Tag: Baby Steps

Emergency Funds have to keep up!

A few weeks ago, I wrote about how inflation is a money-eater. I stand by that statement. Inflation makes everything more expensive. My cost of living is going up but my salary is staying the same. In light of inflation’s impact, I’m tweaking my emergency fund to account for it. In short, my emergency fund needs to be bumped up by the rate of inflation.

Back in the day, I devoured the idea of having $1,000 set aside for emergencies while I paid off debt. It’s one of the Baby Steps espoused by Dave Ramsey in his book The Total Money Makeover. Twenty years ago, I had student loan and vehicle debt. Once those loans were paid, I worked hard to save up 6 months of money in an emergency account.

Eighteen years ago, when the book was first published, $1000 was sufficient to cover a month’s worth of my fixed expenses. Today, that same amount just barely covers my variable expenses. Today, I’d still have to find another $1000 – $1500 to cover my fixed monthly expenses. Keep in mind, that’s without the burden of a mortgage payment. In my circumstances, a $1000 starter emergency fund is certainly better than $0 but it’s definitely not enough to cover my bills for an entire month.

It strikes me that while the idea of having $1,000 on hand as a starter emergency fund is a good one, the amount is too bloody low. I paid off my debts 20 years ago. According to this handy-dandy inflation calculator, the same $1,000 from two decades ago is worth $1,503.76 today.

It’s no secret that I’m a fan of the emergency fund. In my opinion, it’s good to have money set aside for when the sh*t hits the fan. You owe it to yourself to make sure your emergency fund grows in lock-step with inflation. This particular pool of money won’t help you as much if it’s insufficient to cover your bills when faced with that inevitable emergency.

You know your own numbers far better than I ever could. And if you don’t know your numbers, then it’s time to start tracking them. Having a handle on your money is an integral part of self-care. When your fixed monthly expenses go up, then your emergency fund must be adjusted accordingly. Imagine that you’ve suddenly lost your source of income. The reality is that you’d still have to pay for your shelter, your transportation, your utilities, and your debts. This isn’t the time to rely on debt. Streaming services, wine subscriptions, cable, gym memberships! All of your variable costs should be on the chopping block. Reduce or eliminate these expenses until your income is solid again. They shouldn’t have too much impact on your emergency fund.

So when you hear that inflation is going up by 4% annually, do what it takes to boost your emergency fund! Even an few hundred dollars will help. I’m not saying that you have to bump it up all at once. What I am suggesting is that you squirrel away $5, $10, $20 into your emergency fund every chance you get. Those little dribs and drabs will add up over time. Trust me when I say that no one ever regrets having money set aside during an emergency.

Again, your emergency fund has to keep up with inflation. There’s no way around it. It’s your responsibility to make sure that emergency funds are in place when you need them. And if you’re going to have a starter emergency fund, please make sure that you set aside more than $1000. That amount was chosen nearly two decades ago! Believe me – it’s no longer enough to cover more than a moderately expensive car repair.

Another Little Criticism

Learning about personal finance and investing has been a hobby of mine for the better part of 30 years… wow – that’s a long time! No wonder I make those odd noises when I get up from the couch…

Anyway, one of the first books that set me on my successful path was The Total Money Makeover by Dave Ramsey. I loved this book! I was in undergrad when I read it, and I promised myself that I would follow its tenets once I had graduated and was earning real money.

I’m not sad to say that this is one promise to myself that I’m glad I broke. See, while I still think that the debt snowball is a brilliant strategy for getting out of debt, I’m not so sure about the other steps.

In particular, I take strong issue with the step about only investing 15% of your income after you’ve gotten yourself out of debt.

What’s wrong with 15%?

On the fact of it, saving 15% is a great goal to strive for. My question for other personal financial afficianados is why stop at 15%? If you can comfortably save 20% or 30%, or even 50%, then why not do so?

