Who thought this brilliant idea up? And is anyone seriously considering taking this action? They must be kidding.

Then again we are talking about politics and politicians that are trying to quell the media storm that’s hot to trott on the current country wide economic housing bubble and how Canadians are at serious risk if CMHC is insuring all these mortgages and they suddenly collapse.

Further bolstered by the reporting that CMHC has had to effectively double the ceiling limit in recent years to $600B and how we are rapidly approaching that new level and they wont be able to survive a major economic down turn.

Poppycock.

CMHC has to be one of THE best run government agencies in this country (I can’t believe I just wrote that about a government agency). I know everyone likes to complain about the “high” CMHC “tax” that they have to pay in order to get a mortgage. I guess 3% seems high when you compare it with todays continuously record breaking low interest rates.

Lets look at a few stats. Default rates for CANADA are in the 0.5% range. The words LOW and STABLE come to mind. If you disagree, then just look south of the boarder to the default rates of 8%. Considering how upside down the US housing market is in spots, this number seems low as well. I saw charts a few years back that put it closer to the 12% mark, so things are improving there as well. SLOWLY.

Now in Canada banks are required to hold a certain amount of cash on hand in proportion to the amount of loans or mortgages given out. There were a few lenders in Canada who exited our market when the rules changed a couple years back to increase this amount in light of the global economic downturn. These lenders figured the government was asking for “too much” cash to be on deposit (i.e. not being lent out making gobs of interest). Simply put, the government didn’t want a Lehman Brothers kind of collapse and seemed the simplest way to ensure this kind of thing wouldn’t happen.

Guess what? The fine folks at CMHC liked this idea very much. They took this standard and set themselves a higher internal standard of 150% of this minimum.  Currently they are at 200% of this minimum requirement.

Let me simplify this for you. CMHC is LOADED with cash. Not only are they prepared to weather any economic storm that may (and likely will) come, but they are pretty much prepared for the worst possible scenario of that storm.

The cry out in the media I hear is the government shouldn’t be in the business of insuring mortgages. Why should Canadian tax dollars be going into bailing out CMHC (I think there will be bigger issues to solve if we get anywhere near this level)?

Please understand that CMHC is COMPLETELY self-funded through the premiums that everyone has been and continues to pay on a regular basis. There are no TAX DOLLARS being funnelled into CMHC. In fact, one stat put the surplus that CMHC contributes BACK to the Federal government of $14B over the last decade.

The talk is about selling off CMHC. Who or what mega corporation is going to have enough cash to cover the cash on hand AND purchase an extremely large corporation attached in this current economic climate? Lehman Brothers? JP Morgan?

I think there is likely WAY more temptation on the political side of the equation to look at CMHC and say, hm…. large pot of available cash… housing market it stable, what else could we use that for? We’ll pay it back… eventually. No one will notice.

I’m going to file this one under, ain’t gonna happen anytime soon, but a way to deflect attention away from the finance minister and the Bank of Canada who are desperately trying to find an alternative to increasing rates as a way to control economic growth. Raising rates will only cause us to stand out on the world stage. The kind of attention we probably don’t need during this economic uncertainty.

A few other posts on topics that had to be addressed in-between & general spring business.

The final step… what could it be? We’re now at zero debt. Have a cushion or margin account in case something goes wrong. Working on a retirement plan and planning for your kids educational future. What’s left?

Actually two items remain. Build wealth for future generations and teach them about the struggles you went through. (Some will listen, some wont.)

In this area I will include things like owning assets (rental properties) or automated businesses that generate income (i.e. websites as the simplest example). If you do well enough with both of these, then you can also look at that last quadrant that Kiyosaki calls the I-quadrant or investments. If you know enough about the markets and how to truly have a balanced portfolio across sectors (not just mutual funds), then there is a way to live off these investments.

The second item, which I will personally state is probably much more important for many reasons is giving. I’ll even go so far as to say that if you don’t somehow figure out a way to GIVE somewhere near the very start of these 7 steps, then this entire process will take even longer.

There are lots of “new” names within the “new age” thinking. I wont get into any of those, but instead point back to the very old practice called tithing.

At this stage, if you are anywhere near completing the 6 previous steps, then you’ve already shown that you can live on less… much less… than 100% of your income. After you have covered off your own basic necessities, why not consider giving someone else a hand? I’m thinking in terms of a hand up, not a hand out.

