Financial Abundance Guide

I recently read an article by Henry K. (“Bud”) Hebeler at Bankrate.com. Bud, the former President of Boeing Aerospace, has spent his retirement years helping people prepare for retirement. His popular web site, analyzenow.com, has many helpful retirement tools. Bud was also kind enough to provide a technical edit of my book, before it was published, as well as to write my book’s Foreword.

In his article, Bud shows that the personal savings rates in the US have deteriorated from 10% in 1985 to 5% in 1990 to 2.5% in 2000 to 0 today. Personal savings rates today are the same as they were from 1929 through 1931, after the stock market crash that led to the great depression.

As savings rates have receded, personal consumption has climbed. In inflation adjusted dollars, consumption per capita in the US has climbed 25% from 1985 to today. From these figures, it is easy to see why the average American now saves nothing, compared to a 10% savings rate in 1985.

What you may not realize is why this has occurred. We all know that, until recently, credit was extremely easy to get. Credit cards, interest only mortgages, home equity loans and car loans helped transform us into a society of debtors instead of savers.

Since the vast majority of our GDP now comes from consumerism, US industry wants you to spend. Our financial institutions make significant profits from credit card interest and other forms of personal indebtedness. Even the government encourages spending over savings by providing tax deductions for mortgage interest while taxing savings interest at the same rate as earned income. State and local governments get much of their income from sales taxes that are placed on the goods and services that you buy.

Our President once said that we are addicted to oil. I would take that a step further and say we are addicted to consuming. Look at how often the media refers to you as a “consumer “ and see if you ever see the US population called savers.

If you have an addiction to consumption, now is the time to break it. As I often recommend, when you get your pay check, pay your self first by saving a portion of your paycheck. If, at age 30, you save $50 per week, with a 7% investment return, that $50 payment will be worth almost $400,000 when you are age 65.

As your pay increases, increase your saving amount until you are “paying yourself” at least 10% of your take home pay. By paying yourself first, you will have adequate resources to live an abundant retirement. This approach will also help you overcome the “consumption addiction” that industry, financial institutions and the government are all hoping that you will never break.

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Faith is defined as a belief that is not based on proof. While we can never have absolute proof of continued financial abundance, by following the 7 Steps to Financial Abundance, we can begin to believe that through our continued commitment to control our finances, our abundance will continue. Our faith in continued abundance is important in conquering the fear of scarcity.

Fear is defined as a distressing emotion, aroused by impending danger, whether the threat is real or imagined. Without faith that abundance will continue, doubts and fears of the unknown and uncontrollable future can become overwhelming. Even though the fear of scarcity may be irrational, it can consume us and leave us unable to live with a sense of abundance.

Living in financial abundance requires controlling consumer-driven consumption, maximizing and protecting financial resources and faith that abundance will continue. By implementing the first six steps, we have done everything in our power to discover the path to financial abundance.  Having faith that abundance will continue, is sometimes the hardest step.  However, without this faith, fear and doubt can take control over our financial lives.

The Seven Steps to Financial Abundance are designed to help us control of our financial future. I authored Financial Abundance Guide to provide an easy to understand “guide” for non-financial professionals to explore their path to financial abundance. You may learn more about my approach to financial abundance at www.finabguide.com

Once you escape the fear of scarcity, you may find true serenity. When living in financial abundance, you may even decide to share more of your abundance with your favorite charitable organizations.

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The stock market, tax codes, the economy and negative world events are outside of our control. Too often, the things that we cannot control increase our fear of financial scarcity. When this occurs, it is can be comforting to remember the serenity prayer.

To achieve serenity, we are encouraged to accept the things we cannot change and have the courage to change the things we can. We can control our consumer based spending habits, our prioritization of saving for our family’s future and our decision to plan for our financial well-being. By changing old habits that lead to the fear of scarcity and implementing the practices of the first 5 steps, we are doing everything in our power to control our finances.

With this control, we have significant power over personal finances. Once this power is recognized, the fear of scarcity is diminished and a feeling of financial security begins to permeate our lives, leading us toward financial abundance.

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Fear of the unknown can produce a sense of scarcity. Since no one can predict the future, insurance products help protect us from financially catastrophic events. Properly using insurance can protect your financial resources, keeping this fear in check.

For most people, the need for automobile and home owner’s insurance is fairly well understood. However, by increasing your deductibles, you can often cut insurance premiums significantly. As an example, if you have a $500 deductible on your auto insurance policy, you might consider raising it to $1,000.

If you have a loss that is slightly more than $500, it may be better to pay for the loss yourself and not report it. Sometimes, reporting a small loss can significantly increase your future insurance premiums. If you will likely not report a smaller loss, why pay the additional premiums required for the lower deductible?

