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The Basic Financial Plan

Basic Plan

A frequent question that people ask their one financial friend all the time is, “What should I expect when…” and the next bit is usually the part about getting a new job, or paying for a house, or what a good interest rate looks like for a car. Sometimes these questions are about saving for retirement, what a realistic return is for their 401(k), and how they should prepare to retire. Occasionally the question is “why is it important that…” or “Do I really need…” of course the answer is usually yes.

“Yes if you save younger it’ll make it so you can retire easier”, “Yes, Life Insurance is beneficial for most people who have dependents or debt like a mortgage”. The fact that you’re asking, is a sign you have a general idea of what you should be doing.

I figured I’d try to compile a bunch of basic principles that will get any individual to retirement in a relatively save and aware way. The purpose here is to help you set your expectations of what you need to do and understand in order to have enough money to one day be able to say, “You know what? I don’t need a job anymore, and I can live the rest of my life off of my own money.”

 

There are three basic parts of our financial life: Saving, Investing, and Diversifying.

First: Saving

Everyone hears a ton about saving, so I’m not going to hash why you should save any more. Just a few stats. The average person that should retire, (I.e. is 65+ years of age), only has about $80,000 according to Dr. Craig Israeleson of UVU. The Motley Fool recently found numbers could be potentially as high as $148,000 for those between 65 and 75.

Why does that matter to you as a 20-30 year-old? Here’s why, those people that can’t retire, they are holding your jobs. Once they retire, everyone down the line can start moving up.

The amount you save will directly relate to how much money you have for retirement. Many experts recommend saving 10% of your income, Dr. Craig Israelson, who performs research and analysis on portfolio theory, and investment returns suggested in a lecture at UVU that many millennials should adopt a rate of 15% of savings for retirement. Once you graduate and get that first job, immediately start saving 15% of every dollar you earn for retirement, and according to the experts, you’ll be very much secure for retirement.

Second: Investing

Being a Millionaire has nothing to do with income, but everything to do with Net Worth. Think about how time affects the value of money. Its been exhaustively said, so you can just google it, but the difference between the same $5,000 invested at the age of 25 and invested at 50 when you’re 65 is dramatic and exponential.

Consider a Crockpot. Have you ever gone to church on a beautiful Sunday morning, come back in the afternoon, and decided, “I want a nice roast and potatoes for dinner” then set the crock pot at 5pm for dinner at 6?

If you have, you should seriously reconsider your dining experiences. Waiting until “Later” to save if you’re not in school, is the same as setting the crock pot a-cookin’ after church, instead of the morning of, so it can simmer and soak in goodness all day.

Investing: I’m sold, but WHERE?

This is where everyone says, “Jacob, you’ve sold me on this. Where do I put my money?”

Betterment is an amazing place to invest your money. Acorns isn’t half bad either. Wealthfront is a newer online investment site that utilizes algorithms, often called a robo-advisor(LINK TO 7 TYPES OF INVESTMENT ADVISORS), and your risk to make your money grow too, and its free for portfolios smaller than $15,000. It’s also not hard to go directly through a major company like Schwab, Fidelity, or VanGuard.

Part of your portfolio (your money for retirement), will be in your 401(k) at work. You’d better be matching that sucker to 100% of the matching contribution, because if not, that’s free money you’re missing out on. Make sure the limit of up to $5,500 a year beyond your 401(k) is going into an IRA with whatever advisor you’re using, because that can create some tax savings. Then, any above that can go into either a personal brokerage account through your investing institution or other more complex retirement accounts you can work with a professional on. (The secret is to get started).

Third: Diversify

Here is where I’m going to teach you some amazing truths about investing. If you’re invested in 10 different things and they are all going up by exactly 6% a year. There is some serious issues. That means all of your investments are perfectly correlated, which means if they drop one year by 40% (cough 2008) then they are all dropping. A good portfolio has uncorrelated assets. Meaning that at least part of the time, when one is going up, another will be going down. Some parts of the global economy will be having rough weeks or days or years, while others have awesome times, then 5 years down the road it’ll switch. Because the market is unpredictable, meaning that it’s impossible to know exactly what will happen, a diversified portfolio that has a little bit of money in all types of markets is proven to generally outperform any one specific investment type.

Three Analogies: Baseball, Salsa, and Cereal

Imagine that stocks are like baseball players. If one stock bats at .365 and another bats at .127 but only hits home runs, you want a little bit on both players! According to portfolio theory, the more batters you have, the higher your average becomes, while reducing variance. Stocks bat at about .700 and bonds bat at about .960. Enough to be in the hall of fame for any baseball player in the history of ever.

So, what does this mean? It means you should put money in stocks, put some in bonds, put some in Mutual Funds that use active aggressive algorithms and research to try to find opportune moments to buy and sell stocks to make you money, use some passive ETFS that just automatically balance 50 or 100 stocks in a particular category like large healthcare companies, or medium growth companies that pay dividends.

Imagine this investing like making Salsa. If you invest in the S&P 500, sure, you have some diversity, but you just purchased 500 different types of tomatoes. Of course, you can’t invest in the S&P500 but you can invest in ETFs and mutual funds that invest in it. So, if you invest in some large cap stocks for your tomatoes, then you buy some bonds for your onions, purchase some commodities for your cilantro, and so on and so forth, you’re going to be making a good salsa.

In fact, experts have shown that the recipe (allocation) of your salsa (investments) accounts for 94% of the deliciousness (returns) in them. Meanwhile, the ingredients (actual funds and investments) only account for less than 6% of the taste (return). Using a great recipe for salsa makes better salsa then just getting good ingredients, but having an awful recipe. If you have perfect ingredients, but the wrong recipe? You’re not even making salsa any more.