You can start with your favourite charity and simply donate cash. Another possibility is donating something much more valuable, your time. Help someone else through with the 7 steps. Volunteer with your favourite charity. Give something meaningful back to your community.

This reminds me of a quote from a very famous investor turned philanthropist, John Templeton. After giving a talk to a group of investors was asked at the end what he thought the greatest investment was that he ever made. I’m sure the questioner was looking to find out what key investment propelled  his investments to great wealth and abundance. His response was simple. The single best investment everyone can make is tithing. The one thing that gives the best and most satisfying returns of anything.

The sooner you start tithing, the sooner you’ll see the return on your investment. It rarely comes back in the same form as you invest, but the return is always so much greater than expected.

How much should you tithe? That’s entirely up to you. I will suggest the minimum is 10% as a rule of thumb. If you have to, turn it into a “credit card” payment that never ends with a points reward system unmatched by any other.

I’ve come across what I have to term and unusual trend recently. In reviewing peoples applications, I take a quick look at their credit score and if it’s 700 or above I don’t pay much attention to it but scan it for things I’ve been hit with by lenders in the past.

In the last little while, I’ve come across 3 different clients who simply STOPPED using their credit cards. I don’t mean stopped paying, but rather paid them off and stopped buying anything on credit.

Now I understand that 40 years ago, almost no one had a credit card and this kind of behaviour was the norm, only a select few had credit cards, so it gives you some kind of perspective of what’s happened to our cultural norms. Today EVERYONE has a credit card. They hand them out like candy. There’s points systems, reward cards, affiliate cards, etc. etc. To the point where if you don’t have at least 1 credit card, you are very clearly in the minority.

I’m sure some of you are thinking, well these people probably got into trouble and were forced to stop using their cards. In conversations with them all, they all had different stories. Bottom line, they all made a conscious decision to stop using credit and paying for things using… wait what’s that word again… oh yeah, CASH. That old fashioned thing called currency that you traded for goods. It’s become a novelty.

We have these people who at first blush look like they are ready and qualified to purchase a home. Unfortunately once any of the lenders digs a little deeper into their credit history, they’ll discover that they haven’t used ANY credit for a couple years. The lenders, being a very pessimistic bunch, assume the worst that they’ve run into some kind of financial trouble and wont be able to pay their mortgage next and decline the deal. In the world of credit, they are considered a non-entity or high risk.

I don’t want to come out as an advocate for any of the credit card companies, but in today’s realistic world of credit and mortgages if you plan on buying or refinancing, you have to maintain at least one credit card, so that the lenders will see that you are at least able to managed some form of credit.

The most common suggestion is to simply buy gas for you car and pay it off each month (in person with cash if you must). Even if you only do this once every six months, at the very least it keeps your credit active.

Cashflow is still king, but the lenders want to see it “flowing” through your credit cards.

And if you are self-employed… well that’s an entirely different post.

I was reminded of this fact yet again this past Monday. We had a special guest come to visit at my favourite monthly real estate investors meeting, called OREIO (www.oreio.org). The special guest was none other than the Canadian real estate investing guru, Don Campbell.

Don is the president of R.E.I.N. (www.reincanada.com), author of several books and has used his own A.C.R.E. system to acquire some 180+ “doors” of his own. So when he talks real estate investing… I LISTEN.

Fortunately for me, his message is consistent from year to year and is the same message being put forth in his books. For any business to succeed, it must have a system. Real Estate, first off MUST be treated as a business and second there MUST be a systematic way you do it. You don’t have to follow his method, but seriously how many of you can claim to have 180+ doors in their portfolio? I think he might have something, a system, that works.

I’m also one of those strange people that learns by watching others. I can watch others who start and fail at something and hopefully learn from their mistakes (hindsight is always 20/20) or I can look at someone who has built a system, understand how it works and apply it.

It’s the same message coming from Robert Kiyosaki. You build businesses by building systems. Once the system is in place, you just have to monitor it and make small corrections.

We even had another speaker a few months back, Dr. Bruce Firestone say the same thing. “Investing in real estate is a get rich SLOW method of making money. You have to have a plan.”

If you have ever been to a Don Campbell event before, be it a R.E.I.N. meeting in Toronto or one of his QuickStart weekend events, you’ll know exactly what was said in the first half of the meeting. Investing in real estate, if done correctly, should be slow, steady and borring. We should be looking for what people today think is a minimum return of 3% appreciation.

