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Rental Property Update

As I’ve mentioned before, we are fixing up the house we inherited in April to rent it out.

We already have renters lined up starting in February. My wife has known the couple for several years, so we’re not worried about strangers wrecking the place. We will be doing a lease, because skipping that is dumb, even if you know the tenants. They will be paying $1200 per month, plus electric, water, and garbage. We’ll be covering gas and–of course–property taxes. We’re paying the gas bill because we’re going to have most of the appliances on the repair plan through the gas company so we won’t have to worry about appliances breaking.

Those expenses will run about $325 per month, leaving $875 as profit. We’ll probably save another $200 of that to cover future vacancies and for property issues that I’m not foreseeing, leaving $675 to save and invest.

Over the summer, we have spent quite a bit of money fixing the place up.

Dumpsters x3, $1200. Did I mention my mother-in-law was a hoarder?
New boiler, $4500.
Electrical repair, including running power to the garage, $1400.
Plumbing & gas repair, $900.
New stove & refrigerator, $1000.
Landscaping, $2500.
Other repairs, $8000.

So far, we have spent about $19,500 fixing this place up. There is still a bit of work left to do.

Are we done?

Crap, no.

We have two rooms of stuff that we need to research and price individually before we sell. This includes some old cameras, typewriters, and collectibles.
We need to buff and polish the hardwood floors that are in surprisingly good shape.
We have to scrub the entire house. Cobwebs and mouse crap show up in interesting places when 90% of your house is buried for most of 30 years.
We have to clean the last of the debris out of the basement. This, and some other stuff, will mean yet another dumpster.
We have to paint walls and ceilings all over the house and the basement floor.

The to-do list will come with a price tag somewhere between $1000 and $1500.

That comes out to about $21,000 spent to make $675 per month. In just 3 years, the property will be turning a profit, then it becomes an actual profit center for us, hopefully forever. The expenses are all tax deductible, but only as depreciation, which means the cost has to get deducted a bit at a time over the course of the next 5 to 30 years.

On the other hand, we could probably sell the place for $200,000. It’s going to take 25 years of renting to make up that difference.

Winning the Mortgage Game

Finance

There’s a game that’s often mistakenly called “The American Dream”. This game is expensive to play and fraught with risk. It single-handedly ties up more resources for most people than anything else they ever do.

Conway's Game of Life — Image via Wikipedia

The game is called Home Ownership.

At some point, most people consider buying a house. On the traditional, idealized life-path, this step comes somewhere between marriage and kids. That’s usually the easiest way to organize it. If you have kids first, you’re much less likely to buy a home. This is a game with handicaps.

Once you get to the point where you are emotionally ready to invest in the 30-year commitment that is a house, your first impulse tends to be to rush to the bank to find out how much money you can borrow.

That’s a mistake. If you take as much as the bank will qualify you for, you’re most likely to overextend yourself and end up losing your house. That’s the quick way to lose the home ownership game.

The best thing you could do is figure out how much you can afford before you visit a bank. Conventional wisdom says that your mortgage payment should be no more than 28% of your gross income, but that’s absurd. Who builds their budget on their gross income? I like 28%, but only of your net income. To make the numbers easier to remember, I’d round it to 30%. If you take home $3000 per month, your mortgage payment should be no more than $900 per month.

From there, it pretty easy to figure out how much house you can afford. Using this e mortgage calculator, you’d be able to afford a mortgage of $175,000 if we assume an interest rate of 4.5%. Throughout most of the United States, that will buy you a reasonably sized home, though certainly nothing ostentatious. Clydesdale Bank also has an excellent loan calculator.

Some people like to start out with an interest-only loan. That same emortgage calculator shows that an income of $3000 per month would be able to afford a $240,000 with almost the same payment. That seems like a good plan, but eventually, you’ll have to pay more than just the interest. Taking out a loan that will one day be more than you can afford on the assumption that you’ll be making more money by then is not sound financial planning. That’s the same logic that helped me bury myself in debt.

When you buy a house, make sure to base your payments and your mortgage on what you can realistically afford. Anything else, and you’ll only end up poorer and less happy than when you started.

Why I chose a prepaid credit card

Finance

This is a guest post.

You can’t get credit without a credit card, and you can’t get a credit card without good credit. This is a dilemma that many people find themselves facing, whether they are trying to re-establish their credit or build credit for the first time. In fact, this is the dilemma that I found myself in. My solution was to get a prepaid card, and here’s why.