Life insurance is a requirement for any family member that contributes financially to the family. Typically, term insurance is the most cost effective type of life insurance. Consider a term period which will last until you no longer require life insurance. If you are in your thirties, this may mean a thirty-year term. To determine how much life insurance you require, go to www.finabguide.com for the free life insurance estimator under the “Advice” tab.

Many people fail to understand the critical need for a long term disability insurance policy. Under age 65, you are more likely to become disabled than you are to die. As Peter Ubel, well known professor of psychology states, “If people are smart, they will invest wisely in disability insurance.” A serious, long-term disability can destroy even the best financial plan.

Another protection to consider is an umbrella liability policy. In our litigious society, the liability limits of your home owner’s and auto policies may not be enough to protect your hard earned assets. For a relatively small additional premium, you can increase your liability coverage by $1 million or more.

Protecting yourself from catastrophic financial risks will help reduce the fear of the unknown, a necessary step to obtaining financial abundance.

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Properly managing investments is an important step toward financial abundance.  If you manage your own investments, implement an asset allocation that allows you to sleep well at night.  While the stock market has consistently out-performed fixed income investments over every 20-year period since the great depression, a conservative allocation of equities to fixed income can often perform better than a more aggressive allocation.

In Financial Abundance Guide, Mary, Nancy and Joan find out that the returns from a portfolio with a 50% equity and 50% fixed income allocation performed better than a portfolio of 80% equities and 20% fixed income over the six year period between January 2, 2001 and December 31, 2006.

Unless you have the time and energy to do a significant amount of research on stocks, low cost, indexed mutual funds or ETFs will usually provide superior long- term results.  Be sure that your equity allocation includes small, medium and large cap stocks.  Over the past 25 years, mid cap stocks, an asset class that is often overlooked, have out performed both small caps and large cap stocks.

It is also wise to have international equities in your portfolio.  While emerging markets have received a lot of press, developed countries equities will provide a safer long-term return.    It is wise to also consider small amounts of “alternative investments” such as Real Estate Investment Trusts and gold.  These investments can be purchased as Exchange Traded Funds or mutual funds with low fees.

If you have an investment advisor, be sure that their long term returns consistently out-perform the comparable indexes after all management fees are included.  Be especially careful in dealing with advisors that are compensated by commissions on products that they sell.  Compensation through commissions can sometimes produce conflicts between how an advisor is compensated and your best interests.

If your advisor suggests variable deferred annuities, be especially careful.  If you decide that a deferred annuity is the correct product for you, consider buying the annuity through a non-commissioned company such as Schwab, Fidelity or Vanguard.  You’ll usually find a better product with much lower costs.

Managing investments requires your active participation, even when the  investments are managed by an investment advisor.  By participating in all of your investment decisions, you are on the path to financial abundance.

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Use every legal method to reduce taxes.  If you are married and your spouse has no earned income, you may be able to fund a “spousal IRA.” With a spousal IRA, you may deduct an additional $5,000 (or $6,000 if your spouse is over age 50) from your income taxes in the 2008 tax year.

If you have children in college, take advantage of the federal government’s HOPE Scholarship or Lifetime Learning credit programs. Both of these programs provide tax credits which can reduce the income taxes that you owe on a dollar-for-dollar basis.

The Hope Scholarships can reduce your tax bill by up to $1,800 in 2008, while the Lifetime Learning tax credits can reduce your tax bill by up to $2,000.  If you are eligible for both, you must choose the one that provides the greater tax savings.

Using appreciated long term stock for charitable giving can also reduce your taxes. You pay no taxes on the stock’s appreciation and receive a charitable deduction of the stock’s full market value. The easiest way to give appreciated stock is through a donor-advised charitable giving fund.  This type of fund is free and easy to set up, yet it provides you a giving vehicle similar to a charitable foundation.

Fully funding your Health Savings Account gives you the same tax savings benefit as funding an IRA.  Your taxes are reduced even if you don’t itemize your deductions.  You can even deduct your HSA contributions when you have no earned income.

On low income years, consider converting some of your IRA assets to a Roth IRA.  If you can do so by paying no more than 15% in taxes on the conversion, you will likely save taxes upon your withdrawal of the funds.

If you are in the 25% tax bracket or higher, you will likely receive greater after tax income from tax exempt municipal bonds issued in your home state, than from high quality taxable bonds.  Do your calculations before you buy to determine which bonds provide the higher after tax return.

Every dollar saved by reducing your taxes helps build your financial abundance.

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The second step on the path to financial abundance is to maximize your financial resources. Venture capitalists know that the best way to maximize their finances is to use OPM (Other People’s Money). We can learn from these successful investors and use OPM for ourselves.

