Work Longer Hours And Get Less Pay – Pathway To Indentured Servitude

Can you work longer hours for the same money? Would you like to give yourself a pay cut? Can you sign up to become an indentured servant? Would you like to be an investor in inferior products? All these things can be done but, it takes planning and goal setting.  This post is not for everyone, not everyone has what it takes to be perpetually poor. If this is your goal keep reading….

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Beating the Amortization Schedule

Buying a house is exciting. Most people get mortgage to purchase a house. For most people buying a house is the most expensive purchase in their lives. Most people don’t understand what amortization is. This begs to ask the question “If the biggest factor of the biggest expense is not understood, how can you reduce that expense?”

If you play a board game you need to know the rules to be able to play and you need to know what is required to win before you can develop a strategy. When purchasing a home via financing wouldn’t it be in the in your best interest to understand the rules and apply it towards your goal.

Basic Amortization

The word amortize just means periodic. So when you talk about a amortized loan you talk about a loan that has equal periodic payments. (A lump sum is spread out into equal payments. The size of the payments is determined by the time of the life of the loan.) At a zero percent interest the principal is just divided by the periodic payments over the length of the loan. The example below is a $100,000.00 loan with yearly payments over six years and over three years. Payment=Principal/Time is the basic formula. Time and payment are the inverse of each other. If you want to pay off the loan earlier you have to make bigger payments. If you want to have smaller payments you have to increase the time.

PeriodicPayments

Amortization and Interest

Most loans incorporate interest as a form of profit for the mortgage lender. (The following is a basic concept of how a payment is determined; the math is a little more complex and beyond the scope of the article.)

In a monthly scheduled payment loan this is determined by the loan principal times the interest rate divided by 12. This is the monthly interest payment. The remainder of the payment is put towards the principal. (an interest only loan would just be the interest and no principal; you are then doing a lease from the mortgage company.)

Interest = Principal X (Interest Rate / 12)

Payment = (Interest + Principal Payment)

Interest is determined by the total principal so the lower the total principal is the lower the interest would be. It is a direct relation as below:

PrincipalInterestRelation

Amortization Schedule

When the payments are amortized to equal periodic payments the first payments are weighed towards the maximum interest payments because the loan is at the maximum principal amount. Most mortgages are 30 year mortgages so with this context lets look at a amortization schedule’s first payment to compared with the last payment. ( $100,000 loan at 5.25% for 30 years )

The payments are equal throughout the loan but the breakdown is different from the first payment to the last.

1stLast

On the first payment the interest is 3.8 times the size of the principal payment. On the last payment the principal is 275 times the interest. So it only makes sense if you are going to pay more towards the principal it is more cost effective to pay earlier than later. (Time really is money here!)

Here is a look at the first year’s breakdown on the amortization schedule.

1st Year

The real cost for the first year is $5,215 for the loan. This is a effective interest rate of 370% . (I don’t know any stock market investment I could realize that kind of return.) What if you were to make one extra principal payment per month?

Extra Principal Payments

1Extra

The ability to pay an extra principal payment per month is easier in the beginning as the payment increases as you go. The total extra principal payments made was $1,450 which saved $5,176 in interest payments.

This tactic had the added benefit of decreasing the loan term by one year. Until the whole loan is payed off there is a risk of foreclosure. The risk of foreclosure has been decreased by one year.

Reducing Risk

The above example is just an example of one extra principal payment per month. This was just an illustration to show the effect on extra payments on the bottom line. This concept can be applied more aggressively. Two or more principal payments per month increases the savings and decreases the time under the thumb of the lender.

The more of the real estate that is owned by you rather than the lender puts your position of power. The bigger piece of the real estate pie you own for the property the less of a risk you have if the value of the real estate decreases.

Suppose there is a downturn in the economy where you live. You lose your job and the value of your house has decreased. If you have paid extra towards the principal of the house you are at less of a risk of being up side down. If there is a job outside your local area and you are up side down you have made a move more difficult or impossible.

Exploiting Amortization

There are other ways to exploit the amortization schedule financial structure.

  • Bi-weekly or weekly payments are a way to accelerate the payment of the principal. This in turn decreases the interest paid.
  • Taking lump sums and applying towards principal.

