Manage a Major Purchase: Conquer with these Considerations
What is considered a “major purchase” to one person, may be insignificant to another. Take the sudden uncooperation of any number of our first world appliances. Having a specialized technician tend to the lack of hot water in your house may be worth the call. Having a dryer that does not perform its sole purpose may justify simply spending the $600+ to purchase a new one and being done with it. For many of you reading, you may have the cash on hand or the emergency fund set aside for fun times like these. Even the bare bones emergency fund of $1,000-$2,000 for those just starting out will be able to cover these expenses. No harm done. I begin the blog with this example because an unbelievable number of households, even those making greater than $250,000 annually, could not cover this expense.
Vehicles
Let’s take it up a notch. Most would consider vehicles a major purchase. Vehicles are a depreciating asset meaning they have value, but that value doesn’t stick around. I was going to be all professional like and cite some statistics for depreciation, but they are all over the board. Here I go anyway… Carsdirect.com and Ramsey Solutions site 15-20% and 9-11% depreciation respectively as a car drives off the lot. A few sites are quoting that 11% mark, so I’ll go with that. Nerdwallet.com says to expect a 20-30% drop in value over the first year, which is consistent with other data I am seeing. The 5-year mark seems to be where things start to level off. The vehicle is expected to be worth approximately 40% of the original price making for an annual depreciation of 15%. As a side note, there are depreciation rules the 1099 community likely follows. The IRS has a couple ways of depreciating vehicles, among other things, but we are sticking to the personal finance side in this blog post.
Vehicles are drastically different when viewed through high- and low-resolution lenses. Under low resolution, a vehicle is your teleportation device. It is how to magically arrive at the hospital after leaving your house. Way better than walking, especially in the winter. Any number of vehicles could accomplish the same task. A car, truck, SUV, or motorcycle would all get you there in approximately the same amount of time. A Ford Focus aged 20 years with 200,000 miles and a new S class would have you there at the same time. Cost is drastically different; teleportation is the same.
The high resolution is where things differ. That finely aged Ford Focus may be a bit rough around the edges. Stain covered cloth seats of the daily driver. Salted Midwestern roads rusting the wheel wells. Door dings accumulating over time. The wheel creeks a bit as you turn into the hospital parking lot. But for $1,500, what more could one ask for? Add two zeros to that price tag and you find yourself viewing the road over a luxurious steering wheel bearing a three-pointed star emblem that embodies everything Mercedes. The black seats constructed of the finest Nappa leather complete the sleek look of the latest S class sedan. The entirety of the instruments and navigation displayed by the latest touchscreen LED technology. Flawlessly combining performance and comfort. Imagine that voiced by James Earl Jones and you have yourself a poorly written commercial made exponentially better by the voiceover.
I bring up the idea of high and low resolution to provide a consideration. What are you going for? Do you need something to get you to work and the kids to soccer practice? Do you want something luxurious? Are you putting Mr. and Mrs. Jones in their rightful place? I don’t care what your intentions might be, but I would buy the vehicles the same way.
A Good Example
I would recommend cash. Or if they give you some kind of discount for taking out financing, great. Just make sure you can pay the balance off early to minimize the fees, which is where the dealership acts as a bank to make bank. JM own(ed) a roofing company. When needed, he purchased company vehicles around November/December when the dealerships are trying to move inventory to stock up on the new model year. The end-of-the-year-discount is typically 20-25% for taking one of the few they had left. Might not be the exact truck or extras package you want, but it works for a company truck. On the last purchase, JM financed the vehicle with a 3-month minimum to save something like $5,000. He paid $800 in interest over the 3 months, then paid off the balance. Up $4,200. Not bad. Don’t forget that the JM’s company can depreciate the vehicle too. Solid way to buy vehicles if you need one. Neither JM, nor I, recommend buying vehicles just to have a business deduction – speaking to you 1099 crowd. If you have a vendetta against the IRS and do it out of principle, I won’t hold that against you.
My Vehicle Story
The take home about vehicles is to decide what you want and pay cash. Find out how much they will cost. My wife is looking at a 4Runner. She is set on a few particulars of the vehicle, which limits prospective candidates in the used market, which is where I would like to end up. 50,000 miles and a couple years out of the factory will place the bulk of depreciation in the past. I’m expecting a $50,000 hit on this one. I asked her if it was worth working XYZ number of shifts. That is how I think of it. Net income using relatable CRNA figures. If you make say… $1,200 per day, you might net $800-900. So, would you work 60 extra shifts for FREE…as a trade… to drive a 4Runner?