See, somewhere along the line, I discovered FIRE. It’s an acronym for Financial Independence, Retire Early. Thanks to the vastness that is the Internet, I went deep down the rabbit hole of FIRE. I learned about people who saved 70% of what they earned, who’d lived on $7,000 for an entire year, who’d retired in their 30s! Eventually, I discovered Mr. Money Mustache – a fellow Canadian, whose face-punch imagery caught my attention from the word go.

The FIRE community is varied, like any other community. However, the one thing that they do seem to share is the belief that you need to save more than 15% to become financially independent anytime soon. There’s even this handy-dandy retirement calculator floating out in the world. (Plug in your own numbers – see if you like the answer!)

FIRE and Dave Ramsey seemed to have a lot in common. Both financial perspectives eschewed debt. They both emphasized having an emergency fund and saving for retirement. There are even many in the FIRE community who think Dave Ramsey is great, and happily pay homage to him.

Yet Dave Ramsey… is remarkably quiet on his thoughts about the FIRE movement.

Why is that?

Look. I can’t speak for Dave Ramsey or his organization. Maybe he’s a huge fan of FIRE, but it’s not part of his company’s mission statement. Or maybe he hasn’t heard of FIRE yet. There are a million reasons why he sticks to advising people to only save 15% of their after-tax income.

My theory is that FIRE is an anathema to employers, and Dave Ramsey is a businessperson who needs employees to work for him. As an employer, it makes no sense to encourage the pool of talent from which one draws to become financially independent. Employers have the advantage when employees are dependent on a paycheque. I think that this was most beautifully illustrated in the blog post of other fellow Canadians over at Millennial Revolution.

Allow me to be clear. I’m not for one minute suggesting that Dave Ramsey speaks for all employers. Of course, he doesn’t!

What I am saying is that it would not be in Dave’ Ramsey’s best interest as an employer to encourage the pool of potential employees to strive for financial independence. Think about it. Being FI gives jobs candidates more negotiating power since they don’t need the job to survive. The beauty of the FIRE philosophy is that it gives people choices, including the choice to work for personal satisfaction without consideration of the paycheque. After all, just because one is FI does not meant that one has to RE. If your job brings you joy and you’re also FI, then your are truly and wonderfully blessed. No need to retire early if you don’t want to.

Think about how terrifying that must be for an employer. If money is the primary tool to control the workforce, then what weapon is left when money is not effective? A financially independent pool of employees means the employers have to find another tactic to persuade people to work for them.

In my very humble opinion, 15% isn’t enough.

If you’ve paid off your debts and your budget has breathing room again, I don’t see why you should be implicitly encouraged to spend 85% of your money. Spending at that rate keeps you tethered to your paycheque longer than you may like.

Until recently, I didn’t really consider why Dave Ramsey doesn’t encourage people to pursue financial independence. Yes – some people won’t be able to save more than 15% of their income, even if they’re out of debt. I get that. If you don’t have it, then you can’t save it. However, those aren’t the only people who listen to him.

My question is more about why those who can save more are not being encouraged to do so.

Again, the only theory that makes sense to me is that he doesn’t want to use his platform to encourage financial independence. I find it odd. Firstly, I don’t believe that everyone who calls his show for help loves their job so much that they want to stay for as long as possible. Secondly, one of the very best things that money buys is freedom from doing what you don’t want to do. Thirdly, financial independence doesn’t mean that people become lazy and idle. Instead, it gives them the time to work on what truly makes them happy.

Currently, I believe the following. Pursuing FIRE status will always be an employee-driven social movement. Given its nature, it has to be. After all, as a group, employers cannot maintain their vice-like grasp on power where there is a financial balance in the employment relationship. When employees have the ability to walk away without negative financial consequences, employers run the real risk of losing employees’ labour. A vision remains a vision unless there are minds and bodies that can bring it to life.

