BiggerPockets Money Podcast

BiggerPockets Money Podcast 170: Finance Friday: Trading Debt for Cash Flow and Liquidity with Teacher Erik

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Erik and his wife have three big debts to tackle: their mortgage on their primary residence, their mortgage on their rental property, and a HELOC (home equity line of credit) taken out as the down payment for their rental property. So, which debt should they tackle first?

As two school teachers in New Jersey, Erik and his Wife made smart moves earlier this year by closing on a rental property, in order to have another stream of income coming in. They already have well paying jobs, pension plans, IRA accounts, and other ways of setting themselves up for the future, but how can they streamline their debt payoffs and maximize their cash?

First, Mindy and Scott walk through budgeting, and put an emphasis on why you should separate out your business expenses and personal expenses, and make sure they don’t intertwine. Then they go on to tailor a plan of action for Erik and his wife, giving some great examples of leveraging low-interest debt in order to pay off higher interest debt and fill emergency funds.

Whether it’s personal or business debt you’d like to tackle, this is a great episode going through the pros and cons of paying off debt quicker!

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Listen to the Podcast Here

Read the Transcript Here

Mindy:
Welcome to the BiggerPockets money podcast show number 170, finance Friday edition, where we interview Erik and talk about capital allocation, how he manages his cash, debts and assets.

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Erik:
We started listening to BiggerPockets money and we love the idea of the monthly money meeting. And so we started doing that a couple months ago. I’m the one that does most of the finances in the family and we’ve been okay. My wife’s been okay with that too, but we sat down and we started working on it and it really does make you feel better having that chat every month. And so right on. Thank you guys too for mentioning that over and over again.

Mindy:
Hello, hello, hello, my name is Mindy Jensen and with me as always is my punny co-host Scott Trench.

Scott:
These entrances are just punishing Mindy. Punishing. All right.

Mindy:
So are your puns. Scott and I are here to make financial independence less scary, less just for somebody else, to introduce you to every money story, because we truly believe financial freedom is attainable for everyone, no matter when or where you're starting.

Scott:
That’s right. Whether you want to retire early and travel the world, go on to make big time investments and assets like real estate, start your own business or consider what we call capital allocation, Mindy just mentioned, we’ll help you reach your financial goals and get money out of the way, so that you can launch yourself towards your dreams.

Mindy:
Scott, I’m having such a good time talking to listeners about their finances and I’m finding myself recommending things outside of my normal recommendations, which shows me in real time, that personal finance truly is personal.

Scott:
This has been amazing. I've learned so much in these past, I think this is our seventh finance review, six or seven, and it's just amazing at how different the stories have been. We really have too much for you, you doing most things pretty well here. You're a millionaire. You got to reset and rethink how you're spending your time because you're getting paid too little relative to how much you're worth. To today's episode where, hey man, we're doing all the right things, but we're treading water because of the way that we're managing our debts and assets. What an interesting set of different challenges, wildly different personal finance challenges, all from people who get it and are thinking about their financial positions, but are still struggling with mapping out a strategy and plan and those types of things.
Mindy, I’m just so proud to be a part of your team here, working on this and to tag team Scott and Mindy, because I think together we’re learning a lot here and I think this is going to be really helpful for a lot of people. I’m excited about finance Friday.

Mindy:
I’m super excited about finance Friday because I am now rethinking how I’m doing some things based on what other people are doing. I hope that people who are listening are finding just as much value as I am. I do appreciate you acknowledging that it’s my team, not yours.

Scott:
That’s right. Team Mindy, I’m the president of Mindy’s fan club for anybody that is looking to join. Should we bring in our guest?

Mindy:
We should, before we do though, we should note that the contents of this podcast are informational nature and are not legal or tax advice, and neither Scott nor I, nor BiggerPockets is engaged in the provision of legal tax or any other advice. You should seek your own advice from professional advisors, including lawyers and accountants regarding the legal, tax and financial implications of any financial decision you contemplate.

Scott:
Well, thank you Mindy for that disclaimer. Now let’s go dig into Erik’s finances.

Mindy:
Erik, welcome to the BiggerPockets money podcast. I’m so excited to share your story and your finances with our listeners today. How are you doing?

Erik:
I’m doing great. Thanks so much for having me. I really appreciate it.

Mindy:
Erik and his wife are both teachers in New Jersey where the cost of living is higher, but so are the salaries. Erik, why don’t you walk us through your financial situation. Let’s look at your income and start from there.

Erik:
Sure. My wife and I are both teachers in New Jersey and it is like you said, a pretty high cost of living area. But one of the nice things is that the teacher’s unions in New Jersey are fairly strong, which means that we make a little bit more than teachers in some other parts of the country as well. I’ve been teaching now, this is my 15th or 16th year as a teacher and my wife is in her 10th. Currently we net around a little over 9,000 a month from our two teaching jobs. In addition, I’m also a musician, except for the past year, often play some side gigs as well and bring in a little bit of extra money there. And there are also a few stipend positions that my wife and I do at school that are included in that net. We also own one property. We actually just closed on it in October. We are just starting our journey there as well.

