t care if HGTV is flying me to the end of the earth for the show. There’s no way I’m only going to look at three properties and then make a decision on which one of the three I’m going to buy. While I don’t want to get caught up in the tyranny of choice, I also am not going to be so naïve as to think that three properties are going to be enough.
  • Don’t negotiate. I’ve seen two episodes where buyers paid full price for fixer-uppers. My definition of a bubble is when there’s much more demand than supply and people will pay anything for any type of supply. At that point, you want to either be a seller or sit out. You don’t want to be a buyer. There are some instances where paying full price is acceptable, namely, the listed price is a fair price or better. However, these people didn’t even try to negotiate.
  • You can flip that house too! Buy a house, slap on a coat of fresh paint, jack up the price, and sell. I’ve nearly lost my shirt on renovations because I didn’t know what I was doing and my contractor had no sense of budgeting or management. The people on TV have crews who are experienced, and they’ve done rehabs before. They can walk through a house and estimate repair costs and time and usually be within 10% of their original estimate. You can get to that level of capability, but it takes time and work, and either a great relationship with a contractor or a LOT of elbow grease.
  • You deserve to have a house full of nice furniture. Actually, you don’t. You might earn and be able to pay for a house full of nice furniture, but you don’t deserve it. Nice furniture and interior decoration is not an inalienable right.
  • The list price on a home is the only price you pay. Don’t forget to budget for closing costs, loan origination fees, and the money you’ll spend getting the place to look the way you want it. It’s fine to spend all of this; just make sure you can afford it and that you’ve accounted for it.
  • Repainting your bedroom will be the thing which makes you really happy. Finding meaning in life and focusing your life and your energies on the things which are REALLY important to you will be what brings you happiness. A nice coat of paint won’t hurt, but it won’t bring you the peace and happiness you seek.

Real estate can be a great investment if done correctly. Your house can be a place where you enjoy to stay and entertain friends. However, real estate is also an enormous investment, and entering lightly into it, either as a home or as an investment, can dig you into a real money pit.

Inflation and the Cost of Your Mortgage

One hundred trillion doesn’t buy what it used to.

“Inflation is when you pay fifteen dollars for the ten-dollar haircut you used to get for five dollars when you had hair.”
–Sam Ewing

“I don’t mind going back to daylight saving time. With inflation, the hour will be the only thing I’ve saved all year.”
–Victor Borge

Have you, your parents, or your grandparents complained about the days when you could buy a Coke for a nickel and a gallon of gas for a quarter? You can’t buy that cheaply anymore, unless you’ve built a time machine, and if you have, I’d like to have a private discussion with you! Instead, prices have gone up and, for the most part, will continue to go up because of inflation.

There are a couple of generally accepted theories for why inflation occurs. The first is due to the increasing cost of labor. Wages rise over time, as people expect to be paid more this year for work than they did last year, particularly if they have improved at their jobs. As a result, producers who use that labor have to pass on the increasing costs, and they do so by raising prices. The rise in prices causes consumers to demand higher wages, and everyone gets caught in a never-ending inflationary cycle. The second theorized cause for inflation is when aggregate demand by consumers is greater than an economy’s ability to meet that demand. Think about filet mignon versus ground chuck. Many people desire filet mignon, and given the choice, would probably choose it over ground chuck. As a result, the producers of filet mignon can charge a higher price because of the demand. When demand exceeds supply, suppliers can raise prices, causing price inflation.

Whatever the cause of inflation, the reality of it is that a dollar buys more today than it will in the future. We’ll probably one day long for the days of $1.00 Cokes and $4 a gallon gas, remembering how cheap it was.

There are times when inflation is good, though.

One of them is when you have a fixed price debt, like a fixed rate mortgage or a student loan where you have locked in the interest rate. The amount you pay every month is the same, regardless of if it is the first month or the last month. However, over time, the purchasing power of that payment amount will decrease. Let’s imagine that you had a loan in 1980, when the cost of Cokes from a vending machine was a quarter. Your payment was $500 a month. That would buy you 2,000 Cokes a month – and probably rot your teeth out and cause all sorts of gastric problems! However, in 2010, a Coke from a vending machine was about a dollar, meaning that your same loan payment, $500, would only buy 500 Cokes. The relative amount of what that payment would buy decreased over time.

If you’re working and get wage increases over time, this is a good deal. Your wages generally will increase to match inflation, so the payment becomes a smaller portion of your overall income as time passes. According to the Social Security Administration, average wages in 1980 were $12,513.46, and in 2010, they were $41,673.83. Thus, your $500 monthly payment in 1980 represented 47.9% of your total annual income if you received average wages, but it was 14.4% of your income in 2010.

With interest rates at record lows and with the Federal Reserve Bank hinting at interest rate hikes in either 2013 or 2014, if you are going to get a loan – student loan or a mortgage – at a fixed interest rate, it’s probably the best time to do so, as the real value – the value of the loan adjusted for inflation – will decrease over time because of rising interest rates.

