Disclosure: This post may contain affiliate links wherein I get a commission if you decide to make a purchase through these links, at no additional cost to you.

Money is something that needs to be managed. Whether you make minimum wage or well over six figures, you must understand how to manage your income if you ever expect any of it to hang around.

The first order of business in managing your finances is to understand when, where, and how much money flows into, and out of, your life. To solve this mystery, first begin with finding out where you spend your money, on average, every month. It is imperative to understand where you money ends up at the end of every month so you can begin to identify how you can keep more of it around!

At the end of most months, most Americans have little to no disposable income. In the present situation, most of us are actually able to spend more than we earn thanks to the world of creditors and financing.

However, there might just be hope for you yet.

Ponder the following: if you are over the age of 30, you likely have already had more money pass through your life than you realize. Don't believe me? Take a look at this example:

• Consider that the poverty line for those under 65 is just above $12,000 in the United States for a single individual which rounds down to about $10,000 in take-home pay after taxes. Even with a measly $10,000/yr pay, an individual would have $470,000 in total lifetime earnings (starting work at age 18 and ending at age 65). To further emphasize the point, this person never even got a single raise in our example!

Chances are, most of you make more than just $10k per year. Where has it all gone?

Consider that he average single individual income is just north of $56,000 (according to 2015 US Census data). So how much money does a person making an average of $56,000 earn in their lifetime? Answer: $2.2 million by the age of 65.

"In one hand, out the other" typifies money management in the United States. Worse yet, many are spending well beyond our earnings as evidenced by the $8,398 credit card balance of the average American.

Perhaps you find yourself in the same situation. Somewhere along the ride you decided keeping more of your income was not all that important. You may have decided a new car, new clothes, a brand-new house were all worth having savings in the "slim to none" category.

You may have decided that it was more important to own something, rather than own your own life. Your decisions make the indentured servitude of regular "nine to five" employment a guaranteed certainty until you meet an early grave. 

You are responsible for this. Not your neighbor, Not your brother. Not a divorce. Not the weather. Not your injured knee. Not that tree that fell on your uninsured home. It's your fault. End of story.

Why do we need the pressure of it being "our fault"? Because by assuming it is your fault, then you can begin to understand that you are the one responsible for changing it. Life happens to all of us. Unexpected expenses will continue to come. They do not end and they come at the worst time. Even innocent expenses like birthdays, holidays, baptisms, wedding, you name it, will continue to come at the most inopportune time. This is life my friend. 

I take the extreme "my fault" approach to money management because it carries with it a zero-tolerance policy for excuses. Excuses are wasted energy. They rarely, if ever, do anything to change the actual situation at hand. Excuses are a coping mechanism that are designed to make you feel better about why you are not doing better. They are also used to help explain to other people why you aren't doing better in the hopes they won't judge you (trust me, they still are judging you anyway).

In the words of the late Jim Rohn, "Don't wish it were easier, wish you were better".

While the lifetime earning numbers that we calculated above might be very impressive (especially if you make more money than the example I provided), you may actually find that you are spending more than your annual after-tax income. 

To make the examples above more accurate, use your actual tax returns from previous years and add up what you have made in your lifetime (note: if you need these but don't have them, visit the IRS Website's "Get Transcript" page to learn how much earnings have been reported on your behalf to date) . This can be a very enlightening exercise, good or bad. If nothing else, it should merely demonstrate how little awareness you have about how much money you actually have made. 

The concept of calculating your lifetime earnings is a great place to start to introduce you to your income and create a visual of how well (or poorly) you have managed it throughout your lifetime. It is an important first step to understanding how to manage your money.

*If you would like greater depth on the concept of lifetime earnings, take a look at Your Money or Your Life by Viki Robbin.

Choose one of the following to get started:

Calculate Your Net Worth (assets minus liabilities)

• ​​There are many net worth calculators and videos tutorials online. I take the simple approach of using assets - liabilities = net worth

OR
​
Calculate Your Lifetime After-Tax Earnings - for increased accuracy, use the IRS Website for attaining prior transcripts of your tax returns​

​​
You must begin this journey knowing where you are so that you can figure out where you want to go. All directions require a starting point.  

If you insist that you never have enough money, start by looking at where your money actually goes. I don't mean simply looking at your checking account every other week, I mean look at your longer term trends. If someone is 200 pounds overweight, it would be wrong to assume that only last week was to blame for this situation. We need to look at things longer-term. 

Pick one of the above, and get started. Increasing your net worth can literally be as simple as gaining a deeper understanding of your personal financial snapshot. Just knowing how much money flows into your life (lifetime earning) or simply understanding how much you have saved in your lifetime (part of net worth), you can begin to identify areas where you require significant input (expenses, savings, tax efficiency, retirement accounts, investing, etc.).

Part 1 concludes with encouraging you to understand where you are starting from. Two choices:

• Calculate your net worth or
• Calculate your lifetime after-tax earnings.

 ​
Regardless, you decide. 

No matter where you are along your financial independence journey, running the numbers by calculating your net worth is an invaluable way to determine your financial health.

By keeping an eye on your finances, you will inherently increase your awareness and money management skills quicker than you think. If you are the type of person that considers themselves a poor money manager, then perhaps it is time to change that skill.

Is it possible that you are bad with money because you don't track it? Do you think you would get better or worse with your finances if you started paying more attention to them?

The basics for calculating net worth are as follows: assets - liabilities = net worth

An asset is anything you can exchange for future monetary or economic value and are assessed at present value to the marketplace. 