Don showed the numbers for your ROI if the ONLY thing you have going for you is appreciation and it’s ONLY 3%, just your mortgage pay down in the first year alone should be 15% return. He then went on to show if you buy a cashflow positive property (say $200/mo net) and zero appreciation, how your return on investment via cash on cash return AND mortgage pay down works out to 18%. The question left to the reader naturally is, imagine combining both of these together. Small appreciation and just enough net cashflow… the returns are impressive… to the point of being almost too good to be true.

It’s funny I get all kinds of new investors asking me how they can possibly give 12% return on investors money. My line has always been if the deal is cashflow positive, then you should be making at least 20% return. They always look at me in amazement. They only ever seem to calculate the cost of ownership, never the actual return on investment (or cash on cash return), including mortgage pay down and “modest” appreciation.

Once we had the basic building blocks of real estate investment out of the way, we then switched to focusing on the Ottawa market specifically. The one chart that I recall was the one showing the price variation in various major cities across Canada. It started on the left showing Vancouver and had this very tall graphic showing that there has been a wild variation in prices and that the current prices were slightly lower than the average for that city. This kind of goes with that old joke, if you don’t like the prices in Vancouver, wait 6 months it will change. Now that the Olympics are over, one has to assume that some sanity has returned to that market, but for how long?

Moving across the chart Edmonton & Calgary showed some fairly significant swings and then there’s Toronto. Similar to Vancouver in size, but not quite as big. The average price today was above the statistical average.

Then we looked at what were effectively two dots on the chart. Winnipeg and Ottawa. What was the theme from the beginning of this post? Slow, steady borring. Do you want to invest somewhere with huge volatility in the market where the prices could take a major swing either way? Or do you want to invest in a market where you know month after month, year after year, decade after decade that the prices will slowly and steadily climb?

The average growth for the Ottawa area has been 6% over the last 50 years. If you break that down a little bit and look at it over a 10 year mark or include at least one recession in the mix then the average drops to about 4%. I think the biggest drop we’ve ever seen is 15% down one year, but then rebound by 2% the following year. So yes, it dips, but if you can hang on (with your positive cashflow) for a couple years, you’ll see those double digit returns we talked about earlier.

In all I will have to say the event was a major success. Big thanks to Don Campbell for squeezing us into his very busy  schedule and giving us a clear and consistent message. Boring is good.

Happy investing everyone.

To recap, as I had to put up a special post last time and I’ve been lax in posting (not lax in servicing clients), we should be well on our way to working on at least the first four or 5 steps.

Zero: awareness, keeping track of all receipts. Where does it all go each month?

Step 1:  Emergency fund. Critical to change mindset.

Step 2: Snowball debt repayment. Start to feel and see something positive happening.

Step 3: Building a cushion or a margin for mistakes, as sometimes life happens. Be prepared.

Step 4: Start thinking and investing/contributing in your retirement plans… RRSPs and TFSAs (most common)

Step 5: Consider giving your kids a help up (not a hand out) by investing in their college/university fund… via RESP

Onto todays topic. Step 6, paying off your mortgage.

We kind of touched on this a bit in step 2. As we focused on paying down credit cards using the snowball method, to me in my mind, your mortgage is just a larger snowball (OK maybe avalanche?) to take care of.

I’ve seen all kinds of arguments once we get to this stage. Some argue pay off ALL debt, including mortgage. Others say, well it’s going to be a few years before  the mortgage is paid off, lets see if we can focus a bit more on 3, 4 & 5 as we are probably maxed out on our pre-payment options on the mortgage for the month or year.

I say what ever keeps you up a night, focus on that. If you have a spouse, I’m certain there will be negotiations. It never ceases to amaze me how in a married couple there are almost always once spouse that is the saver and the other is a spender. Unless you communicate and explain to one another why one is a priority over another (i.e. mortgage payoff vs retirement vs ???).

My marital counseling advice for the month. Extra tidbit for you, my dedicated readers. No charge. And we all know what they say about free advice. Ya get what you pay for.