Don’t take this to mean that I support massive amounts of debt. I do not think there’s such a thing as “good debt.” I am very risk averse and realize that I value the peace of mind of not having debt payments over the potential gain to be had for borrowing money so cheaply. However, if you must get a loan, now is probably the best time you’ll ever see for doing so because of how inflation will affect your fixed rate real values over time.

There is one problem to the refinancing approach – if you use the refinance to extend the term of your loan. A lot of people will refinance when rates drop, but will get a new 30 year loan. Instead, go for the lowest possible term that you can afford; you do not want to retire in debt!

The Value of Mortgage Shopping

Is it possible to have useful shopping?

“Kenny’s family is so poor that yesterday, they had to put their cardboard box up for a second mortgage.”
–Eric Cartman

Previously, I provided a checklist of things to do if you’re preparing to move in the next 12 months. If you missed it, you can go back and check out my home buying preparation checklist here. Now, we’ll examine the value of mortgage shopping.

When you think about getting a mortgage, what’s the first thing that you think about? Paperwork? Reams and reams and reams of paperwork? Unpleasant feelings of knowing a lot less than the mortgage officer and being held hostage to their whims? Images of something akin to surgery…without the anesthesia?

If you’re like me, going through the process to get a mortgage is something you’d just as soon avoid at all costs.

Yet, when you actually go through the process of getting a mortgage, how long does it really take?

Let’s look at the Fannie Mae residential home loan application. You can put yourself to sleep by reading it here.

It’s five pages long, but one of them is just a continuation sheet where you explain something that you didn’t have space to in the application. Yes, there are a lot of spaces to fill out, but, in reality, you should know most of the information already. Most of the work required is documentation that backs up what you claim, such as a W-2 or a tax return.

I haven’t applied for a mortgage in several years (nor do I ever intend on having a mortgage again), so I don’t remember how long it took, but eyeballing this application, I’d guess 10-20 hours to fill it out and get all of the appropriate supporting documentation. It would vary depending on how organized your financial statements already were.

Because of our perception of the agony of dealing with the mortgage process, we do everything we can to make sure that we avoid going through anything more than the bare minimum to get the loan and to be done with it.

After all, let’s compare two activities few people would want to spend a weekend doing: car shopping and mortgage preparation. I’d be willing to bet that most of you would rather deal with used car salesmen all weekend.

So, you’d be willing to spend 16 hours of your time dealing with dodgy used car salespeople, haggling, test driving, negotiating, and sweating, for, what…a savings of, oh, say, $1,000? That’s a return of $62.50 per hour. Pretty decent money for a weekend’s worth of work.

Let’s go back to the mortgage application process. If gathering the documentation to support your mortgage application is 80% of the work in applying for a mortgage, then filling out a second mortgage application should take about four hours. Therefore, in a weekend’s worth of work, you could apply for two to four more mortgages.

What if that effort could save you a half a percent off of your mortgage, meaning, for example, that you get a 4.5% mortgage instead of a 5% mortgage? Would it be worth the time?

Monkey Brain doesn’t think so. Monkey Brain thinks that a half of a percent is a very small number, and when compared to the horror and misery involved with more mortgage applications, he uses a mental shortcut called a heuristic. He compares a half a percent to 16 hours and decides right there that it’s not worth the effort. Plus, losing this weekend is pain now. Paying more in a mortgage payment is pain later. Later doesn’t exist in Monkey Brain land, so he votes for pleasure now and tells you that there are better things to do this weekend.

Let’s look at the numbers, though. Assume you’re getting a $200,000 mortgage. The first lender offers 5% on a 30 year mortgage. Here’s what the numbers tally up to:

Payment: $1,013.71/month
Total interest paid: $164,813.40 (yikes!)

Now, let’s assume that with 16 hours more work, you could shop around and find another lender willing to offer 4.5% on the same mortgage. Here’s what you get for your work:

Payment: $954.83/month
Total interest paid: $143,739.40
Difference: Save $21,074.00

That is an hourly return of $1,317.13 on your effort to reduce the rate by a half of a percent.

Let’s take this one step further and cut Monkey Brain off at the pass again.

Monkey Brain will go along with this. $1,317.13 per hour is a rate that, unless you are Donald Trump, your Monkey Brain cannot refuse.

However, he’s still going to try to get his way. There’s $58.88 a month which you’ve “freed up” that Monkey Brain wants. That’s a lot of IHOP pancakes he could convince you to stuff down your gullet.

But, you’ve already mentally committed to paying $1,013.71 a month. So, why not just go ahead and pay that? By doing so, you will pay off your loan three years and two months early, and you’ll save an additional $17,124.01, meaning, in total, you could save $38,198.01 off of the interest that you were willing to pay just to avoid 16 hours of additional discomfort in shopping for a new mortgage.

That’s $2,387.38 an hour for your time.

How awful does shopping for a better mortgage deal sound now?