A liability is a debt or expense that you owe. This is also assessed at present value. Include everything here, no matter how embarrassing the liability might be. People finance everything these days from furniture to pets, so don't be discouraged and include every last outstanding debt.  

First and foremost, you need to track it because it provides instant feedback on how well you are doing managing your financial portfolio. Only those saddled with debt and living check to check don't know what a portfolio is. Truth is, I believe all you need for a portfolio is a positive net worth.

Once you attain a positive net worth, by eliminating all of your debts (the mortgage is the only thing that could possibly stay), then you can worry about managing your investments. 

The real-time feedback that your net worth provides gives direct insight to the following questions:

• How are you doing financially?
• Do you owe more than you have?
• What do you really have that is of value?
• How much have you already borrowed? This is often a powerful motivator to avoid borrowing any more.
• Do you need to start increasing savings? Decreasing spending?

Besides gaining insight into your overall financial picture, tracking your net worth allows you to learn something new about yourself or even become a different type of person altogether. As the late Jim Rohn always said (paraphrasing), "Don't do something just for the sake of doing it, but rather do it for what you will become in the process". If you were previously the type of person who is terrible at money management, now you can start to become the type of person who is rather skilled at it. Imagine what you will learn along the way. You certainly don't need to know much more than the difference between an asset and a liability to get started, but I promise you will pick up many more money-related skills along the way. 

Another reason to consider tracking your finances (at least annually) is because it helps you stay motivated on your financial journey. Make a game out of it and embrace the milestones along the way. Find economical ways to celebrate when you hit certain savings and net worth goals to keep you motivated. The reality is that far too often I hear of tracking finances as a source of anxiety instead of motivation. Some years you will make large strides and other years will feel like a standstill. Just remember, the path to financial independence is not supposed to be a smooth and linear road.

You will be amazed at what you learn as you practice tracking your net worth every year. For example, just four years ago I had no idea what a 457(b) was. Fast forward four years and my wife and I not only have 457(b) plans, but we have saved over $50,000 in them. I am not gloating but rather illustrating to you my very point in which I started the paragraph: you are going to learn a tremendous amount about money along the way. You will discover things along the way that you never imagined will accelerate your net worth just because you will be searching online and asking questions about terms to which you did not previously know. It is by searching and asking that you will expand your financial knowledge, and almost assuredly your net worth, along the way.  

Lastly, you will be able to share with others and help them along their path as well (if you so choose). Use this superpower with caution and do not be condescending when offering others advice. Be helpful and encouraging and share with them that you had little to no knowledge of any of this just a short time ago. Imagine the satisfaction you would have in starting to teach others about personal finance knowing you once were as bad, or maybe worse, at managing money than they are. This last reason is optional, yet I argue one of the most important reasons to stay abreast of your financial snapshot, and therefore stay on top of all the financial education out there. 

The morale to the story is that you have the ability to improve your financial situation just by keeping track of it. What gets measured can be improved. If you don't measure something, it is very difficult to know if you are improving it. So quit procrastinating and start tracking. Track your net worth. Track your expenses. Track your investment contributions and savings rates. If it causes you anxiety initially, that's alright and often to be expected. Stay the course and keep going. If you simply cannot get over the stress of managing money, then perhaps it's time to seek the guidance of a financial professional after all.

​Leave a comment below. What have you learned by tracking your money over time?

• How To Calculate Net Worth
• How to Stay Motivated On the Path to Financial Independence

Extreme deprivation isn't really that much fun. To most folks, the idea of putting on 4 layers in the winter instead of turning on the heat is not that appealing. Standing in the grocery store comparing the cost per ounce of beans is, for many, not a recipe for a good time. The cost savings of single-ply toilet paper is just too abrasive for most (literally).

Don't get me wrong, frugality tends to come with some weird savings hacks that are the centerpiece of your friend's jokes. I have even heard of someone using industrial CO2 containers to make their own seltzer water. Frugal folks tend to be a pretty strange flock. 

If you are motivated by cost cutting and frugality on small ticket items, go right ahead, I won't stop you. 
​
But if the idea of penny pinching on the little things drives you crazy then perhaps you need a much needed re-frame on your concept of frugality. 

1. Housing
2. Transportation
​3. Food.

For those of us who cannot tolerate the idea of skipping our latte factor items, there may be bigger fish to fry for you yet.

Saving on housing, transportation, and food is a hell of a good place to start. In fact, it may be the only strategy you will ever need.

Housing. Buy less house than you can afford, nothing more. Married with one kid and no plans for more? Why the hell do you need a 5 bedroom, 3 bathroom house? You don't. Be smart. Warren Buffet still lives in the home he bought for $31,500 in 1958.

Transportation. Don't buy a new car. Ever. It's really that simple. Buffet, one of the wealthiest men alive drives a midsize sedan, a 2014 Cadillac.

Food. Don't eat out. Split meals when you do go out. Cook at home a great majority of the time. 

1. Housing
Show these guidelines to your mortgage or real estate professional if you have trouble computing a price range off of these numbers. 

Rule 1: Always buy less than you can afford

• Do not buy a house that you cannot put at least 20% down on immediately
• With a 20% down payment your mortgage payment- including property taxes- should be less than 30% of your after-tax take home pay on a 15-year mortgage
  • You can still choose a longer mortgage duration but you will use this for assisting with finding your price range.
• Avoid PMI at all costs by making, at minimum, a 20% down payment

Rule 2: Purchase all necessary insurances - don't skimp on these! 

