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Reality Check Expectant parents want to build up their nest With their first baby due in a few months, this young California couple wants to get their financial house in order, get out of debt and save for their first home. By Marian Prokop Expectant parents Justin and Tasmin Finn are delightedly awaiting the arrival of their first child. But while they are thrilled at the prospect of becoming parents, they're also concerned about the future. "I'm excited, but worried about the financials," says Justin, 26, referring to their hopes of buying a first home, paying off debt and saving for their child's college education and their retirement. The couple was renting an apartment in Orange County, Calif., until recently, when they moved in temporarily with Tasmin's parents to save money. They want to be in their own place before the baby is born, in about four months. They have college loans left to pay as well as credit-card debt, and they want to replace Tasmin's two-door sedan with a four-door car, which will be more convenient when there's an infant in the backseat. First things first, says certified financial planner David K. Little of Eclectic Associates. Little helped the couple set up a plan for meeting their short- and long-term financial plans. It won't be done overnight, but by diligently saving, the Finns can make a good start. Name: Justin and Tasmin Finn. City: Fullerton, in Orange County, Calif. Occupation: Justin works in sales and design for a packaging and board game manufacturer. Tasmin, 24, is a gymnastics instructor. They have a combined net income of $53,800, after taxes. Once the baby arrives, Tasmin will reduce her hours and the couple's annual net income will drop by about $10,000. Assets: The couple has few assets: Tasmin's car, worth about $8,000; a checking account with about $1,000; and a savings account with about $500. Liabilities: They have total debt of about $13,000, which includes a car loan of $8,000 at a rate of 21%, or $367 a month; a student loan of $2,400 at 8%; four department-store credit cards and a Visa card with interest rates of 20% to 24% for total credit-card debt of $2,641. Justin also leases a Ford Explorer for about $500 a month. Financial goals: In the short term, the couple wants to buy a house. Longer term, they want to save for retirement and for college for their baby. Adviser's recommendations While saving for their child's education and for retirement are important goals, Little recommends they put off those goals for a while so they can focus on getting out of debt and saving for a house. While they're living with Tasmin's parents, the couple is paying $100 per month in rent. Before that, they were renting an apartment for $850 a month. The planner says Justin and Tasmin also have met with a real-estate agent and found out that they could buy a house with about $9,000 down (including all closing costs). The agent also says they could qualify for a $160,000 mortgage. Pay down debt The planner recommends that the couple take advantage of their low rent from living with Tasmin's parents to pay off their credit cards. With the $750 a month they're saving, Little suggests that they pay off the lowest balances first, even though the rates are slightly lower than the other cards. | |||
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R E L A T E D R E S O U R C E Manage Debt Step-by-Step Guide |
"It should be more encouraging to you to completely eliminate some of the balances than to pay down the higher balances," he says. "As a card is paid off, make sure you use all the money that was going toward paying it off to pay down the balances on the other cards even more aggressively," he says. He also says they could apply for a credit card with a lower rate and use it to pay off all their other cards, but because of some black marks on Tasmin's credit history, this may not be possible. Little recommends that they live with Tasmin's parents until their credit cards are paid off. Paying off the debt will make things much easier financially for the family once they start paying full rent again, he says. Then, once the cards are paid off, cancel all of them except for the Visa, Little says, and use it only for emergencies. "Studies show that consumers will spend up to 33% more on purchases if they use credit cards rather than cash," Little says. "Psychologically, it is much more difficult to write a check or pay with cash than it is to pull out a credit card and charge a purchase." Buy a used, not new, car The couple also wants to buy a new car to replace Tasmin's two-door Mitsubishi Eclipse, which will be inconvenient once the baby arrives. | |||
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R E L A T E D R E S O U R C E Save on a Car Step-by-Step Guide |