Alternately, would you decrease discretionary spending to offset the extra hours worked? Our monthly budget typically has $2,000 for discretionary spending. We could cut this down a bit. Over a year, this may only add $5,000 towards the 4Runner. We can both pick up work, but the easiest route is for me is to pick up locum CRNA work and take a ton of call. Great option, I know. Look, I don’t go into debt for vehicles or toys. It is important to her, so it is important to me. We are treating this like a budget item. The investment accounts get paid first. ALWAYS. Then the mortgage, utilities, and food. Now we get to the 4Runner allocation. It is important to my wife that she drives a reliable vehicle soon. Currently, we both drive model year 2010 vehicles. They are fine low-resolution vehicles that only cost a few hundred dollars annually to maintain. A bit of lifestyle creep here, but doable.
A Bold Approach from Rich Dad, Poor Dad
Robert Kiyosaki bought a Porsche before he had the money to do so. He then was motivated to buy cash flowing properties that covered the monthly payment. This worked for him, but I can’t say I would recommend it. His approach is to ONE: maintain the principal balance of all investments. TWO: pay the interest on the car note. THREE: find assets that cashflow to pay your bills. Mathematically, that sounds great. It is not easy to secure millions of dollars in real estate without putting any money down. After all, most rentals clear $100-300 monthly per door. A monthly Porsche payment could easily be $2,500-$3,000+. This cashflow only manifests after securing financing, improving properties, and refinancing. I have looked into it and it feels like a second job with potential downside. I digress.
Leasing
Leasing is another option I hear about. There is a very narrow window when leasing is better than buying, but it’s tough. Generally, leasing is like renting, but with an interest rate of 5-15% depending on your credit. There are also restrictions as to how you can use the vehicle such as annual milage. If you go over, the fees are huge. Again, the 1099 crew can make this work, but in the long run, you are typically better off buying a vehicle and driving it for a few years. If vehicles are important to you, then make it a priority. Nothing wrong with that. I lean towards low-resolution but consider reliability a strong must.
Housing
The news media is constantly saying how homes are simply out of reach for Millennials. Gen Z is a completely different story, and I kind of like what they are doing. The era of newly constructed 900 sq. ft. homes is behind us (at least for now). Millennials are looking to live in homes similar to what they grew up in. They want to start out in 2,000 sq. ft. homes with 3 beds, 2 baths, and a 2-stall garage. It took their parents two decades of work to move into that kind of house. Anyway, jumping into these kinds of homes is difficult, as evidenced by the many statistics brought forth by the news media. Which I find comical because the housing programs available today only require a 5% down payment – or even 3.5% in some instances.
I don’t know anyone near my age, including myself, who put 20% down. I have a couple pieces about home buying, so I shall step down from the soap box and provide a link if you would care to read more. It’s more important to maintain a good ratio during the home selection process. It isn’t a “forever home,” but rather shelter. Mind how much of your income goes towards housing and you will be fine.
The major purchase at hand is the down payment. Houses these days are averaging $400,000 annually. A 5% down payment is $20,000 plus closing costs, bringing to total shy of $30,000. You will need additional capital for repairs, renovations, and/or furnishings. The total is now $40,000. Ok, so how do we budget for $40,000 -- which I would stand to argue most of us would consider to be a substantial amount. Treat it like a budget item. Maybe say $2,000 monthly towards investments and $2,000 towards the down payment. Then pay rent, utilities, food, ect…Keep discretionary reasonable. Maybe you want to get there in 12 months. Take $40,000 / 12 to get $3,300 per month leaving $700 towards investments. Don’t forego the employer matches for these major purchases, but if you want to make this house a priority, then you do you. Make it happen. Again, I question houses as an investment – too many factors to discuss here, so I’ll leave it as a “possible investment.” Regardless, opportunity cost must be considered.
Opportunity Cost aka the Buzzkill
This applies to everything. Ignore it as you will because it quite honestly hurts emotionally to think about the true cost of living life and purchasing the most basic of luxuries. Take CRNA school. 3 years and $100,000 in tuition. Ok, I was making $80,000+ as an RN. That’s $240,000 in missed wages. I had an employer match and invested on top of that. Not 75% like I am now, but more than the average bear. If school wasn’t the play, I would have decided on travel nursing, so $240,000 over 3 years is unrealistic. More like $125,000+ annually or $375,000 over 3 years. Throw in tuition and we are up to $475K. During school, I rented places when I had enrichment rotations. I had 5 enrichment sites. At one point, I was paying rent in 4 locations at once, so in some aspects, my cost of living went up. Conservatively, I placed the total opportunity cost of CRNA school at $550,000 and 3 years.