• ​Homeowners insurance
• Additional Disaster insurance (if applicable based on your area) - flood, hurricane, earthquake

Rule 3: Buy a house with at least 2 bathrooms - the more bathrooms in a home the better the resale value

• Consider avoiding a mortgage broker if you expect to take the full 30 years to pay off your home since their fees are often over the life of the entire loan. Instead use a brick and mortar lender such as your bank.
  • Mortgage brokers actually tend to save you a ton of time compared to dealing directly with brick and mortars.
  • My personal strategy: I likely will always use a mortgage broker for two reasons:
    1. The time savings
    2. I plan to pay my house off very quickly so the lifetime loan fees that a broker charges will be minimized

​Rule 4: Always get a termite inspection and order a plan that covers treatment.

• ​Nothing ruins a quaint home like these guys.

2. Transportation
Rule 1: When it comes to cars, buy used. Never buy new due to massive depreciation as soon as you drive it off the lot.

• I prefer the $5-7k range with less than 100,000 miles. This appears to be the "sweet spot" for durability and cost savings. These vehicles have already taken a majority of there depreciation and you can often resell them, for cash, and recover most of your money when you are finished with it.

​
Rule 2: Bike or walk more often. If you cannot bike or walk, combine your trips to save gas and mileage on your vehicle.

• Not only does it save on gas but it makes your car last longer because you are keeping the mileage down. Those little daily trips down the road to the gas station can add up to thousands of extra miles on your car every year.
• If you cannot bike or walk, consider combining trips instead of making several different small runs. Again, the miles can add up significantly over the course of a year. 

​Rule 3: Shop around for more affordable car insurance.

• ​I am amazed how simple it is to save money by calling around, yet nobody ever does it. Make the call.​ Don't push it off any longer.
• If you like the plan you have, consider raising your deductible as this will lower your premium. Plus, if you buy a vehicle based on my guidelines above, parts are very affordable for vehicles in that price range and you can do a lot of the labor yourself.

3. Food.
Rule 1: Drastically reduce, or eliminate, dining out and take out orders.

• I am still a big advocate for date nights and going out with friends, but consider the choices you make. Here are some easy ways to cut back you expenses while still enjoying a night out:
  • Limit alcohol consumption - this can lower your bill by 20-50% depending on your drinking habits
  • Consider splitting an entree - my wife and I do this all the time
  • Order a salad instead of always getting the filet

Rule 2: Cook at home.

• This obviously lends to my first point, dining out less.

Rule 3: Buy in bulk. Especially buying and storing the following:

• Spices and Salt - I buy these on Amazon
• Frozen foods
• Canned goods
• Snacks such as:
  • Walnuts, almonds, pecans, cashews, etc. Buy these in bulk for cheap on Amazon.

If you happen to know you need a budget, but cannot see yourself trading in your 2-ply toilet paper for 1-ply to save a few Shekels, then focus your efforts in these three areas.

Comment below on how you have saved in these areas. 

Disclosure: This post may contain affiliate links wherein I get a commission if you decide to make a purchase through these links, at no additional cost to you.

Frugality does not automatically imply you need to move out of your house, sell your car, ride a bike and live in a tent for the rest of your days. Frugality does not have to mean extreme deprivation.

In the financial independence and frugality community a term referred to as "the latte factor" has arisen. The literal translation of this is if you saved the cost of a latte and instead invested it, that over time you would become rich. I suggest that we can expand this beyond its' literal meaning however. Your "latte" could be any recurring expense, it does not have to be an actual latte.

Note: I believe the term latte factor originated with author David Bach. He even has written an excellent work titled The Latte Factor: Why You Don't Have to Be Rich to Live Rich.

At last, here is our latte factor calculator demonstration. Use the following to plug in your own numbers and expenses to figure out how saving small amounts can generate wealth over time.

First, figure out what your daily "latte" expense is. Perhaps it is literally a flavored morning beverage, but I suspect for many it is something else. Do you buy lunch everyday? A pack of smokes (saving money is another reason to quit)? A donut every morning? Essentially, what is the item that you immediately identify as a regular expense that you purchase at least once every few days, if not everyday?

Figure out how much that item costs you every month. Then take that monthly expense and plug it into this calculator. 

Such a simple example yields over $100,000 difference over the span of 30 years.

Just assessing your lifestyle habits from a true monetary cost-benefit perspective will change your mindset. It has the potential to train your brain to think differently about seemingly innocent recurring expenses. It might even eventually make you frugal.  

Taking this one step further, imagine you are able to find more than one item to save on over a lifetime. Now use the example above to calculate how the recurring expense of a particular item could instead be utilized to harness the power of compound interest.

The most common rebuttal to compounded savings is the concern that you will be depriving yourself. Yet that is not the point!

The point is that by choosing to limit yourself for a definitive period of time- like packing your lunch instead of that delicious hoagie for lunch everyday- you can ultimately choose to start purchasing that item again someday. The difference is that by limiting yourself for a defined period of time, when you ultimately choose to start spending that money again, you can restart the original behavior and then some! You can have your sandwich, and a new car, and a boat if you so choose. How? Because you chose to not spend on something for a defined period with the ultimate expectation to gain far more in the long term. This is the classic marshmallow experiment in action!

​That's the power of choice. That is the power of delayed gratification.

Ultimately the choice to be frugal now is because you can. Because you will never be younger than you are right now. You can possibly handle more now. Work more now. Cut spending more effectively right now. Delay your gratification. That's what frugality ultimately is!

Leave a comment below. What's your "latte factor" item? How do you anticipate this delayed gratification to benefit you in the long term?