Many people have told me, “I’m invested in a mutual fund, I’m diversified”, or “I’m invested in an ETF” or “Target-date Fund”. Well, yes, this is diversity, but it’s the 200 types of tomatoes diversity. Think about Cereal boxes. Do you remember those funny boxes that had 8 miniature boxes inside of them? This is how you should think about a mutual fund. Each box of cereal is a specific investment, the Mutual Fund, or ETF, or Target Date Fund, is the whole package. It choose those 8 investments and said, “here’s a good deal”. If you choose a Mutual Fund for 12 different asset classes: Large Stock, Small Stock, Mid stock, non-us stock, emerging markets, real estate, resources, commodities, US bonds, TIPS, non-US bonds, and Cash, you’d have a pretty awesome set of cereals.

You will have created a beautiful portfolio, a fund of funds of funds. That is a recipe for success, that now only needs your savings added.

 

Remember your basic financial plan.

  • Save (now)
  • Invest (all of it above emergency funds and short term purchase plans)
  • Diversify (so 2008 doesn’t get you)
  • Retire (at 45, okay maybe not, but still retire)

You’ll thank yourself later (about the retiring side of it, and the stressful side of it, and the peaceful side of it)

 

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Auto Insurance: What’s Inside The Paperwork?

Your Auto Insurance has six main parts

Part A: Liability Coverage

Part B: Medical Payments Coverage

Part C: Uninsured Motorists Coverage

Part D: Coverage for Damage to Your Auto

Part E: Duties after an Accident or Loss

Part F: General Provisions

Woah, what? Let’s break it down.

Part A: Liability

This is how much the Insurer will pay out for any damage you as the insured become legally responsible for. Most of these have Split Limits, and Example of which would be 250/500/100

These three numbers show how much the insurance company pay for what damages.

The first number is bodily injury coverage per person maximum, the second is maximum amount coverage for bodily injuries per accident and the third is property damage.

For 250/500/100 that means $250,000 in coverage per person, up to $500,000 total per accident, and up to $100,000 in property damage; Remember that these are only for amounts you as the insured are liable for.

If you are on the policy, you are insured, plus your family, plus anyone you legally allow to use the vehicle. This is why it’s often beneficial to consider a temporary insurance policy on a vehicle for another to use it, so your insurance isn’t liable if they get in an accident.

Part B: Medical

Within 3 years of an accident, insurance companies promise to cover medical and funeral expenses caused by the accident. Surgery, Dental, X-Rays, etc, can be covered here. There are limits, some place a limit of $1000 per person, others could be $10,000. This coverage is specifically for the insured person being injured. This wouldn’t be like Coverage A, where the company is paying for your damages to others, this is for damage to you and your family.

This is regardless of fault, so even if you are found at fault, you will still get this coverage on your policy.

Part C: Uninsured/Underinsured Motorists Coverage

If you get hit by another vehicle, and it’s found to be their fault then you’re fine, right? What if they have no coverage. Remember that Coverage A only is your fault to others. The point of Uninsured Motorist Coverage is that if another person hits you without insurance, your insurance company will pay for your coverage. In some states, the percentage of drivers that are uninsured can be as high as 20! (Insurance Research Council, Recession Marked by Bump in Uninsured Motorists, News Release, April 21, 2011)

The maximum amount for these is frequently the same as your Part A coverage , but your policy can say differently.

Part D: Damages to your Auto

This is the part of your policy that says “Collision” and/or “Comprehensive” coverage.

Collision: This is when your car overturns on icy roads, or you find your car fender dented after a grocery trip. These are paid no matter who is at fault.

Comprehensive: Seperated from collision because some don’t want to pay for collision insurance, a comprehensive need is when there is a fire, theft, riot, or windstorm. Additionally this covers damages for riots, for a bird or animal breaking your car, flood and hail, or an earthquake damaging your vehicle.

Part E: Your Duties

This part in your insurance policy explains what you are required to do to obtain your coverages. There are some things you should do, like call an ambulance, the police, and get the other drivers information, but requirements from insurance companies may include: Not admitting fault, Notify your insurance company within a certain time limit, cooperating with their investigation, sending in legal paperwork in a timely manner, taking a physical exam, authorizing the insurer to obtain your medical records, and taking reasonable actions to protect your vehicle from further harm after the initial accident.

Basically, you need to cooperate with your insurance, or they aren’t required to cover your losses. That’s why a lot of online companies are harder to get coverage from, because they aren’t your personal advocate that you know or have met. It’s always nice to get auto insurance from someone you’re able to contact freely, and whom you honestly feel you can trust.

Part F: General Provisions

Provisions are details about your policy that include the ways you and your insurer can end your policy and also endorsements for your policy.

A policy has 4 ways of being ended.

  • Cancellation: simply return your policy and give a written notice that you’re done, the insurer can cancel a policy too within 60 days of giving it and giving you a 20 day notice. After 60 days they can cancel your policy if you haven’t paid, have had your license suspended or revoked, or you were deceitful in any way on your application.
  • Nonrenewal: at the end of your coverage period, the insurer can decide to not renew your policy.
  • Automatic: at the end of each insurance period, if the insurer renews, but you don’t accept the renewal, then your policy will automatically end.
  • State rules: many individual states have laws that change up the first 3, or extend time periods for renewals. It’s important to check your state laws for specific auto policy termination rules.

Endorsements are modifications to your policy. The most common being a motorcycle endorsement. Many companies adjust how much physical coverage they will have, or will have huge premiums they will only reduce when you remove or change certain coverages on a motorcycle.

To get your information simply call your auto insurer and request your coverage information. Tell them you want to see all the endorsements, riders, and Parts A-F of your insurance, and not just the fact sheet, though that can be simple and helpful too.