The Real Deal with Prepaid

Prepaid credit cards have earned a mixed reputation over the years. While it’s true that they usually have more fees than a regular credit card, they also offer a financial solution for people who don’t have good credit. And you should also keep in mind that they don’t charge interest because the cash that you are using is yours to begin with. The important thing to remember about prepaid cards is that they are a means to an end; once you rebuild your credit, you’ll find it much easier to apply for a card with better rates and fewer fees.

In addition, prepaid cards offer several advantages. The most important one for me was the convenience of having a card that I could use to make purchases. Prepaid cards look and work exactly like regular credit cards (you don’t have to enter a personal identification number to use them), so the only one who knows it is prepaid is me. And while I use cash for everyday purchases, there’s no avoiding the need for a card when you have to shop online or pay for gasoline at the pump, for example. Most digital merchants only accept payments from cards linked to large financial brands like Mastercard and Visa, and my card gives me a way to buy what I need from whoever has it in stock. In addition, my prepaid card offers me a way to keep track of all of my purchases electronically, which is helpful since I am trying to keep a closer eye on my budget.

Prepaid cards also offer security. Cash can easily be lost or stolen, but if you lose a prepaid card, you can easily get a replacement. More importantly, your balance is protected by a replacement guarantee from your bank, which comes in handy if you ever have to dispute fraudulent charges.

Perhaps the most convenient factor of a prepaid card, though, is how easy it is to get one. You don’t have to have a bank account in your name to receive a prepaid card. However, if you do have an account, you can easily link it to your prepaid card.

Changing my spending habits and getting out of debt hasn’t been easy for me, but one way for me to show creditors that I am getting better at managing finances is to build my credit with my prepaid card. It’s also a way for me to eventually be able to make big purchases that are necessary, such as a car, and hopefully one day, a home. Prepaid isn’t for everyone, but if you find yourself considering this option, it’s worth a second look.

The $10 College Fund

Finance, Parenting

I recently started a college fund for my kids. With my oldest getting ready to turn 10, this was a late start. However, when he was born, we were in no position to set aside anything extra.

At least, we didn’t realize we were at the time.

When our oldest son was born, I was 20 years old. I was working in a factory and hadn’t gone to college myself, yet. That’s a situation that makes it hard to justify a college fund. Financial planning and responsibility was to come at a later date.

So, how much do we have in this shiny new college fund? [Read more…] about The $10 College Fund

Evil Interest

Finance

Everybody with a savings account or almost any form of debt has at least a passing familiarity with interest. How many of you actually know what it is, or even how much you are actually paying?

First, some definitions.

Principal is the term used for the amount of money you have borrowed.

Interest is the rent you pay to have that money. Interest is money-rent, expressed as a percentage of the principal. If you borrow $100 at 10%, you pay approximately $10 in interest. I say “approximately” because it’s just not that simple.

There are two kinds of interest: simple and compound.

Simple interest is called that because it is just that: simple. It’s easy to understand and it’s what most people mistakenly assume they are paying. With simple interest, the interest rate is only applied to the principal, never to the accumulated, or accrued, interest.

For example, if you have borrowed $100 at 10% annual interest, this is what your balance will look like:

At the time of borrowing the money, you owe $100.
After 1 year, you owe 10% of the $100, in addition to the original $100: $110.
After 2 years, you owe 10% of the $100, in addition to the original $100 and year one’s interest: $120.
After 10 years, you will owe a total of $200.

That’s simple.

On the other hand, in addition to five more fingers, you have compound interest. Compound interest complicates things considerably. With compound interest, interest is applied to the entire balance of what you owe; both the principal and the accrued interest are included in the calculation.

For example, with $100 at 10% compounded annually:

Year 1: You will owe $100 + 10% of the original $100, or $110
Year 2: You will owe $110 + 10% of the $110, or $121
Year 3: You will owe $121 + 10% of the $110, or $133.10
Year 4: You will owe $131.10 + 10% of the $110, or $144.41
Year 5: You will owe $144.41 + 10% of the $110, or $158.85
Year 6: You will owe $158.85+ 10% of the $110, or $174.74
Year 7: You will owe $174.74 + 10% of the $110, or $192.21
Year 8: You will owe $192.21 + 10% of the $110, or $211.43
Year 9: You will owe $211.43 + 10% of the $110, or $232.57
Year 10: You will owe $232.57 + 10% of the $110, or $255.83

That is a total of $155.83 in interest paid over 10 years, or $15.58 per year, for an effective interest rate of 15.583%.

To throw another twist into the mix, interest is rarely compounded annually. Monthly, or even daily, is much more common. With monthly compounded interest, the annual rate, or APR, is divided by 12 and recalculated every month.