If you have a company-sponsored retirement plan, at a minimum, contribute enough to your account to receive the maximum amount that your company will match. If your company will match 50% of the first $6,000 that you contribute, when you contribute $6,000, your retirement account will receive $6,000 from you and $3,000 from your employer.

The $3,000 becomes “free money” from your employer and provides an immediate 50% return on your investment. On top of this great return, you are also getting a boost from your favorite uncle (Sam). If you are in the 28% tax bracket and pay 5% state taxes, your $6,000 contribution will save you approximately $2,000 in taxes.

Combining the $3,000 you receive from your employer with the $2,000 you receive from Uncle Sam, the $9,000 in your retirement account only cost you $4,000, with $5,000 in OPM. You get an incredible 125% immediate return!

By using Coverdell education savings accounts or Section 529 college savings plans to save for your children’s educations, your educational savings will grow and no taxes will be owed on the earnings from these plans, so long as the money is used for eligible education expenses. This tax savings is another way to use OPM to reduce educational expenses.

A Health Savings Account (HSA) is the only saving vehicle that combines the benefits of an IRA with the benefits of a Roth IRA. When you contribute to your HSA, all contributions are tax deductible as are contributions to your IRA. If you do not use the HSA funds and let them grow until retirement, all withdrawals are tax free, similar to a Roth IRA, as long as the funds are used for medical expenses. Once again, your tax savings provide OPM when you fund the HSA as well as when you withdraw the HSA funds in the future.

In “Financial Abundance Guide,” I cover many other methods of maximizing your financial resources by using OPM. When we get an immediate increase in the amount of our saving through company matching funds or tax savings, we have increased our investment return before even deciding upon our investment approach. That is what is “maximizing your financial resources” is all about.

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The first step on the path to financial abundance is to spend less than you earn. While this may seem simplistic, a large portion of our consumer based society does not follow this step. While some people, living in true poverty, cannot follow this step, many Americans have simply chosen not to follow it. Because of this choice, the average American family now has over $10,000 in credit card debt.

Financial abundance is a product of our choices. If we choose to take the path to financial abundance, the first step must be to create “excess earnings” by spending less than we earn. “Excess earnings” are simply the amount of earnings that remain when yearly expenses are subtracted from yearly income. For most people, “excess earning” amounting to 15% of after tax income is sufficient. If 15% is not possible, start with 5% and add at least 1% more every three months. In 2 ½ years, you will reach the 15% goal.

To assure that you meet your “excess earnings” goal, I recommend that you “pay yourself first.” If less than 15% of after tax income is withheld for your company retirement plan, on each payday “pay yourself first.” Into your “excess earnings” account, put the difference between the15% total and the amount withheld for your company retirement plan. The “excess earnings” account helps begin your journey to financial abundance.

If you have any credit card debt, the first use for your “excess earnings” is to pay this debt. This will require a consistent application of these funds to your debt, combined with a significant reduction or elimination of further credit card purchases. Remember, if you have $1,000 in credit card debt, you likely pay $200 or more per year and receive nothing in return.

Once you have paid off your credit card debt, the next use for “excess earnings” is to build an “emergency fund.” This is an account, with highly liquid assets, that can provide 6 to12 months of income when a short term emergency occurs. With an emergency fund, if you are laid off from your job or are temporarily sick or disabled, you will have adequate savings to withstand this “emergency.” Without an emergency fund, you might be required to prematurely withdraw funds from your retirement accounts. This approach has short term tax penalties as well as the long term consequence of diminishing the funds available to fund your retirement.

Once you have paid off your credit card debt and built an emergency fund, the excess earning fund can be used for a down payment on your first house, for your children’s education or to help fund retirement. The next steps on your journey to financial abundance can only begin after you take control of your spending.

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As we start a new year, it may be helpful to analyze strategies for taking more control over our financial health. By taking a more active role in our financial life, we begin to escape the fear of financial scarcity and start living with a feeling of financial abundance.

For some people, fear of financial scarcity controls their lives. When the fear of scarcity is controlling us, we will often either 1) Do nothing, out of fear that anything we do will be wrong or 2) Try “get rich quick” schemes which may leave us in a worse financial position.

To help my clients escape the fear of financial scarcity, I developed:

The Seven Steps of Financial Abundance

1. Spend Less Than You Earn
2. Maximize All Financial Resources
3. Minimize Taxes
4. Actively Manage Investments
5. Protect All of Your Assets
6. Keep Control Over Your Finances
7. Have Faith in Continued Abundance

These steps are basic tools to help control our financial lives. These tools are designed to help you “get rich slowly,” by using strategies to minimize your tax burden as well implementing techniques to manage and protect your financial assets.

In future posts, I will provide more detailed information on each step, including specific implementation strategies. Hopefully, this will help anyone who is interested in finding their path to financial abundance.

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