The other interesting thing I note here, kind of related to my last post. Once you are in the position that you KNOW you will be paying off the mortgage within the next term (maybe plus a year or two). Do you really care what rate you get? Aren’t you now more focused than ever on how you can MOST quickly pre-pay the sucker? If you’re at the stage where you have less than 10 years left in your amortization, that means you are already paying back primarily principal. What you are now focused on is what lump sum can I make in the year and how much extra can I pay per month. Some lenders don’t offer either (like the no-frills BMO deal), some allow one OR the other and some offer both.

Interesting this week, for the first time a client wanted to know what ALL the lender pre-payment options were. ING was the best at 25/25 (annual/monthly). But after that it was a bit of a challenge. Our internal lender at 20/20 was next up, then things got interesting. 10/double up (or 100% monthly extra), then 15/double up and then the major banks almost exclusively at 15/15. To further complicate things each different pre-payment option had a different rate. If there was a clear correlation it would have been easy, but no mostly random.

Well that’s step six. Some will argue once their mortgage is paid off isn’t that the definition of financial freedom? Stay tuned next week. There’s still one more thing we need to look at. Something that I say should be built-in to your thinking/habits from the start, but again everyone has different opinions and personal philosophies.

Until next time.

I’m sure you’ve all heard it or read it or had a friend of a friend tell you about BMO’s latest marketing gimmick. They are offering the (currently) lowest rate EVER seen for a 5 year term. Or that’s what they want you to believe.

Yes indeed the marketing arm of BMO has gone all out to promote this “special limited time offer”. Most of the brokers I talk with are very thankful that BMO is using THEIR marketing dollars to help out OUR business. What’s that old saying, any PR is good for business? I’m sure that wasn’t BMOs intention. They are from all outward appearances desperately trying to gain mindshare and mortgage business back as quickly and as efficiently as possible.

I don’t know about you (my trusted readership of at least 15 readers), but whenever I see the words “special limited time offer”, my first reaction is usually, “OK, what else do you have?” as it tends not to be their best product but something to entice you to come into the store (or branch).

In this case very much the situation. What is being offered through this multi-million dollar campaign is a no-frills product. Remember the “No Frills” bulk stores from a few decades back? Yep, the penny pinchers were happy. Unfortunately there aren’t enough of these folks to drive the market for any length of time.

Let me ask a quick question. Did you know that there are lower rates available out there at 2 & 3 year terms? Did you know that there is a lower 10 year term (the “new” addition to the most recent marketing campaign, 3.99%)?

Looking at my rate sheet (http://www.mortgagealliance.com/johnwalsh/mobile/rates.html) you can see for yourself. And these rates DON’T have anywhere near the same restrictions!

I understand that rates are the simplest thing to see and watch and compare with others. Naturally there’s slightly more to the story. As that old news reporter used to say “…and now for the rest of the story”.

What is a “no frill” mortgage you ask? I say it’s something that I wouldn’t put my worst enemy in. OK maybe my worst, but that’s it. This, actually THESE, are most probably the scariest thing that banks (and some mortgage lenders) offer to the public. Why?

Let’s start with pre-payment. There is no option to pre-pay for the duration of the term. Big deal, 90% of Canadians don’t pre-pay their mortgage anyway. Some do, you might, but not with this product.

You’re a typical salaried employee and get paid every 2 weeks. You decide that it’s better to pay bi-weekly as it will significantly impact the overal amortization of your mortgage and save you THOUSANDS over the term of your mortgage. Nope. Sorry. Monthly only.

You already have a mortgage and decide to switch. You’re down to a 20 year amortization and want to continue with your current amortization. Buzz. Nope, wrong answer. You MUST take a 25 year amortization.

I don’t know about you, but I can’t predict the future. Having a 5 year plan is great, however I’ve notice that life has this funny tendency to mess with your carefully laid out plans. Some unforeseen life event happens (illness, job loss, new child, etc.) and you decide that you need to refinance, change the terms, extend the amortization… something to give you a little relief while you figure out how to adjust to the new reality. Sorry. You are locked into this contract with BMO until the end of the term OR you sell your house. No one has discussed breakout fees. Don’t expect them to be cheap if you sell and break out.

You can refinance with BMO, but think about that for a minute. You’ve just lost your job or your expenses have just shot up. What are the chances you can still qualify with BMO? After giving you this “big discount”, how likely are they to give you as big a discount again?

Now imagine being locked in for 10 years. Yikes. I haven’t lived anywhere for 10 years, nor have I gone for more than 5 years without making some kind of change to my mortgage. The average for Canadians is to make some kind of change every 3 years.