Little recommends they buy a used car, with reasonable mileage, meaning fewer than 60,000 miles. He searched online classified advertisements in Orange County and found several four- to five-year-old Honda Civics in the $8,000 to $9,000 price range, with 50,000 to 60,000 miles. If they financed an $8,000 car with a five-year loan at 10%, their monthly payment would fall to about $170, a $200 savings from their current payment, he says. A pay raise or a company car? Meanwhile, Justin, who works for his family's company, might have the option of receiving a raise or a company car in three months. The planner assumed the raise would be about $500 per month, which is the approximate cost of the lease on Justin's Explorer. Little strongly recommends that Justin choose the raise. He can then buy a used car for about $10,000 and keep the monthly payments down to about $200 per month. After allowing for taxes, Justin should be able to save about $200 of the $500 raise. He also should be able to save the $500 per month that he was paying on the Explorer lease, which will be ending soon. If their credit prevents Justin from getting a low interest rate on the car financing (10% or less), Little offered two other options. First, Justin might be able to have the company buy the car for him as a company car and then give him a smaller raise, such as $300 a month. Or he could borrow the money from the company if he can get a loan with reasonable terms. Cars are depreciating assets and, from a financial standpoint, Little recommends buying a less-expensive car and keeping it for at least 10 years. Saving for their first home Once the credit cards are paid off, the planner says Justin and Tasmin should open a money market account to hold the money they'll need to save for their first house. Little recommends the Vanguard Prime Money Market (VMMXX), which is usually among the highest yielding money market funds available. The minimum initial purchase for the fund is $3,000. (The couple could also investigate which financial institutions are offering the best rates using the Bank Rates feature on MSN MoneyCentral.) | |||
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R E L A T E D R E S O U R C E MSN Home Advisor |
With the stock market posting annual gains of 20% to 30% in recent years, putting money into a fund paying only 5% in interest doesn't seem to make sense, Little says. However, because owning a house is a short-term goal, the planner says they should match that goal with a short-term asset (the money market fund). "Stocks will not continue to average more than 20% per year, and what people forget in today's market is that the market can go down for extended periods of time. I do not recommend putting money you may need within three years into the stock market," he says. Once they have accumulated the initial $3,000 to open the money market account, Little suggests they set up automatic monthly transfers from their bank account into the money market fund. These transfers can be for as little as $100 per month, but they'll need to save more than that to reach their goal of $9,000 down on the house. Once they've established the automatic transfers, they should increase the amounts whenever they can. For example, if Justin gets a pay raise of $300 per month, the couple shouldn't increase their spending. Instead, they should increase the transfers to their Vanguard account by $300 per month. | |||
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R E L A T E D R E S O U R C E Save for College Step-by-Step Guide |
Education fund The couple wants to set up an education fund for their new baby, but Little suggests they focus on saving for a house before saving for education costs. But to give them an idea of what they should be saving for college once they start doing so, the planner ran a projection using the following assumptions:
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R E L A T E D R E S O U R C E Create Your Retirement Plan Step-by-Step Guide |
Retirement projection While they also want to save for retirement, Little also suggests that they put off this goal until they have bought a house. The planner ran another projection to calculate how much they will need to save for retirement. The following assumptions were used to develop the projection:
Conclusion If they make financial decisions with their goals in mind, Justin and Tasmin should be able to reach them more quickly, Little says. For example, when they buy a car for Tasmin, they may be tempted to buy a more-expensive car. However, spending more money on a car will postpone the house purchase, which should be a more-important goal than driving an expensive car, he says. Charging purchases and paying interest on credit-card balances also will force the other goals farther into the future, he says. A follow-up Justin says he found the exercise of seeing a planner useful and that he plans to follow much of Little's advice.
"We're hoping for a really big baby shower," he quipped. About the adviser  David K. Little is a fee-only certified financial planner and chartered financial analyst in Fullerton, Calif. He has been with the financial planning firm Eclectic Associates for six years. He graduated from Biola University in La Mirada, Calif., with a bachelor's degree in business finance. A member of the National Association of Personal Financial Advisors and the Institute of Certified Financial Planners and the Association for Investment Management and Research, he has lectured at Biola University and the Pepperdine University Graduate School of Business.
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