Many self-proclaimed real estate gurus espouse the idea that you cannot live an asset. By the same meaning, they would therefore declare your primary residence a liability. I believe that this type of thinking is misleading at best and incorrect more often that not. ​

The reasoning behind the claims that housing is a liability are centered on the argument that as long as you live in your home, it is unable to generate rate of return for you. With the failure to generate a rate of return, the industry "gurus" would likely inform you that your house is disqualified from being an asset.

​Rate of returns in real estate involve more than just rental property income however. Just because you do not have positive monthly cash-flow in the form of rental income, does not mean that your primary residence cannot be an investment. 

An asset is can technically be classified as anything that has the potential to produce positive economic value. Unless your house became worthless the second after you signed at closing, it cannot possibly be considered anything other than an asset. Whether your home is an appreciating or depreciating asset however, is an article for another day.

According to data collected by Jorda et. al. (2019) from the time period of 1870 to 2015- over a century's worth of data- equities (stocks) beat real estate returns 8.46 to 6.10% respectively after being adjusted for inflation.

That 2.36% difference (8.46 vs. 6.10) in returns is actually attributed largely due to the inclusion of rental yields into the equation. The reality is, capital appreciation is much closer to 1% over the long term, according to Shiller (2000).

Many will argue that the measly 1% capital appreciation on homes is bringing down the real number associated with total real estate rental yields. They insist that rental yields are much higher than just 6.1%. The only problem is, there is insufficient data to support those claims. The reality is that rental real estate yields are very wide ranging and extremely difficult to predict ahead of time due to known long-term costs associated with the property.

Why are the costs of rental real estate relatively unknown and difficult to predict?
​The expenses associated with owning this property are variable and largely unknown throughout the lifetime holding of any given property.

Consider just some of these unexpected expenses associated with ownership in real estate:

• Legal advice and litigation costs
• Court costs associated with eviction or tenant problems
• Insurance costs - which are often higher for rental properties that primary residence
• Elevated mortgage rates - typically higher than primary residential rates
• Ongoing maintenance costs which are highly unpredictable and sometimes largely based on tenant behavior

There are many more, but these are the biggest unexpected costs associated with rental real estate. 
​
I digress, because we are talking home ownership as an investment, not rental real estate. To evaluate a home as an investment, we will need to know how much a house appreciates over time. This will allow us to measure it's monetary value as an investment.

To find the best answer to this multi-factorial question, we can take a look at the Case-Shiller Home Price Index. This appears to be the best index associated with the national home price index. Keep in mind, the Case-Shiller index excludes new home construction (there is a separate index for that) and focused primarily on resale of existing homes within a given time period. This is good news because most of us in the FI community focus on used real estate for purchase and ownerhsip.

When digging through Shiller's website data (available on his website for free), I found historical data---measured with a 3 month moving average---since 1953 (I chose 1953 as a starting point because that appears to be the year they began updating the index on a monthly basis).

Now, the data is broken into real and nominal values. The difference is crucial. The real home price index is adjusted for inflation and is updated for "today's dollars". The nominal price index does not adjust for inflation.


What's the difference between real and nominal home value?

The real home price index from 1953-2019 increased by 54.16%

• That equates to an annualized return of 0.81% over that 67 year period.​ The real home price index adjusts for inflation. This means that the value of $1 in 2019 is adjusted to match the value of $1 in 1953. By adjusting for inflation, we are allowed to make an apples to apples comparison. Over time, the real value of $1 has deflated. This just means you cannot buy as much with $1 in 2019 as you could with $1 in 1953. 

The nominal home price index from  1953-2019 increased by 1388%

• The nominal index explains how your grandparents bought their house in 1953 for $18,000 and it was "suddenly" worth $267,840 in 2019. Nominal takes into account both inflation of the value of one dollar as well as capital appreciation of approximately 1% per year. That's how a home originally purchased 67 years ago (in 1953) can increase in value to $267,840 by the year 2019.

So why is there such a difference between real and nominal home prices?
Again, the nominal home price increase is much larger in the example above because it fails to account for the fact that the market value of $1 in 1953 is not the same as the market value of $1 in 2019. This is primarily due to inflation. 

In other words, a single dollar went "much further" in 1953 than it does today. Plain and simple.

That is why the real home price index is a more useful tool in calculating the expected annual rate of return of housing. The index essentially equates yesterday's dollars with today's dollars by adjusting for inflation. 

By evaluating the change in real home price index figures from 1953-2019, I calculated an annualized rate of return of 0.81% per year of capital appreciation of a typical home over that 67 year period

Admittedly, I will occasionally round up and use a full one percent per year figure in my articles since many market critics will recognize a full percentage point as an accurate figure.
​Now that we have calculated the expected annual rate of appreciation of your home, let's dive into the discussion of seeing your home as an investment.

Most people simply do not even understand the basics of what is considered an investment. An investment is something that you attain now with the prospects of benefit in the future.

Typically, this is referred to in terms of financial gain. However, this is entirely misleading due to the fact that there are many types of investments don't even generate a positive return.

Some examples of investments that fail to generate positive returns over the long-term:

• Actively managed, high-turnover mutual funds
• Failed businesses
• Failed partnerships
• IPO's
• Penny stocks
• Hedged funds
• Leveraged investments---this includes "house poor" individuals who borrowed more than they can afford in real estate

These are all acknowledged as investments, yet they lose money. So sure, your house can still "lose money" if you sell it at the wrong time, but it's still worth something.

