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Sunday, September 11, 2016

How Credit Card Interest Works

Did you know new credit card charges start accruing interest IMMEDIATELY if you are currently carrying a balance?



I find that people often continue to use their credit cards for daily purchases (gas, groceries, etc) even when they are carrying a balance. Maybe that's because they think that at least those new purchases will have a "grace period" and not get charged interest as long as they pay at least that much on their next bill.

This is not true.

Once you start carrying a balance, If a new charge is made it will start costing you interest in a single day. That's because of how interest is calculated using the "average daily balance" method: As soon as you make a charge, the average balance for the whole month goes up a bit.

I've struggled with out to explain this in words, so if you want a specific example with numbers, I made a video to explain it:


This is why it's so important to stop using your cards if you are carrying a balance, and you often hear advice to cut up your cards or freeze them in a block of ice.

Keep on attacking that debt!

Thursday, August 11, 2016

Mint.com Can't Handle Fidelity NetBenefit's "Change in Market Value" Transactions

I've been a long time user of Mint.com for personal finance management and expense tracking, however it has never been able to correctly track my investments. I spent some time today digging into the transactions it is pulling from my 401(k) account at Fidelity. I used Fidelity NetBenefit's "Download Transaction History" feature to look at all my transactions and see if I could figure out what Mint.com was getting wrong.

It turns out Fidelity is generating Change in Market Value "Transactions" which are not actually transactions at all. They appear to be an accounting artifact generated whenever my portfolio is-re balanced, or when one fund is exchanged for another. You could think of them as "Realized Gain" Transactions (or "realized loss"). Here's what I mean:

In a normal month with nothing but normal 401(k) contributions, my Fidelity transactions record looks like this:


Mint should be able to handle this just fine. Two paychecks, each one has contributions to four different funds.

However, last month my retirement swapped out two index funds. this is the result:


As you can see, in addition to the transactions for the two normal contributions (in green), we have some transactions associated with the exchange of assets. (Gray, all on the same day). They should be a net-zero lump of transactions. My account value was exactly the same before the swap as it was after the swap. However, you see the lines highlighted in orange cause this day to have a serious non-zero impact on my running total.

What's really going on here is that Fidelity is generating these transactions to document all the gain or loss in that particular fund since I first bought it. It's basically the "realized gain" or "realized loss" now that I am exchanging out of the fund, which in this case may be the change in value over multiple years! When Mint finds these transactions it incorrectly treats them as contributions or deposits. This results in "double counting" your gains and losses, because mint is already monitoring your total account balance.

I'm not sure it will solve all the problems with getting Mint to track my investments, but I'm going to mark these "Change in Market Value" Transactions as duplicates to get Mint to ignore them.

Thursday, July 21, 2016

The Lesser of Two Evils vs. Third Party?

Either Hillary Clinton or Donald Trump is going to be president next year. It's now a tactical, logical decision we must make when deciding who to vote for. We must each weigh the magnitude of our difference in preference between the two candidates against the impact of your vote.
In swing states or closely polling states, we should vote for the lesser of two evils. In "decided" states, feel free to make your idealistic protest vote. I did this 4 years ago when I voted 3rd party. Similarly this year, I will make my decision the week of the election based on my state's polls. Either the lesser of two evils or a third party (or maybe abstain from voting), based on how much my vote will matter. That's being tactical.
There's nothing magical about voting. Don't be idealistic. It's putting a check on a box. It's not saying you agree with everything a candidate stands for, it's not saying "This individual is the best possible president for the United States". It's simply saying "I would rather have this one individual be president than that one other individual". Don't treat your vote as a hallowed action that defines your character.
Bernie Sanders is being tactical by endorsing Hillary today. Bernie doesn't just have a single vote, he has a voice, an endorsement which is worth many thousands of votes. Therefore if he has even a SLIGHT preference for Hillary over Trump, it's logical for him to endorse her, as this has a non-negligible chance of shifting the vote. He's not a sellout, he gains nothing (or at least less than he loses) by withholding endorsement.

Friday, May 6, 2016

A Flexible Way to Combine Finances in Marriage

You'll find thousands of articles on the internet about the best way to combine finances when you get married. Do you keep them separate ("mine and theirs")? Do you combine them ("ours")? Something in between?

I got married last year, and we gradually developed a system that works very well for us. Even better, it's a very flexible system that you can adapt to your unique situation. We call it "mad money". Others call it "flex money", "blow money", or "allowance".

How it Works

Our primary family checking account is used to pay for nearly all expenses: house payment, utilities, vacations, food, and so on. Naturally however, there are some expenses where our priorities are different. In your relationship, you might prefer to spend money on videos games, whiskey, and casino trips while your spouse would rather save for her model train hobby and bungee jumping.

