This book is written by Charles Farrell. If you haven’t heard of him, he writes the Retirement Roadmap column for CBS Moneywatch.com. This book has been given rave reviews by the Wall Street Journal as the “Best Financial Formula Book of 2009”. It’s a super easy read and very practical. If you have concerns or questions about “where you’re at” when it comes to your financial security and in comparison to people of your age, then this book will really help you get rid of those unanswered questions.
He answers in detail (so detailed you can calculate it yourself) the basic questions of personal finance:
How much should I be saving each year?
How much should I have saved at my age?
How much debt should I carry?
How do I invest my savings?
What insurance do I need?
The theme of the book is to find ways for you to move from being a laborer (someone who works for money) to a capitalist (someone whose money works for them). He looks at different personal finance decisions- investments, real estate, insurance and tells you whether or not these decisions you make will help you move from being a laborer to a capitalist.
The gist is that you want to become a capitalist when you are 65 (or earlier, for us young’uns I hope!) and to do that, you need to build up your capital. If you have a GINORMOUS mortgage, you won’t have money to save, and therefore you won’t have money to build up on capital. Your mortgage (for your principal residence) isn’t considered your “capital” because it doesn’t really generate you money (especially with the real estate crisis going on right now–anywhere except in Vancouver, of course).
So he tells you point blank, that if you were 25, how much capital to income ratio you should have in order to retire comfortably by 65 with 80% of your previous income. He does the same thing with if you were 30, and 35 etc. all the way until 65. So there’s none of this guessing. You can compare.
- Capital to Income Ratio
- The Savings Ratio
- The Mortgage to Income Ratio (us Vancouverites really suffer here)
- Education Debt you could have in order to generate more income (if you don’t have a salary increase after your education’s done, then basically he says it’s not really worth it)
- The proportion of stocks and bonds you should have as you age
- How much Disability insurance you should have as you age
- How much Life Insurance you should take out in comparison to your income
This book goes in detail about 401 K’s, health insurance, and Long Term Care insurance if you were living in the United States. I found a lot of the information irrelevant for me (being a Canuck and all), but it was sure interesting to read about the differences. He even defines Medicare and Medicaid, and shows that despite the common belief, Medicaid is really difficult to apply for and get (basically you have to be completely broke to get it). He defines Social Security and is confident that it WILL be there when you retire, but that you should also not rely 100% on it and work on your own savings.
He does say you should save between 12-15% of your pre-tax income on savings, which I think is a good number that we should all strive for (considering the national savings rate is likely WAYYY below this). He does say that the mortgage to income ratio should be no more than 2.0, and if you pay more than this, you should consider moving to a different state where housing is cheaper and the quality of life isn’t as nice (e.g. move out of California and into…..landlocked suburbia?). I find this ratio super hard to achieve– the mortgage to income ratios here are around 3.2 or… MORE… what we were approved for was 4.5.
There’s even an online money ratios calculator on his book’s website (but you need the access code found in the book- so go get it), so you can truly know where you’re at.
I did my own calculation and here’s how I compare right now:
- Capital to Income Ratio: 1.35 (yay!- the recommended for my age is 0.21)
- Savings Ratio: 12.3% (nice- the recommendation for someone my age is 10%)
- Mortgage to Income Ratio: 0.0 (duh haha that’s because I have no mortgage- but I will and this will cream my ratios)
Here’s my hypothetical situation if I were to buy a place (which is expected in a few months)
- Capital to Income Ratio: 0.44 (still double the recommended, but sad to see all my money saved up trapped in a down payment)
- Savings Ratio: 10.0% Probably will drop because of the mortgage payments, hopefully won’t drop even more as interest rates rise (I’m doing a variable mortgage)
- Mortgage to Income Ratio: 3.38 (ouch- that sucks. I can’t get anything in Vancouver for the mortgage ratio recommended from the book- maybe a closet? Or I might have to move *GASP* out of Vancouver??)