The concept of financially independent employees is adverse to the employer’s interests. It’s hardly surprising that employers are not advocating that their employees put some of their focus on saving and investing.

Getting back to Dave Ramsey. His book was written long before the FIRE movement hit the mainstream. I do not believe that he suggested a 15% savings rate in an attempt to maintain the imbalance of power between employers and employees. That’s a pretty broad stroke, and it’s not one I’m intending to make.

What I am willing to say is that the practical effect of his advice to only save & invest 15% works to give employers the upper hand. I’ve had many good jobs in my lifetime, yet none of my employers has encouraged me to save and invest for my future. There’s never been any kind of nudge towards financial independence.

Think long and hard.

The sooner you invest your money, the sooner you can hit the target of being financially independent. There may come a day when you no longer love your job, for whatever reason. When that day comes, you’re going to need to have money in place to pay for those pesky expenses of living like food, shelter, clothing, etc…

I’m not telling you to not follow the Baby Steps. What I am telling you is to think about their practical effect on your personal finances. Take what works… leave the rest.

Go Beyond the Letter “A”

With age comes wisdom…or so they say. Speaking from personal experience, I can say that my wisdom is arriving in dribs and drabs. For their part, the birthdays arrive at a seemingly more frequent pace. I’ve made plenty of money mistakes, but I’ve finally learned to go beyond the letter “A”.

Blue Lobster, what the hell are you talking about?

It’s simple. I’ve finally learned to take my own advice about continuing to learn about personal finance. When I was younger, I would read a book and believe that the author’s words were the definitive way to do one particular thing. It never occurred to me that the author wasn’t a subject matter expert. After all, she or he had written a book! Who was I to doubt their greater experience? Or to even suggest that their advice/steps/insight might not be applicable to my individual circumstances?

Thankfully, the good folks behind the X-Men franchise created a villian who uttered words of wisdom that I’ve since learned to implement in my own life: “Take what we need, gentlemen.”

And later on, I came across a variation of the above: “Take what you need. Leave the rest.”

Looking back, I would’ve made fewer money mistakes if I had come across this wisdom sooner. For example, one of my biggest money mistakes was to focus on eliminating debt while ignoring the need to invest in the stock market at the earliest opportunity. I read The Total Money Makeover many years ago. I followed this book’s instructions diligently and focused extremely hard on getting myself out of debt.

What I regret is that I didn’t consider the possibility of investing my money sooner while paying off my debt slightly less agressively. My money mistake was in pursuing one path without giving adequate consideration to the other options open to me. I read this one book and I assumed that it was the optimal path for my life & my money. Then, I followed its steps without question.

In other words, I did not go beyond the letter “A”… I made the mistake of believing that the starting point represented by the letter “A” was the whole alphabet and that I didn’t need to learn anything more than what was in the pages of this single book. I was young and inexperienced, but also so very, very wrong.

Looking back now, I see that taking advice without considering my own individual goals and priorities is never the smart thing to do. There is more than one way to achieve the ultimate objective. Had I taken the time to consider the option of investing sooner while taking slightly longer to pay off my debt, then I would be in a position to retire now. One of my long-term goals has always been to retire as soon as possible instead of waiting until my 60s. By following the path set in the TTMM book, instead of considering all of my alternatives before choosing a course of action, I’ve delayed my retirement date by atleast 5 years. Ouch!

As I’ve written before, I wholeheartedly accept some of the Baby Steps as set out in TTMM, but I do not accept all of them as the one true path to financial prosperity. For those who are financially fortunate enough to do both, I would suggest investing in stock market while also paying off non-mortgage debt. The debt will eventually be gone, and you’ll be left with an investment portfolio that’s chugging along. At that point, you have the choice of investing your former debt payments in order to meet your financial goals faster. Or you can continue with the same contribution level you’d established while paying off debt and use your former debt payments in other areas of your life. In both options, you have an investment portfolio working hard for your 24/7 while you go about the business of living the life you want to live.