Because of this difference, my wife and I each get a monthly allowance of "mad money": This is the money that your spouse is not allowed to get mad at you for spending. I can burn through this money every month, or save it up for a year to blow on a fancy gaming computer.

You might choose to actually set up two bank accounts for this money, and automatically transfer your monthly allowance to them each month. My wife and I just track a "virtual" balance in a spreadsheet, while the money actually all stays in our common checking account. Our Mad Money spreadsheet looks something like this (fake numbers):


Flexibility

Food: Maybe your spouse thinks you eat fast food too much, and you think she drinks too much Starbucks?  Why not just include food in your mad money? Take it out of your normal family budget, and add the appropriate amount to your mad money.

Gifts and Bonuses: Currently, when we receive a bonus at work, or a gift from grandparents, we just throw it into our family funds. But maybe you want to put it (or maybe just part of it?) in your mad money. Go ahead! See the "adjustment" column in the image above? You can split it evenly, or put it all in your mad money if it's your bonus. Just make sure the two of you agree on your approach.

Different Tastes: Need to buy a new couch? You want the $1000 one, and your spouse wants the $500 one? Why not agree to pay for part of the couch with the family budget (say, $750), and charge the rest ($250) to your mad money?

As you can see, the whole concept of "mad money" simply gives you a platform to discuss and agree upon how you deal with your finances. 

Different Incomes: If you get married later in life and and both have well established careers, you might want to keep a lot of your finances independent, and will shift more of your finances towards mad money and away from the family budget. Maybe you even each get a different amount of mad money each month, based on your salary: She sacrificed a lot early in life to go to med school, and now has a bigger income. Maybe she should get $500 a month in mad money, while you only get $300, proportional to your salaries?

If one spouse is a stay at home parent, or you align very closely on entertainment and luxury spending priorities, it might make sense to leave nearly everything in the family budget, and only keep a small mad money account for hobbies and gifts to one another. Feel free to adjust the "slider" as it fits your family!


Perspective

This system work best if you have a family budget in the first place! Write down how much of your money each month goes towards house, utilities, travel, mad money, etc(as you can see, we simply include mad money as a line item in our budget.) How much leftover monthly cashflow do you have to put towards debt, savings, and investments? You may need to adjust the amount of mad money you each are allowed in order to meet your other shared goals for saving.

Wednesday, April 6, 2016

Your investment manager might soon be legally obligated to actually give you good advice!

The U.S. department of labor is doing something awesome: Proposing new rules that might actually require investment managers to do what is best for you, the client, not just what is best for their own wallet! Source

When you use the services of a real estate agent to buy a home, they have a "fiduciary duty" to you. That means that they are "obligated at all times to act solely in the best interests of the client to the exclusion of all other interests, including the broker’s own self-interest."

And even with the fiduciary duty, you will still find realtors who subtly (maybe even unconsciously) will recommend a buyer takes a deal for $5,000 less. They know it will let them close the deal faster, get their commission, and move on to the next sale to bring a paycheck home to feed their kids and provide their spouse with the best they can.

Imagine the conflict of interest in the investment arena, where there is currently no requirement for fiduciary duty!

Suppose a financial advisor is going to recommend you put your $100k in either:
  1. A low cost index fund which earns him zero commission, he relies on his salary
  2. A front loaded (5.75%) mutual fund with 1% expense ratio. He gets half the sales load instantly ($2,500) as well as half the sales load of all future contributions. He also gets an extra commission (part of the expense ratio) from the fund company for convincing another person to invest with them.
He can justify it to himself: "But this is a great fund! I personally know the fund manager and he is brilliant. He made $50 Million last quarter!" The fact that he gets an extra $2,500 to take home to his wife or upgrade his car or put his kids in a more expensive private school "is just a side benefit" Maybe he does have good intentions (although I doubt many of them do.). But the fact of the matter is that statistics show over and over again that high expense, managed mutual funds grossly under perform index funds.

Why should realtors have a fiduciary duty to their clients, but not investment managers? I would think it's even MORE important in the latter case.

Ed Gjertsen, national chairman of the Financial Planning Association in Denver (who is against the proposed rules) said both of the following quotes:

Why wouldn’t an adviser have a client’s best interest at heart? Why do we even need a rule to enforce it?

and yet he also says:

Many firms will have to revamp their business practices to retrain all advisers to do what is in the best interest of clients.

Doesn't the second quote make it pretty obvious that NOT having one's client's best interests at heart is the industry norm right now?

Tuesday, March 22, 2016

My experience performing the "Mega Backdoor Roth Contribution"

I just initiated my first mega-backdoor Roth IRA rollover, and I figured I'd give a report out since it can be confusing. And even once you get the concept down, you have to figure out the actual *mechanism* in working with your institutions to actually make the rollover.

Background


[Note: this strategy is distinct from the normal "backdoor Roth". I provide a more detailed overview on why you might want to do this in my post My company offers an after-tax 401k. Should I contribute to it?]