Technically speaking, an investment is simply something that you anticipate will be worth something in the future. You hope it will be worth something in the future that is of benefit to you. But remember, beauty is in the eye of the beholder. Your definition of "benefit" is not a universal definition, it is unique to you only. Many would simply be happy knowing that their house will be worth something someday, regardless of how it compares to the original purchase price--especially if it's paid for. 

Perhaps, indirectly. One of the best write-ups I have seen on this conversation is found here, written by Michael Bluejay. He analyzes the difference over the long-term of renting versus buying and breaks down a unique "Rent we didn't have to pay" line item in expenses.

Rather than reinventing the wheel, Bluejay discusses how the average person will have to pay hundreds of thousands of dollars in rent over a 30 year period---which is also the length of the average mortgage. 

He breaks down the difference in value of two scenarios:

1. Home ownership and value in years 30 and 31 of owning a home; and
2. Renting for 30 years and investing the difference in the market

The math is quite interesting and the numbers are very practical. Check them out for yourself in Bluejay's article here.

Home ownership, subjectively, is:

• A place to call home
• A place to build a family
• A place to own, even though it won't make you rich at 0.81% capital appreciation pear year
• You are in control of the rules (within reason and as long as you're not in an HOA). Paint the walls, remodel the kitchen, change the fixtures, all without needing to ask a landlord for permission.

You get the idea. A home is a chance to actually have a stake in something in the world. Your own plot of land (be careful though, it's not really yours until you pay off that mortgage). 

Financially, home ownership is a net wash at only 0.81% per year. It's certainly true that you "have to live somewhere" and paying rent feels like you are giving money away without the hopes of return. So yes, your home is definitely an investment. Although it does not return as much as other types of investments, it provides many intangibles (highlighted above) that are irreplaceable. 

References
​1. Shiller, Robert J. 2000. Irrational Exuberance. Princeton, N.J.: Princeton University Press.

Today we assess the difference between index funds and mutual funds. The overall investment objective varies greatly between these two types of funds. 

Index funds are actually a type of mutual fund. An index fund is a passively managed that seeks to match a given market index. The Dow Jones or S&P 500 are two of the most common indices of the overall stock market. An S&P 500 index fund is a very common method of investing in the stock market.

Mutual funds are professionally managed investment portfolios. The fund manager will buy and sell stocks quite frequently, leading to higher turnover, higher taxes, and higher expenses than the average passive index fund. Mutual funds are funded primarily by the shareholders (investors) like you and I. Typically, their goal is to generate the highest rate of return annually for the shareholders of the portfolio which is why they do so much buying and selling. This is why they are referred to as actively managed funds. The way these funds are marketed to the public is usually by comparing returns to general stock market indexes such as the Dow Jones or the S&P 500. 

So why is there so much confusion out there about mutual funds vs. index funds?
Although index funds are technically a type of mutual fund, they differ significantly in almost every other way. For the sake of clarity, it helps to divide the entire category of mutual funds into actively managed and passively managed. Therefore,

• Actively managed mutual funds = mutual funds
• Passively managed mutual funds = index funds​

Fees and management style.

The typical fees of a mutual fund are in excess of 2%. The typical fees of an index fund are often less than 0.1%. Doesn't sound like much? Well, it is!

Let's look at an example headline from our friends over at NerdWallet:

What is even worse is that this only looked at a 1% fee. Compounded over time, the loss of that measly 1% fee is extraordinary as outlined above. Remember, the average active mutual fund fee is well over 2%.

To make matters worse, if you happen to hold an actively managed mutual fund in a taxable brokerage account, you would need to beat the passive fund by 4.3% just to match the return of the passive fund. Why 4.3%? Professor Mark Kritzman of M.I.T. conducted a study reported in The New York Times.

So if your so-called "index beating" mutual fund was held in an taxable brokerage account.

If you held this actively managed fund in a tax-advantaged retirement account, you would still need to generate at least 2% higher returns just to break even with the passive index fund.

Why? Fees.

The average actively managed mutual fund consists of the following fees:

• Expense ratios - used to pay salaries of managers and other associated costs of the investment management company
• 12B1 Fees - marketing expenses; approximately 60% of actively managed funds have 12B1 fees
• Trading Costs - depends on how "active" the fund is; it is determined by how frequently it trades its' investments in a given year---this is known as the turnover ratio
• Sales Commissions - fund "loads"
  • ​A load is typically charged on entry or exit in and out of the fund. Some funds have loads of 5 or 6%. That's huge. If your investments grew to a $1 million over time--which is very reasonable given a 30-40 year investment horizon--a 6% back end sales load would cost you $60,000 if you took out all of the money upon retirement.

There are professional money managers who spend their whole entire life's work trying to time the market and, guess what... 92% of actively managed funds fail to match the returns of the market (i.e. S&P 500 index) over a 15 year period.

If your investment horizon is 15 years or greater- which includes you unless you plan on dying in the next 15 years- you stand practically no chance of picking the 8% of actively managed funds that will outperform the market. What's worse is that not only would the actively managed fund you chose have to beat the market, but it would need to beat it by at least 1.5 to 2.0%.

Why would it need to beat it by at least 1.5%? Fees and expenses. The average index fund has less than 0.1% in fees compared to the 2 plus percent fees of active funds.

​See why you are better off choosing index funds instead. 

I know many are thinking that 1 or 2% in fees doesn't sound like a lot, but trust me, it is. For example, saving even just 1% on fees could result in big differences compounded over time. Remember, the cost of a 1% fee could cost you $590,000 over 40 years, which is a very typical investment horizon.