That said, I don’t want you to make the same mistake I did. Keep in mind that I’m not a financial expert nor am I licensed to give financial advice. Rather, I’m just an anonymous voice on the internet that enjoys talking about personal finance and sharing what I know. Consider my words and evaluate the source, then determine whether either proposed course of action gets you closer to fulfilling your life’s dreams and ambitions.

I’ve been working hard to practice taking-what-I-need-while-leaving-the-rest in my life. This new-to-me perspective requires me to broaden my horizons by considering things that I would’ve automatically disregarded. Metaphorically speaking, it’s necessary for me to go beyond the letter “A”. The first piece of knowledge is akin to the first letter of the alphabet. This is not the point at which I should simply stop learning. I need to move to letter “B” if I’m going to maximize my chances of learning how to get what I want.

For me, moving from one lesson to the next involves routinely assessing my habits. Some I’ve kept. Others I’ve discarded. I still read about personal finance every chance I get. I’ve purposefully found people who share my love of this topic. I seek out those who give me insightful feedback on my plans & ideas. No longer do I blindly accept everything that’s posited by someone else. By forcing myself to learn as much as I can, I’ve developed a nuanced approach to new ideas about how to achieve my goals. At the end of the day, I’m much better at assessing when to stick to my chosen path and when to tweak it ever so slightly. No longer do I give the opinions of others more weight than they are properly due.

Today, I ensure that I always go beyond the letter “A”. My dreams and priorities are too important to leave to chance. It’s up to me to do my very best to make them come true. Only time will tell if I’ve minimized my money mistakes. Even after decades of reading and learning about personal finance, my education is still not complete. My knowledge is hard-won, yet there’s still more to learn, more to consider.

You owe it to yourself to pursue your own life’s goals too. You are worthy of having the life you dream of, so make sure that you always go beyond the letter “A”.

My Criticisms of the Baby Steps

Based on my understanding of them, the Baby Steps have two main problems. One, the Baby Steps encourage people to work longer than they might otherwise wish. Two, people will pay higher than necessary management expense ratios (MERs).

One of the more controversial figures in the personal finance section of the Internet is Dave Ramsey. Among other things, he is famous for encouraging people to follow his Baby Steps.

When I was first starting down my own money journey, I happily devoured The Total Money Makeover. Even today, I still think that the Baby Steps are a great path for newbies who are looking for a way to get out of debt and to start building wealth. When I had student loans and car debt, I followed the Baby Steps and paid those off. Once debt-free, it was very nice to have some breathing room in my budget.

However, when I got to the step about investing 15%, I had to pause a little bit.

Criticism #1 – Working Longer than Necessary

My first concern with the Baby Steps is that they implicitly encourage people to spend 85% of their income once all non-mortgage debt has been repaid.

Allow me to exceptionally clear. THERE IS NOTHING WRONG WITH SAVING 15% OF YOUR INCOME! When there is a choice between saving nothing and saving something, always choose to save something. Then invest that money for long-term growth and go about the business of living.

However, I was fortunate enough to have learned about early retirement. I wanted to retire as soon as possible. Investing the recommended amount of 15% of my paycheque wasn’t going to do it for me. In short, investing only 15% of my income while spending the rest wouldn’t allow me to fulfill my goal of early retirement. I was not interested in working 30+ years if there was a viable option for me to still have a financially solid retirement while working for less than 3 decades!

As a result of my independent self-study, I had learned from other sources that a higher savings-and-investing rate meant a quicker path to financial independence. I’m certain that the Baby Steps will help most people get to a comfortable retirement at a traditional retirement age. And if the Baby Steps help someone to start their 15% investment plan in their 20s, I’m sure that they’ll have millions of dollars after 30+ years of work.

My life’s dreams didn’t involve working for 30+ years. My career has a lot of perks, but jumping out of bed each morning in gleeful anticipation of another day at the office is not one of them.