The government just passed new legislation that requires lenders to calculate for you what the breakout fee will be. It should be interesting to see how quickly BMO will or wont be compliant with this new legislation for their limited time special.

Has this been good for my business? You bet. Would I recommend EVERYONE talk to a trusted mortgage broker, such as myself, before considering even talking to BMO? Most definitely. Please don’t get caught in this trap, with the intention of saving money. There are other solutions with much greater flexibility and save you far greater money in the long run.

Don’t believe the lie that it takes 25 years to pay off a mortgage. That’s what the financial institutions want you to believe. Google is a wonderful tool when used properly.

Be careful out there.

To those eagerly awaiting my next post, sorry for the delay. I took a weeks vacation to Florida. I’m still recovering.

In theory at this point, we’re managing our finances. Have a cushion in case of bad times and have just started to look at the idea of planning for retirement, which most experts agree will be much longer than any previous generation.

Besides paying off your mortgage early (next step), what else could be left? For those of us who have children, it’s time to start thinking about their future as well. Give them a head start on life, and hopefully you are teaching them these same steps as we go.

Why start this now? By most estimates it’s going to take anywhere from 9-12 years to pay off your mortgage. In that time, your child will likely be finished or nearly finished school.

What are the options? In Canada we have a special registered program for just such a purpose. The Registered Education Savings Plan or RESP. When we were first introduced to this plan, the government was willing to provide matching funds of 30% of every dollar put in the plan. The idea being the principal that you put in would have a greater ability to earn more interest if there was more to earn interest on. The government figured that this would be underfund by most people, but quickly found out that serious investors saw this as a way to earn a great return on their cash and potentially aid in their children’s future education.

Today however, the matching funds have been reduced to 20%. Still a lot better than a kick in the head.

One of the tricks someone told me about is when your child is able to draw from an RESP, there is an option to draw the interest portion first. The idea here being if your child doesn’t use up all the funds within the account, you are able to close the account an withdraw the remainder (still a taxable event). The interesting part is if the interest is spent first, when you withdraw there’s no additional tax in interest earned within the RESP.

Of course it’s all going to a government funded institution, so in a way they’re getting it all back, but at least you wont pay unnecessary taxes.

Please don’t think that the RESP is the ONLY solution. It isn’t, but is the safe, steady, reliable vehicle that will get you there.

The idea here is that you want to start a plan to put aside funds in some kind of vehicle that will be able to either provide enough lump sum funds for some/most/all of the higher education costs OR something that will provide a large enough source of income to pay for the education as they go.

As an example, I’ve seen several people talk about buying rental properties for their kids. The rental income covers the cost of the property plus some cashflow that can be saved. If this is started early enough, then after say 12 years there will be mortgage pay down, significant equity appreciation, positive cashflow earned/saved over the 12 years and a place for the young adult to live (if they don’t go to some out of town university)! They can refinance and pay for their education and/or room and board.

If they do decide to move to another city (because mom & dad are just smothering them with financial education so they’ll be debt free when they graduate), again, refinance to provide a downpayment on another property (student rental?).

No more vacations, so look for the next post in a weeks time.

I’ll just say that several unexpected things happened last week which consumed a great deal of time.

We’re getting there. We’re aware of our situation. We’ve started a plan to pay down debt. Put aside funds for emergency and a “cushion” incase of some major life event. Things are looking pretty good. I can see how many people just stop here. Time to look to the future a bit and start that plan for retirement.

I enjoyed that one financial guru (who’s name escapes me now) who put it this way. What would you do if they invented the pill that extended your life 40 or 50 years? Would you have enough resources to be able to maintain a reasonable lifestyle?

No there may not be a pill today or tomorrow, but with continuing medical advances people on average are living longer. It wasn’t that long ago that people who retired at age 65, were very often gone before their 67th birthday. Retirement was a concept. Today the average life expectancy for women is 88.  That 21 years. What will that change (increase) to in 20 more years? Do you have enough saved in whatever vehicle to provide you with income for that many years?

Oh, CPP (can’t pay people) and OAS will have me covered. Have you seen what the maximum payout is for these programs? Trust me, it’s not enough to cover basic living needs.

Ah, so you move in with your kids. They lived with you for 20+ years and you took care of their every need. PAYBACK!