Remember, index funds- passively managed funds- do not generate revenue for your advisor's company. The index funds simply don't make money for your advisor because they do not have all of the above fees associated with them. Beware, your advisor might still charge an "advisor fee" or an "administration fee" which is why I am a firm believer in the DIY method of investing in index funds.

I promise that your current advisor will pitch you something like this:

This is literally what my advisor emailed me when I exited a high-cost fund through a previous employer's 401(k) program.

It's bullshit. Complete nonsense. Even if they do generate higher returns, it does not last. Never has. Likely never will. 

I am certain you will be able to find funds that outperform the market over 1-, 3-, or even 5-year periods. But outperforming index funds over your entire investment lifetime? Outperform for 30 or more years, in a row? They don't exist. Not one ever has. 

Perhaps some of you are in a position to require a financial advisor. Some might need to receive tax advice. There are even some of you who are not willing to take just a few minutes to open your own account or call your advisor and inquire about fees and how to lower them by switching to passively managed index funds in your portfolio.

To those of you which this applies, I encourage you to seek the professional help that you require. Do not do so blindly however. Ask. Pick up the phone and have a few conversations with money managers and financial advisors. Be up front with them and ask immediately if this conversation will cost anything. Ask for free consultations as most money managers will be happy to provide a free initial chat.

Ask about fees. Ask about expenses. Ask about commissions. Be inquisitive and remember it is their job to answer all of your questions, even if most of them are about how the advisor gets paid. It's your money and to them, it's a job, so ask them about the costs associated with their account.

Your failure to ask could result in hundreds of thousands of dollars of expenses over a lifetime.

It's not unreasonable to think that if you start investing in your twenty's, and you live to be 90, you may be invested in the market for 70 years! Now imaging what those 2% fees will do to you compounded over 70 years. 

Be smart. Be curious. Don't be shy and don't be afraid to ask some questions. Even if you were able to save 1% in fees just by switching to passively managed funds, it could result in you retiring much earlier with a lot more money someday. It's worth it.

Until next time...

Comment below with your experiences with active vs. passive funds. Index funds vs. mutual funds. Run-ins with your advisors commissions. Please share with your community.

Disclosure: This post may contain affiliate links wherein I get a commission if you decide to make a purchase through these links, at no additional cost to you

Personal finance seems to be making a comeback. Books are written, podcasts recorded, and Youtube videos are increasing in abundance, all centered around the topic of financial independence. The theme continues by extending the conversation into a concept known as early retirement. Early retirement is predicated on demonstrating discipline and consistency with your finances, all in an effort to quit working as quickly as possible. Could it really be that simple? Has everybody been missing the bus on finances? Will this financial independence retire early (FIRE) movement last?

I must admit, I am fairly skeptical when it comes to large groups with common agendas (this stuff sounds cult leadership to me). Don't get me wrong, I do believe the FIRE community has produced many positive outcomes, but my concern is that there is no platform to host the individuals who failed. We only ever hear about the success stories in this community. 

Focusing on early retirement, as a sole motivator to get your financial house in order, is a rather dangerous game to play. When pursuing finances as a means to an end, one has a tendency to lose sight of the joys of life, or even stop pursuing them altogether. I am certainly not advocating for the collection of material possessions but rather restarting the search for meaning and happiness in life. There is a level of diversion that is difficult to quantify when we take a myopic view towards any one particular outcome - in this case, early retirement. 

Author Ramit Sethi encourages his readers to "automate and live outside of the spreadsheet" in his book I Will Teach You To Be Rich.

What concerns me the most about general guidelines and universal advice on finances is the notion that personal finance is inherently personal. It is unique to your own individual needs. Your path to financial freedom and financial independence does not have to be based on retiring early, although it certainly can be.

Most of us want to work. Some of us even enjoy some of our current work. Yet it is not enough to keep us from wanting something more. That something more is a definitive purpose which our day job presently interferes with.

The FIRE community tends to focus too heavily on residual income strategies, passive income development, and advanced blueprints for access to retirement funds through Roth conversion ladders. These strategies are aimed at using money as a means to an end and using money as a means to an end is a slippery slope worth investigating further. 

The fact is, money is a necessary medium of exchange for goods and services, especially in the United States. We find truth and solace in adages like "no free lunches" as most things in life are not without monetary cost. The simple truth is that the less that you have in savings and the more you have in debt, the greater difficulty you will likely have navigating through life. 

Accumulating wealth and eliminating debt will certainly open up opportunities and breathing room necessary to explore and pursue your passions. On the contrary, I am not convinced that you need as much as they say you need before pursuing your passions. Going well beyond debt elimination and attaining positive net worth of 3-5 times your annual expenses seems to provide diminishing returns and takes too long for most people to stay with. I believe that saving and investing anything beyond 5 times your annual expenses might be completely unnecessary and a source of undue stress for many of us. There is not a huge difference, in my mind, between 5x annual savings and 25x annual savings (a popular FIRE milestone) when considering your freedom to pursue alternative occupations. Most of us cannot even fully quantify what it is like to have 5 years worth of expenses saved, let alone 25 years worth. The trick is learning when enough is enough.

Consider the difference between having a financial buffer of 5 years of expenses compared to 25 years of expenses. Obviously, the answer is there is 20 years difference. However, getting to the 25 years mark still does not address the underlying problem (neither does 5 years). Your overall lack of a definitive purpose in life. 

I have little confidence that an aggressive pursuit to save 25 times your annual expenses to achieve a FIRE milestone will actually contribute in any way, shape, or form to your ability to discover meaning and purpose. Certainly you will become an excellent savor and a savvy investor along the way. But will you become a better person? Will you generate value for others along the way?