For example, using the same $100 at 10% APR, compounded monthly:

Since the interest rate is compounded monthly, we will be using the monthly periodic rate, which is 10% / 12, or .83%

Month 1: $100 + .83% of $100 = $100.83
Month 2: $100.83 + .83% = $101.67
Month 3: $101.67 + .83% = $102.51
Month 4: $102.51 + .83% = $103.36
Month 5: $103.36 + .83% = $104.22
Month 6: $104.22 + .83% = $105.08
Month 7: $105.08 + .83% = $105.95
Month 8: $105.95 + .83% = $106.83
Month 9: $106.83 + .83% = $107.72
Month 10: $107.72 + .83% = $108.61
Month 11: $108.61 + .83% = $109.51
Month 12: $109.51 + .83% = $110.42

That’s $0.42 more interest paid the first year, and that number will continue to climb each year the interest is compounded.

It gets worse if interest is compounded daily, like most credit cards. If you see “Daily Periodic Rate” anywhere in your agreement, you are getting compounded daily. This same loan, compounded daily instead of monthly will yield $110.51 owed the first year. That $0.51 might not seem like much, but imagine it on a $10,000 credit card, or a $100,000 house! And that’s just the first year. Every year after, the disparity gets bigger.

Edit: The formula for calculating compounding interest is Principal x (1 + rate as a decimal / compounding term)^{compounding term}. So, for $100 at 10% compounded monthly, the formula is 100 x (1 + 0.1 / 12)¹²

That’s the downside to compounding interest. There is an upside, if you have investments or interest-bearing accounts. If that’s the case, compounding interest is working in your favor.

If you save $100 per week, and manage to get a 10% return on your investment, you will have $331,911 after 20 years(with $104,000 contributed) and $2,784,424 after 40(with $208,000 contributed). That mean you will have tripled your money in 20 years, or vingtupled* it in 40 years.

That’s how you get rich. $100 per week for the rest of your life will leave you with a comfortable retirement, without missing out on life now.

—

* Yes, it’s a real word**. It means a twenty-fold increase.

** No, I did not know that yesterday.

Best of Money Carnival #68

Finance

Today, it is my privilege to host the 68th Best of Money Carnival. I’ve hosted a few carnivals over the last 10 months, but winnowing the choices from 60 to 10 is quite possibly the most difficult I’ve had to do. There were lots of excellent posts this week. Next time, I’ll have to make my job easier by soliciting bribes. I am always on the lookout for a new income stream.

Without further ado, here is the best of the best:

10. Mike Piper presents Do You Have an Investment Backup Plan? posted at Oblivious Investor. What would you do if your investment portfolio suddenly tanks?

9. Tim Chen presents Calm Down, the Poor Are Not Paying for the Rewards of the Rich posted at NerdWallet Blog – Credit Card Watch. I always get a little bit irritated when people accuse the “rich” of only being rich at the expense of the poor. After all, the richest 20% of the U.S. includes household incomes of just $90,000. If you think that’s a lot, remember that $25,000 still puts you in the richest 10% wordwide.

8. FMF presents How to Pick a Great Mutual Fund posted at Free Money Finance. What’s more important, cost or performance?

7. Madison DuPaix presents Marriage Tax Penalty Returns in 2011 posted at My Dollar Plan. This is another example of the flaws in the “tax the rich” policies. When we lose the “tax cuts on the rich”, almost everyone will pay more taxes.

6. Silicon Valley Blogger presents How College Students Can Save Money posted at The Digerati Life. If I knew then what I know now….

5. Kristina presents A DINK Sandwich posted at DINKS Finance. Life gets easier when you can find a simple yet reliable set of rules to cover most situations.

4. freefrombroke presents It’s Still A Good Idea To Buy A House In This Economy posted at Free From Broke. I was lucky enough to buy my house shortly before the bubble grew. If we would have waited, I’d still be renting.

3. PT presents Credit Card Default: 7 Things You Should Know posted at PT Money. If you are working your way into debt, it’s good to know the what’s in store for you.

2. Joe Plemon presents Three New Car Purchases to Steer Away From posted at Personal Finance By The Book. I’m a few months away from my last car payment. Ever. These are more reasons to avoid a new car.

And finally, the best of the best of the best, sir:

1. Craig Ford presents Make Money Blogging | A Guide for Beginners on How to Make Money Online posted at Money Help For Christians. As I was compiling this list, I kept getting distracted here. I’d reread a section, follow the links, and find I had lost an hour. Read this post.

If you want to be included in the next Best of Money Carnival, don’t forget to submit your best post and follow the guidelines. Next week, it will be hosted by Green Panda Treehouse.

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