Tax return

Work bonus

Inheritance

  • Applying small periodic gains. Get a raise, save on cable, get a side job, etc and apply the gain towards the principal and increase the value of that gain.

Short Term Loan Shifting

This is the idea that if you could take a short term loan and pay the mortgage principal down. This works with only with positive cash flow (spending less then you make) The main gain is the realized cost of the short term loan is less than the cost of the amortized interest. There are better people at explaining this than me but, using an equity line of credit is the vehicle to make this happen.

See: TruthinEquity.com  for this method explained.

The bottom line this is a time is money equation. An amortization schedule understanding can help you save both time and money.

 

 

 

 

 

 

The Power Of Choice

Lately it seems to me there is a flood of people who I bump into who don’t realize the relation of their choices to the results of those choices. They ignore the basic concept for every action there is a reaction. You hit one domino and the rest fall as well.

I have a goal to have my money work for me rather than me working for money. The goal is a relatively simple math problem have your money create enough money to cover expenses.

The concept is simple but, getting the goal accomplished takes some preparation, perspiration, and inspiration . The reason I bring up my goal is it reflects back onto the decisions I make today.

One of the most basic financial choices I make everyday is whether or not I purchase something. Based upon that choice I am building up or taking away from momentum to or from my goal.

When I purchase something I always bounce through the following list in my mind:

  1. Is this something I need? or can I do without?
  2. Can the item purchase be delayed for a later time?
  3. Do I have the ability to buy cash (not via credit, incurring debt)

This list helps me keep my direction and focused when making purchases. I challenge the reader to make your own list based upon your own goals. This will help you guide your choices towards what you want to accomplish.

What are the dominoes that can fall if you buy a car without having the cash to buy it?

  • You have to finance the car purchase price which also includes the tax and related fees–>
    • The ability to be up-sold on more expensive features is easier–>
      • The amount of hours you have to work is increased due to the increased cost–>
        • The amount of free time is decreased due to having to work more to pay for the increased price
  • The risk of having a car with payments–>
    • Ability to sell the car is decreased; you don’t own the title
    • If you lose your job the ability to make car payments has decreased–>
      • The chances of a car getting repossessed is increased
  • The opportunity to save future earnings has decreased–>
    • The ability to invest in the future has decreased–>
      • The cash needed to take part in future deals has decreased

This is just an example of one decision and you can see all the ripples that can happen. Everyone has made some decisions they could of made better if they just asked themselves what are the most likely outcomes of these decisions.

When you have the next decision to make ask yourself some things to help you get to the best outcome.

  • Does this help me accomplish my long term goals?
  • What are the risks? (How can I minimize those risks?)

Write down on paper what dominoes could fall if you make your decision one way then the alternative way. Find the path that makes the most sense.

Apply this to some of your financial challenges. See how you move closer to your goals rather then being a part a financial goal that someone else planned.

 

 

 

Low Hanging Fruit – Credit Cards

In my previous article I went over some low hanging fruit items including ask for a lower credit card rate on your current card. That is an OK kind of tip but, it was thin. So in order to thicken up the help on this I wanted to break this down a little deeper. If you know a little bit about the credit card company and how they make money you can be better prepared when you ask for a new rate.

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Give Yourself A Raise

Would you say yes to a raise if your boss offered you a raise?  Everyone I’ve spoken with throughout my life would say yes if they were asked. Of course there will be some people who will say no but, I have not found them. Why would anyone want a raise?  Speaking for myself a raise would give me more choices. Depending on the amount of increased cash flow would determine choices that can be made.

You are the boss of you; so ask yourself “Do you want a raise?”  If you can answer yes keep reading. A raise is basically money that you get with little or no lifestyle change. A raise gives you more free cash if you keep your spending the same. A raise is thought of as an increase of income. What if you decrease your spending with no increase of income? This has the same effect with more free cash.

I have heard people say then “I have to live like a monk and cut out all the fun stuff when I cut my spending.” The only question that should be asked then is How do I decrease my spending without changing my lifestyle? If you can answer this question then you can give yourself a raise.

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Money – The Time Tool

The saying “Time is Money” is in my eyes not correct. It implies money is more valuable than time. If this is reversed “Money Is Time” this would imply to reverse. Time is finite on a personal level. You can’t get more time but, you can leverage the time you have with money to make the time you have more valuable.

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