Of course you could just wait to save the requisite amount and then begin your pursuit but you need to ask yourself one serious question: Are you willing to wait that long?

The infamous post by Mr. Money Mustache suggests that finding out how many years before your can enter early retirement is much easier than you think. This is an excellent post and has been life changing for many folks. If you have not read his post, go do it now and then come right back here. If you are already familiar with it, keep reading.

I do not want to ruin the moment for anyone but after assessing the numbers highlighted in table and graphical format on his pillar post, I could not help but wonder if everybody is willing and able to wait that long. For example, consider that it still takes 17 years to achieve early retirement by saving 50% of your take-home pay. That's a long time. If you can bump your savings rate up to 65%, you can do achieve FIRE at just over 10 years. 

The math above assumes a starting point of zero net worth. Many are already ahead of that and many are well below zero, in the negative net worth category. If you are close to early retirement, already have a significant positive net worth with no debt, by all means finish your pursuit of FIRE. For those of you who are much further away (most of you are), I urge you to consider much more attainable and realistic milestones for your medium to long-term goals.

Debt elimination is huge. If you are not there yet, this is one of the best places to start.

If you have finally broke even and said goodbye to toxic debt like car loans and student loans, it is time to start building a positive net worth. I don't know about you but starting at zero and saving 50% of my take-home pay for 17 consecutive years (204 months) seems like a very long way off and would be nearly impossible to stay motivated for.

Contemplate some important questions when considering if 25x annual expenses is really worthwhile:

• Could you begin your quest for purpose and meaning much sooner than waiting for 25x annual expenses?
• How much more comfortable would you really feel saving 25x annual expenses vs. 5x annual expenses? I suggest the difference is much less thank you think.
• Would you not be satisfied knowing that all expenses, bills and obligations, would be covered for 5 full years without you bringing in a dime?  

My concern with the FIRE movement is that it causes a lot of individuals unnecessary levels of suffering along the journey. Sure, we hear about all the folks whose lives were "changed" the moment they reached the coveted quarter century savings mark. How many are we not hearing about that this advice caused obsessive or pathological levels of focus around money and savings? The truth is, I was one of them.

When I first began learning about personal finance and discovering the concept of early retirement, I was all in. Along the way I listened to the ChooseFI podcast, read many personal finance books, and listened to the latest advice from "influencers" about how to attain financial freedom. It was great, while it lasted.

Then I started accumulating a positive net worth. Six figures. A quarter of a million. $400k. My wife and I kept hitting these milestones but, admittedly, felt diminishing returns and satisfaction along the way. We had to stop and take a moment to consider whether we needed to keep pursuing the 25 times annual expenses mark, or whether we actually already had enough.

Forgive me but I am just not convinced that we truly need much more than a few years worth of expenses saved up before we can take a giant leap of progress towards pursuing our passions in life. 

Early retirement does not seem to encourage the pursuit of purpose in life, until after you reach early retirement. What if that is not soon enough for most people? What if we are only really hearing about the success stories, and there are many more failures that go unknown? We all need purpose. Dr. Viktor Frankl famously discussed the importance of purpose in his personal memoir about surviving the holocaust, Man's Search for Meaning.

The FIRE movement is centered on the concept of achieving your number, the target net worth and savings so that you can have "F-you" money and walk away from your present job. I agree, having F-you money is very valuable in life. But the real value is in attaining that number so that you can do the things you really want to do in life. Does it really need to be a full 25 times your annual expenses? For some it might. For many others, we can get to work on pursuing our passions on much less.

Trust me, as badly as you think you want to, you may not really be seeking to retire. You may be convinced this is the solution to your problems but I would suggest that your lack of definitive purpose is the real tragedy at work here.

Remember, retirement means doing nothing for work. Consider the Oxford definition of retirement quoted below:

Now that we know the true definition of retirement, is that really what you are looking for? I enjoy working when the tasks I do are meaningful, purposeful, and impactful to others or myself. I like the notion that somebody else is willing to pay me for my time. Are you really hoping for that to end completely? Or do you just want to be paid for your time to do something else? Perhaps something you enjoy much more that provides much greater purpose and service to your community.  

Using money as a means to an end is the enemy of happiness. Really, using anything as a means to an end is the enemy of happiness. Do the things you do in life because you want to, not because you expect something in return. This concept is hashed out in best-selling author Mark Manson's work Everything is F*cked: A Book About Hope. If you are the type of person who would not do the current job you are doing if it did not pay, then I encourage you to get your financial house in order so that you can pursue something else.

What society certainly does not need is a bunch of retired 30 and 40 year-olds not contributing positively to society and the workforce. Society does need more people pursuing purposeful work.

Reaching financial independence, for me, is about permitting myself to do the type of work and choosing my own suffering in exchange for long-term benefit. In his book, Manson introduces the concept of choosing your own suffering as a form of "self-limitation". The example he provides to the reader is that the ability to choose your pain in life is the real magic. Take physical exercise for example. You choose to suffer through the short-term pain of exercise in exchange for the long-term benefits of greater strength, endurance, mobility and improved health. That is the power of choosing your own suffering in life.

We are setting ourselves up to choose our own suffering. Picking our pain in life, not trying to avoid it. Life will be filled with pain and suffering regardless of whether we try to avoid it, therefore quit trying to avoid it. Rather, set yourself up so that you can choose your pain points in life such as physical exercise, financial planning, sauna bathing, cold showers, proper nutrition, meditation, and whatever other hormetic stressors you can devise that will benefit you in the long-term.