Therefore, the financial aspect of the job search is so important. Travel nurses continue to make six figures. They made six-figures pre COVID. Anyway, I only begin to pay back my opportunity cost with income over $125,000. And don’t forget the missed investments and compounding interest over that time. That’s probably only a couple thousand annually, but still. At the national average CRNA income of $193,000, that’s a gross gain of $68,000 annually. An 8-year breakeven point after graduation. That’s age 36 for me. And that’s without student loans and the compounding interest. I get it -- Simplified, flat wages, many assumptions, high paying nursing with average CRNA wages. Good enough for an example.
Another riveting graphic from The Financial Cocktail.
Opportunity Cost of a Down Payment
Think about this same concept with making a big purchase. For simplicity’s sake, let’s assume the house doesn’t gain or lose value. $40,000 towards a house is possibly money not put towards an employer 401(k) match – an instant 100% return. Perhaps you did not maximize tax deferred accounts. $20,500 in a traditional 401(k) may save you $5,000+ in taxes. Health Savings Account contributions – another $1,000 in tax savings. Not to mention, these accounts will likely return 8-12% annually over the long run. What if you have debt or student loans that are growing because they are not paid for? All of a sudden that $40,000 going towards the house is costing a lot more than $40,000. The opportunity cost of that down payment may be $50K+ in the short term and hundreds of thousands of dollars over a lifetime. Here is the opportunity cost of my housing purchase.
Now with a Depreciating Asset
What if that $40,000 went towards a vehicle that is going down in value? Not only is the $40,000 not growing, but the value of the asset is depreciating. After 5 years, that car is worth $16,000 and the initial investment WOULD HAVE been worth $59,000. That’s a $43,000 opportunity cost to drive that particular vehicle for 5 years. I understand you need to drive something, and I’m okay with whatever you choose. Just consider the opportunity cost. If you are financially independent and have the means – go for it. Drive that fancy car. Buy that big house. Enjoy the finer things in life. So much of this blog comes off as me being against spending money. That’s untrue. The entirety of this blog is me saying everything is about timing. A Millennial buying that luxurious house is great if they have the means to do so. Not when the mortgage, taxes, and insurance are half of their take home pay. I wish everyone financial success and the means to acquire anything and everything your heart desires.
Other Major Purchases
Things that come to mind are toys. I think of lake cabins, boats, campers, ice shacks, toy haulers, RVs, off road vehicles, and Sunday cars to name a few. These items cost anywhere from a few thousand dollars to a couple hundred thousand for a wake boat or $400K for a new RV. These are nonessential toys and are classified as discretionary. If you want to get into these, use the guidelines provided. Set your priorities. Decide on a time frame for purchasing. Set aside the allotted amount to buy at that time. Make the purchase in cash.
Money management is as simple as income vs spending. As you can tell by reading The Financial Cocktail, I’m a big fan of financial independence (FI). No boat is valuable enough to alter my course for FI. I just have that mindset. The real power with money is the ability to buy things, but decide not to. Do I have the money for a respectable boat, yep. Could my wife drive a new lunar rock colored 4Runner off the lot today, yep. I could write a check and be done with it. But the opportunity cost is too high for me to feel good about the purchase at the moment. We decided on a 9–12-month period before making a purchase. This gives us time to look at the new and used car market. Find out the market value. Look over the options. Test drive a few. Make sure we aren’t missing anything. Then feel good about setting the majority of that $50,000 ablaze as we drive away in a lunar rock 4Runner.
Now, I don’t want anyone to live in fear over the true opportunity cost of things otherwise you wouldn’t spend a dime on anything that didn’t produce 10% annually and that’s not what this discussion is about. It is merely food for thought. Enjoy life. Have experiences. Be fulfilled. All in time.
I’m Saving for Something. Where Do I Keep the Money?
Saving for major purchases takes time. Usually months to years. It is a major purchase after all. Your timeframe will dictate what is best for you. Savings account – Really no advantage. High interest savings – Not bad. Money market – Some interest on your money. Probably where I would go for short term holdings. Certificate of deposit – Some restrictions regarding withdrawal time, but they have options as short as 3 months. Stock market – Volatility may change your timeline for better or worse. Likely not the best for 12–24-month access to your money.
For those of you who persevered this far, I commend your dedication. I appreciate the comments as it is an invaluable opportunity for the Facebook community and myself to learn. It is difficult to believe, but I am not a Nobel laureate on the topic of personal finance. Understanding the community will only help me produce ever more palatable Tuesday blog posts.