Did you shop for a mortgage? Was it worth it? If you didn’t, do you regret it now? Tell us about your experiences in the comments below!

What Should You Think About if You’re Planning on Buying a House Next Year?

Looking for a place with a view?

“I had rather be on my farm than be emperor of the world.”
–George Washington

When most people think of the home buying process, the thought conjures up a mix of excitement (“new home! Yay!”) and fear (“holy crap, this is a lot of money!”). There’s the fear of being uprooted from a place that you’re used to with anticipation of what a new location might bring for you and your family.

Of course, you might not be buying the house to live in. You may have seen my interview with CPA Mark Kohler and become motivated by his (and my) support of buying rental real estate and decided to get into the landlording business for yourself and as part of your retirement planning strategy.

No matter what the reason, barring a major medical expense, the purchase of a house is likely to be the most money intensive activity you ever undertake. Yet, for some reason, people like to delegate the house buying process to Monkey Brain, and then find themselves subsequently trapped in their house for years to come with no real options for getting out of the situation.

It’s altogether too easy to grab the closest Realtor you can find, spend a day or two driving around neighborhoods, find a house that you get emotionally attached to and ABSOLUTELY have to have, take the first mortgage deal you can, sign the paperwork, and boom! You’re a homeowner!


YOU: “That’s a little larger than we need, isn’t it?”


YOU: “There are 1,200 houses in this neighborhood alone!”


In truth, there are very few cases where you’re going to have to simply pick up sticks and move somewhere else overnight. In many cases, you have some notice that you’ll need to move, and in many cases, you get to move when you choose to.

Here are some things to think about if you’re afforded the luxury of some time before you are going to move.

  • Pile up cash. There’s a crazy misperception out there that we should borrow as much as we can so that we can get a mortgage deduction on our taxes. There are two reasons why that’s fallacious:
    1. You’re paying interest to a bank so that Uncle Sam can give you a small percentage of that money back. If you’re really driven to spend money in that manner, you can mail me a check for $1,000 a month, and I’ll gladly write you a check for $200 back!
    2. The tax deduction only kicks in above your standard deduction. If you don’t itemize deductions enough to get above the standard deduction threshold, then there’s no mortgage interest deduction for you. If you’re above it, then you only get the deduction only to the extent that your mortgage interest contributes above the standard deduction. For all of the hoopla about the mortgage interest deduction, in 2009, only 1/4 of tax payers actually were able to claim it on their taxes! 67.4% of taxpayers own homes, meaning that only 37.1% of homeowners qualified for the deduction. Sad trombone!

  • Set your upper spending limit. This means that you’re setting a goal for spending less than a certain amount of money for your house. Let’s be honest. It’s in a mortgage lender’s best interest to give you as much loan as he or she can without having you default on the mortgage itself. The more money lent, the more interest earned, the nicer the car the banker gets to drive. It’s also in the Realtor’s interest to nudge you into a slightly more expensive house than you anticipated, since the Realtor gets a cut of whatever you pay for the house. Sure, they’ll tell you that they’re working for you, but there’s a conflict of interest. How much should that limit be? I don’t know. I don’t go by rules of thumb. Each person’s situation is slightly different—which is why using a financial planner is so important! If you set the goal to spend less than $X and stick to it, then you won’t be nudged higher by conflicted advice or by your emotions, which leads me to…
  • Don’t fall in love with a house. Once you fall in love in love with a house, you’re more likely to be poor at negotiating a good price and to give in to your emotions. You’ll fall prey to the endowment effect and later find yourself questioning why you paid so much. To read more about how the endowment effect affects your real estate purchases, you can read “Why You Should Buy a Foreclosure and Never Sell to an Investor.”
  • Get your paperwork in order well ahead of time and be prepared to shop for a mortgage. Zillow has a good checklist of documents which you’ll need when you go to a mortgage lender to get approval. Don’t think that you need to shop for a mortgage? Trust me. You do. It’s the subject of a forthcoming article!
  • Familiarize yourself with neighborhoods where you might want to live. It’s going to be nearly impossible to know if the dogs bark in a certain neighborhood at 3 AM, but you can certainly do rush hour drives and find out how far or near conveniences you’ll desire are. You can take pictures of the neighborhoods over the span of a few weeks or months to see how things change. Do your potential neighbors care for their places? Find out the percentage of homes which are owned by investors versus occupants. You can do both online and on-the-ground research of areas so that you’re very well-versed in the pros and cons of each area before you put in offers.
  • Live now with the budget you’ll have after you purchase the house. If you’re in a place where the cost of living is lower or your house or rent payment is lower, then you’ll need to adjust your lifestyle to match your future budgetary needs. Getting adjusted to the new budget now will reduce the shock in the future; it’s hedonic adaptation in reverse and will help keep you from getting into debt. However, if the new home cost will be less, don’t get tempted to hop on the hedonic treadmill!

Are there things I missed out on in this list? Tell us about it in the comments below!