Fortunately for me, I had the ability to save more than 15% of my income once all my non-mortgage debt was eliminated. At this point, I seriously deviated from Dave Ramsey’s plan. Firstly, I paid off my mortgage in my mid-thirties. Then I took my former bi-weekly mortgage payment and started investing it. To be clear, that former mortgage payment was more than 15% of my take-home pay. I first maxed out my RRSP, then I maxed out my TFSA contribution room. Once that was done, I started contributing to my non-registered investment accounts. Over the years, I’ve benefitted from raises. Generally speaking, two-thirds of each raise went to my investments and the remaining third went to improving my present-day life by spending on those little luxuries that make me happy.

I am not encouraging anyone to deviate from the Baby Steps if they want to work for as long as possible. There are people in this world who love their jobs! Saving and investing only 15% of income works beautifully for these people. They get to spend their money today, while enjoying their jobs, and will still retire at traditional retirement age with a nice, fat cash cushion. If this is you, then I congratulate you on having found a way to make money doing something you love.

It just seems to me that the Baby Steps should say “invest 15% or more of your household income in retirement.” Adding those two little words would plant the seed that retirement can come sooner if you so wish. I’ve met more than a few people who’ve expressed the desire to quit working, but cannot yet do so because they need the paycheque. For these folks, saving the recommended 15% doesn’t get them closer to their goal of retiring sooner rather than later.

Criticism #2 – Paying Higher-than-Necessary MERs

My second issue with the Baby Steps is related to Dave Ramsey’s love of mutual funds. I’ve listened to him on YouTube where he consistently exhorts his listeners to invest in mutual funds.

In the interests of transparency, I admit that there was a time when I invested in mutual funds. I was younger and less knowledgeable about the costs of equity products. It’s been years since I divested myself of those products and moved into exchange traded funds with VanguardCanada and iShares. There was one main reason that I exited from mutual funds and went into exchange traded funds.

Mutual funds are consistently more expensive than exchange traded funds and index funds. This is because mutual funds charge higher MERs than their ETF/index fund equivalent. Think of the MER as the cost of the product. The returns on my mutual funds were not twice as good as the returns on my ETFs, even though the MER might be twice as high (or many multiples higher!) on a mutual fund than on an ETF. If the mutual funds’ performance had justified the higher price, then I would have continued paying a higher price. When I realized I could get the same performance for a lower price, I hastily moved out of mutual funds and put my money to work in ETFs. I’ve never regretted my choice.

So when I listen to Dave Ramsey talk about how wonderful mutual funds are, I have to ask myself why wouldn’t he tell his listeners to invest in equivalent yet cheaper ETFs? The same performance for a lower price seems to be a good thing for the people following his advice.

I have never heard a persuasive explanation for why people should pay higher MERs when an equivalent and cheaper product readily available.

Take a look at this MER calculator. It demonstrates that higher MERs result in smaller portfolios over any given period of time, all else being equal. The longer you’re investing your money, the bigger the MER-bite. Whenever possible, invest in an ETF or an index fund instead of a mutual fund. You should not be paying an MER higher than 0.3%.

So that’s it in a nutshell. Though they are a great starting point, I hope that I have articulated my two biggest problems with the Baby Steps. I sincerely hope that this blog post has given you more information about how to influence how much longer you’ll have to work. The secret is to invest more today so you don’t have to work as long tomorrow. Whenever you do invest, pick exchange traded funds instead of mutual funds to keep costs down and to maximize the amount of money working on your behalf. Lower MERs ensure that a higher percentage of every invested dollar works for you as you pursue your investment goals.

At the end of the day, the choice of how much and where to invest is yours. If you want to work for as long possible, while paying more in investment costs, then follow Dave Ramsey’s plan to the letter. If you’d like to have the option of attaining financial independence as soon as you can,then invest more than 15% of your next income and choose ETFs over mutual funds.