Or you could start planning now for your retirement and have enough funds such that you can live off the interest income and eat away very little of the capital.

In Canada, the simplest vehicle for that is RRSPs and more recently TFSAs. I wont get into details or specifics of what to do or how best to use these vehicles, except to say the government has given you all the tools you need to make this work. You want to start these as early as possible so you have the time compounding of money leverage working for you.

At the point where you have paid off all your credit card debt, I would say this is the right time to start looking at building your retirement fund. I wont say all of the snowball amount, but say 10-15% of your total income should now be diverted to some form of a retirement vehicle. If this still leaves you with extra cash left over from the snowball paydown, then by all means increase your mortgage payment and attack that sucker too.

Actually this step and the next two I think are kind of tied together if you can do all three, great. If you can only do one, focus on retirement first and work with some kind of financial planner (not one that just wants to sell you stocks or mutual funds) who will show you a way to take a nest egg of funds a grow it to a large enough some to provide you with a residual income that you can live on in the “golden” years.

Going a little off script here, I’m a mortgage broker. I love providing mortgages from my RRSPs to third parties in order to rapidly accelerate the growth of my nest egg. Our goal (my lovely and talented wife & I) is to earn 1% per month using this method. We understand real estate. We know mortgages. It works for us. Your mileage may vary. But PLEASE investigate something ANYTHING beyond stocks, mutual funds, ETFs, etc. within your RRSP/TFSA. There are MANY solid opportunities out there. Don’t take the first thing you find. Investigate, ask lots of questions.

The conclusion to this weeks post is start building that nest egg. Fatten up that golden goose, as you need the golden eggs it will produce years from now.

Next post, varmin… err kids and university.

Step 1, setting up an emergency fund. That piece of mind, knowing that in the back of your mind if something critical goes wrong you have cash set aside.

Step 2, the snowball debt reduction strategy and how this moves forward to larger items. Get off that treadmill of revolving credit. Start filling the hole rather than making it deeper.

Now we’re on to what some would term more interesting (positive saving) things and the creation of what I like to term a cushion or a buffer. The goal in this step is to gradually work on building up enough cash reserves, such that if you become unemployed or sick or your income drops to near zero for some reason, that you have a cushion or a buffer zone to fall back on.

The big question that comes up naturally is, what size of cushion do I need?  The rule of thumb is 3-6 months of EXPENSES. Not 3 to 6 months of income that’s totally different. You want to know that for 3-6 months you have enough cash to cover all your monthly obligations if some life event happens.

Hopefully you see how this is building. You’ve been collecting receipts for a month, so you know today what the monthly funds are going out. You’ve found an item or 2 that are non-essential expenses and have started to attack your debt.

At this point, I say the choice is yours. You can finish paying off your credit card/loans and then start building a cushion or you can repeat step 2 and put the new found cash into a separate savings account. A little more belt tightening for sure. Thing of it as short term pain for the ability to give yourself choices in the future.

I would argue that today, jobs are less long term secure (working for 1 company for 40 years) and more short term and dynamic (2 or 3 years changing jobs but staying within an industry). Given this new reality, I would say starting to save now (along with debt reduction) for that next job change might be a good idea. Even if you only manage to save up 1 months expenses in a year, you at least have that 1 month more than you had before. Having a little margin in life is better than no margin at all.

Again, similar to the emergency fund, you want to put this into a separate account, away from your daily use chequing/savings account. You want to be able to watch this account grow over time.

Now if you are self-employed or commission based, like me, I will suggest you examine your peaks and valleys and determine how long the valleys last and work on an income levelling plan as well. For example February is my worst month. Things start up again in March, but that usually means I don’t get paid until April (30 day closings). For me I know that I have to have enough saved (after Christmas) to be able to go 3-4 months (worst case) and try and reduce my expenses during that time of year.

Next post we’ll be looking at planning for the future… unless you want to work for WalMart in your retirement years.

So has anyone been following along? Have you been keeping *ALL* receipts? Categorizing the stack of receipts at the end of each week and decided that maybe the category of miscellaneous is just slightly too all encompassing (i.e. more than half your receipts fall into this area)?

You’ve bit the bullet and managed to put aside $800 for an emergency fund, even though your brother’s sister in-law’s third cousin twice removed is getting married and invited you to be with them on their special day in Hawaii? You recognized that this is not an emergency. Your son/daughter will just not be able to make it to the hockey tournament halfway across the country. It’s time to take a serious look at your finances.