When you are paycheck to paycheck, saddled with debt, you are not in a position to choose your suffering. You need your current job with the long hours, arbitrary rules, and tedious demands that come along with it. You rarely can afford to step away and fully pursue your passion. You're stuck. Many of us are there. Many of us have been there for decades. Even I was there. It wasn't pretty.

"25x annual expenses"
"4% withdrawal rates"
"Geo-arbitrage"
"Passive income strategies"
The above are all common terminology of FIRE community. You may certainly use some, or all of them as you so choose, but make sure you are using them for the right reasons. Make sure you have assessed whether you really need a full 25x annual expenses, or whether you can take a leap of faith much sooner in life. An emerging, and increasingly popular, pivot on FIRE is instead referring to attaining a "work optional" status. When you hit work optional, you have many months, and hopefully years, worth of savings and investing accumulated so your reliance on your present job is minimal.

I encourage you to separate the "FI" from "FIRE". Focus solely on financial independence (FI) aspect and move towards a position of financial strength to allow yourself to pursue your passions in life sooner rather than later. Financial Independence permits many opportunities for you to no longer be beholden to your present job, especially if you dislike it greatly and do not find purpose in your work.

The biggest problem in the FIRE community is the underlying concept that we should eventually be able to attain a life with freedom to recline in a hammock everyday if we so choose. The major flaw of this underlying ideology is that there will always be a part of your life that will suck. Always. Therefore trying to avoid it altogether is a fruitless endeavor. 

Assuming that we can eliminate hardship and suffering in life is completely impractical and ironically tends to lead to greater suffering and unhappiness.

The real power is when you are in control of choosing your suffering. As mentioned above, physical exercise is a great example of choosing your suffering. The short-term costs are certainly worth the long-term benefits. Me sitting down and writing this post when I would rather do just about anything else, is another example of choosing your suffering. I am choosing to do this, rather than something else, with the concept that there will be some future return.

I encourage you to move forward and pursue your passions as quickly as possible. Plan, save, and invest along the way and assure your financial house is in order before doing so. Eliminate your debt and attain a positive net worth and then quickly move onto more meaningful aspects of life, such as defining your purpose.

As always, leave your comment below on how you felt about today's article. Love it or hate it, life is not about retiring. Going through your entire life with one goal, to retire, seems like just about the worst form of hell on earth. I challenge you to look further and realize that your problem is not that you are not retired, your problem is that you just haven't yet found out why you are important to the world, however big or small that importance may be.

Disclosure: This post may contain affiliate links wherein I get a commission if you decide to make a purchase through these links, at no additional cost to you.

I read and hear about too many cost-saving methods that are impractical and simply do not produce quite the return they promise.

First, figure out why you want to save money. 

Are you saving for a house? Saving for college education? Saving for an investment? Saving for anticipated expenses such as repairs or maintenance? 

Second, please realize that saving money does not have to be difficult. It also does not need to lead to massive deprivation where you use candles instead of lights (plus candles are a fire hazard).

To prove my point, here are 3 stupid items that I save real money on every single year. Results may vary.

Almonds, my number one snack food item.

I buy a ton of them. Not literally a ton, but damn close. I buy a 40 oz. bag of whole raw almonds online for less than $13.

​A typical 16 oz. bag of almonds at the store is $8. The bag I buy online is 2.5x larger but costs less than twice as much. 40 ounces of almonds would cost me over $20 at the store therefore I save about $7 per 40 ounces. I go through a full 40 ounce bag every week which means I save $7 every single week. This adds up to over $350 of savings every single year.

Actually there are two paper products to be aware of here: single-ply toilet paper and half-sheet paper towels are two game changers.

I can buy a 1000 sheet single ply toilet paper that lasts for 6 months for less than $7 at the store. Supposedly the average American uses $10 worth of toilet paper per month. By switching to single-ply TP I have been able to spend only $14 per year, per person in our household. This comes out to a little over $1 per month of TP usage. This equates to a savings of over $100 per year compared to the average American 2-ply user!

• Normally I buy this toilet paper (keep in mind I buy mine in-store so the price may differ)

Half-sheet paper towels allows me to be significantly more mindful of how much paper towel I was using. Full sheets are bullshit. Rarely do you ever need a full sheet. I cut my paper towel usage in half my first year using half-sheets. How much could this switch realistically save? I use two less rolls per week at which saves me over $150 per year. 

Using a water filter could potentially save you big money every year. If the typical household purchases a case of water every week, and bottled water is approximately $5 per case of 24 (depending on where you live), you could save $250 in bottled water every year. If you buy two cases per week, you might be able to ​save over $500 per year.

Some of these companies even claim you can save up to $1000/yr, but that's a pipe-dream in my opinion. 

There are two popular options depending on how often you want to change the filter and how easy you want your experience to be:

• Pur water filter - simplest method; fits right on your faucet; the downside is the filter needs to be changed more often
• Gravity-fed Berkey Water Filtration System - longest lasting option; stand alone water system; you put water in the top and it filters into a basin with a spigot on the bottom, it's pretty cool
  
  • I actually own an Alexapure but they are nowhere to be found right now and Berkey is one of the best brands on the market

Here is proof that even these 3 ridiculous ideas can save you serious money every year without effecting your quality of life via deprivation. 

These don't involve turning the thermostat to 45 in the winter or 90 in the summer. They don't involve biking 30 miles to work. They sure as hell don't include eating noodles everyday (just almonds).

What are 3 things that save you real money every year that might surprise fellow readers? Comment below with your answer.