If you aren't familiar with this process, the Mega Backdoor Roth takes advantage of the fact that individuals can contribute after-tax, non-Roth money to an employer retirement plan such as a 401(k) if your company allows it. This is over and above the normal $18,000 annual limit for Roth or pre-tax contributions. If your company allows in-service withdrawals of this money, (or you plan on leaving your company soon), you can roll this money into a Roth IRA effectively  bypassing the $5,500 annual limit on Roth IRA contributions. Normally leaving money in an after-tax non-Roth 401(k) is less favorable than simple taxable investment account investments (since you owe income tax on the earnings, not just cap gains tax), but viewed as a short term "pass-through" into a Roth IRA (where the earnings are tax free), an after-tax 401(k) can be a huge weapon in your FI arsenal.

Here's the Mad Fientist article on the trick, and I find it quite thorough.

Details


I have $6,142 of after-tax money in my 401(k). I only contributed $6,115 of this money, which means that $27 is "earnings" which have yet to be taxed. This is an important nuance: The contributions themselves have been taxed already, and can be rolled directly into my Roth IRA with no tax impact. The earnings however, if rolled over (and "converted" in the process) to my Roth IRA would be taxable income. No big deal, but since late 2014 the IRS allows you to actually split off these earnings and put those in a *traditional* IRA, deferring the income tax. This is what I wanted to do.

My 401(k) is with Fidelity, and my IRAs are with Vanguard. I first called Vanguard to initiate the process (as I know working with the receiving institution can be easier: they are the ones getting the assets, not losing them! They have an incentive to work with you). I'm not sure the Vanguard rep really understood the details of the tIRA/Roth IRA split, but I tried to move forward with them anyways. I wanted to do a direct transfer from Fidelity to Vanguard, and Vanguard said they needed to understand whether Fidelity required any paperwork. So I called up fidelity. The guy I spoke to seemed to be familiar with this procedure. According to him though, there was absolutely no way to do a direct transfer to an outside institution. After trying to sell me on opening an IRA *with Fidelity* (which isn't a bad idea, I just would rather stay with Vanguard for the time being), we initiated the transfer using physical checks.

Here's how it actually works: Fidelity will send me two checks in the mail, both made out to "Vanguard Fiduciary Trust Company for benefit of [my name]". One for $27 and one for $6115. I will then take these two checks and send them to Vanguard with a "letter of instruction" that I draft, instructing them to deposit the first check in my traditional IRA account, and the second in my Roth IRA account. Since the checks are made out to the other institution, not me, it's still treated as a trustee-to-trustee transfer, and they won't have to do the 20% income tax withholding on the $27.

Summary


All in all it seems straightforward. Although I would have liked to do a direct transfer without getting a check, it seems like the "split" of assets to Roth and tIRAs make this too complicated between institutions. It seems simple enough however, and after this is complete I will effectively have contributed $5,500 + $6,142 to my own IRAs this year. I'm only allowed to do this once a quarter per my retirement plan, so I'll finish hitting my $18,000 max in my pre-tax 401(k) by late summer, then dump even more money into the after-tax, non-Roth 401(k) in the fall, and go through this process again.

Tuesday, March 8, 2016

Can getting a raise be bad if it pushes you into a higher tax bracket?

Everyone has a co-worker, uncle, or friend who will warn you about getting a raise because it will push you into a higher tax bracket. 

They are implying that earning enough to "be in a higher tax bracket" results in less take home income than if you didn't get the raise at all. I have to admit, having all of your income taxed at 25% instead of 15% would be a huge hit! However, this involves a fundamental misunderstanding of how the US income tax brackets work. In actuality,
Only dollars earned above the tax bracket line are taxed at the higher rate.
Here's a glimpse at the taxable income brackets for a single filer in tax year 2015:


If you were on track to make $37,400 taxable income in 2015, but then get a $100 dollar raise, this would push you from the 15% marginal income tax bracket to the 25% marginal income tax bracket. But out of the $37,500 you now make, only $50 (the dollars in the 25% bracket) are taxed at 25%! All the other dollars you made are still taxed at 15%, or even 10%. (or in fact, 0%, since some of your income is covered by deductions or exemptions and not taxable at all!)

If your co-worker or uncle told you in October "Are you sure you want to work this November and December? It might push you into a higher tax bracket!" you would probably laugh at him. Now you can do the same when he warns you about your raise. Earning an extra dollar will never cost you more than a dollar in taxes just because it's in a higher tax bracket.

Note: Although earning extra income will never cost you more in taxes than you earn due to tax brackets, there are some cases where earning a single additional dollar may push you above an income limit for a certain tax credit or deduction that you were previously eligible for, increasing your tax liability by more than a dollar. That is out of scope of this article.