If you’ve made it this far, GREAT! Easy wan’t it? If you’re still collecting receipts, but haven’t found that extra cash to create that emergency fund as you are still getting through that last emergency, keep working on it. This is a critical step. It will give you a small amount of mental freedom once you do.

Now on to the part where people get excited. The part where we actually start to see a change in how we do things and see tangible results.

From the exercises previously, you should now at least have a sense for where your money is being spent. By creating categories for all your receipts, you have (or are presently) showing yourself where all your money is being spent. Food, utilities, rent/mortgage, gas, car maintenance, etc.

The goal for this next step is to examine where money is being spent and work hard to try and find AT LEAST $100 (likely in that broad MISC category) that you don’t need to spend each month. “But everything I buy I NEED”, I hear people claiming. Let’s take the simplest example. I’ll borrow from David Bach’s book and call it the Latte Factor.

Do you have something simple, such as buying a coffee, everyday that if you reduced or eliminated could save you that cash that you NEED to start the next step of this plan? Think about it for a minute. If you buy a Latte from Starbucks every day (I’m estimating the price), that’s $3 x 30 days in a month. That’s $90/month.  If you have a typical family of four and you eat out more than once a week at McD’s, that’s another $100 savings.

I will put in a caveat here for all you coffee drinkers (like my wife) who CANNOT function without a coffee, remember I said REDUCE your expenses. Either exchange Starbucks for Tim’s or make coffee at home or find some other non-essential item. If you are a couple, you EACH need to find something.

You’ve gone through all your receipts and managed to find a way to carve out $100 (or MORE) each month. What we need to do now is to look at all your credit card statements. You need to write down on a paper the name, balances and minimum monthly payments for each.

At this point, I’ve seen all kinds of ideas on how to approach paying down your debt. Most involve using math, which one has the highest interest, which one has the highest/lowest balance, take the amount divide by interest, etc. etc. The key here is to PICK ONE credit card and start the process. Getting started and into the correct habit is more important than which method you use or how you determine which will be most advantageous to start with.

Two things, that are important to do here. First, pay the minimum amount on each credit card and DO NOT add anything to the cards unless you have planned in advance for the expense and have the cash set aside. Second, you now want to take this extra $100 that you’ve managed to carve out of your expenses and apply that amount to ONE card.

For example, typically people have an average of 3 credit cards with a balance of $15,000. Lets say $30K to make it more realistic for most. For argument sake, let’s say $10,000 a card.

Your minimum payment on any card will be 3% or $300/mo. To that minimum you want to add $200 (couple who both eliminate Latte’s). So each month, you will pay $500.

At this pace, it will take 20 months to pay off the principal on one card. Add 18% interest to that and say another 4 months.

“Big deal, 2 years to pay off 1 card”, you say. That’s just the start I say. We now take that $500 and add it to the next credit card, for a total of $800/mo. Card number 2 will now only take 14 months to pay off and applying this same amount to the last card (or $1200), works out to 9-10 more months (including interest).

3 years plus to get ride of $30K in credit card debt. If that’s not exciting, how about the next step. Adding $1200/mo to your mortgage payment.

If we take a typical 25 year amortization for an average amount of $250K and add $1200 extra payment per month (just shy of doubling), you end up with zero debt (i.e. mortgage free) in just over 10 years.

Think about that for a minute. $30K in credit card debt and a $250K mortgage all eliminated in in 13 years, by simply finding and extra $200/mo.

Don’t buy into what the banks want you to believe that having debt is OK. Everyone has a mortgage and will for most of their working life. They want you to believe this because that’s how they make money.

Have I given some of your HOPE? That your debt CAN be eliminated and within a reasonable amount of time?

That’s the quick overview of the “snowball” method of debt pay-down. While writing this out, I thought of several other things that I didn’t include. I’ll try and squeeze those into the next few posts as we move onward and upward.

The next few steps that I’ll cover can in theory be done in tandem. Many argue the focus should be debt reduction first and only. I say all work and no play makes Johnny a dull boy.  In other words, the likelyhood of someone continuing to focus for a long period of time without self-sabotage is very low. You need to focus on something positive while also paying down debt. It’s human nature.

I’m reminded of that Yogi Berra quote: “In theory, practice and theory are the same. In practice, they’re not.”