Scott:
Awesome. When you say that $9,000 net number for income, do you include any benefits from pensions or anything that? Are you building pensions? Do you have a 457 plans or those types of things that you’re contributing to and that’s what’s leftover, how are you computing that number?

Erik:
That’s what’s left over. My wife and I both have 403(b)s through our jobs and we also pay into the pension every month as well. That’s all before that 9,000.

Scott:
Great. You’re building a substantial amount of wealth and doing all the right things for the retirement stuff, and then also have that left over, great.

Erik:
That’s the plan at least. Yeah.

Scott:
How far does that $9,000 go? What do you have leftover after expenses and can you walk us through some of those big expenses?

Erik:
Sure. Well, the biggest expense right now is our mortgage. We’re in the process of refinancing, because we were at about 24 years left on our mortgage and then we brought it down to 20 years back in April and then the rates kept going lower, so we actually decided we were going to go to a 15 year mortgage. We’re in the process of that. And right now we’re paying a little extra toward our mortgage payments and that usually comes out to be around 3,300 a month, I think. Mindy’s raising her hand.

Mindy:
I’m using my teacher, I’m raising my hand.

Erik:
I’m a teacher, I can’t keep talking when hands are raised. My mind just stops.

Mindy:
Good. Because I have a question. What is your interest rate on your mortgage right now?

Erik:
The interest rate on our mortgage currently is 3.25% and we were able to get it down to 1.875, by going 15 years plus a point I think or two, to get that down there.

Mindy:
I wouldn't be prepaying anything on that 1.875, practically free loan that you have. However-

Scott:
Just chime in here, then we’ll get… We have two teachers, there’s a pension involved in there. There’s probably a target that’s pretty specific for when that retirement comes. And so maybe it’s perfectly reasonable to not want to have any debt at the point of retirement. It’s not mathematically correct, in some cases for some people, if they feel they want to arbitrize that interest rate, but it’s a very reasonable way to go about living your life with these things. Is that how you guys are thinking about it with the mortgage payment?

Erik:
I’m not allowed to retire with full pension benefits until the age of 62 and same for my wife. So that would be 22 years in the future. We are looking at now, maybe other ways to retire a little earlier than that and take maybe a reduced pension payout or look at other ways of saving for that. One of the things we were thinking of is if we can get that loan, that mortgage paid off faster, that will help have us in a better spot, but that’s one of the reasons I’m here today. I want to hear your thoughts because this is new to me.

Scott:
Great. Well, I don’t think there’s a right answer there, although Mindy and I definitely have a preference. We’ll certainly talk about that I think, as we get going with this, but let’s hear about the other big expenses. Again, we’ve got about, I think you said 3,300, 3,400 for the mortgage?

Erik:
That’s right.

Scott:
What’s the balance on that?

Erik:
The balance on that is just above 300,000.

Scott:
Wonderful. That’s a big chunk of this spending. Again, let’s just get a picture of the big items that are comprising your expenses and how much is leftover after tax each month in cash.

Erik:
Sure. Well, normally we would have about 13 to $1,500 a month in childcare from September through June. We do have a two year old here at home. You might hear her scream at some point in the background, but we’re really fortunate that we have a couple of people, a family member nearby who’s able to watch the girls during the pandemic time. So we are not sending them currently to daycare, but normally we would be paying about 13 to $1,500 a month for that. Also our rental mortgage is about $1,000 a month and that is the principal and interest and the insurance on that also.

Scott:
Great. You have renters in that, I’m assuming, what is the income you’re getting from that? Does that offset the mortgage?

Erik:
It does offset the mortgage. We currently have somebody who is about to be leaving. I know it’s strange. It was actually the previous owner, asked if he could rent from us for a couple months while he got his finances together for his next place. We’ll normally be renting that out for 1,800 a month.

Scott:
Great. Okay. When I think about personal finance, I wouldn’t consider that an expense. I would say here’s my living expenses and then here’s my business and the income that that produces, net, and think about them separately like that. Because just as an aside there for folks listening, as we’re thinking through that, I wouldn’t consider that a personal expense after your 9,000 in income from your jobs.

Erik:
Sure. After that, I think our next two biggest monthly costs are food, which is groceries and dining out. Our budget right now is about 1,000 a month for food and dining out together. And after that, we have a HELOC on our primary residence, which we actually use to put the down payment on the rental property. The nice thing is, the rental income does cover the HELOC payment also, but we've been throwing more at that also, which I'm not sure is the best plan, but that's just what we've been doing since we closed on the place. That's currently at prime, but it's adjustable. So I think it's 4% right now, which is the basement of that loan, it doesn't go below four.

Scott:
Okay. And what’s the balance on that HELOC?

Erik:
About 60,000.

Scott:
60,000. Okay. Sorry. I think you just said that. All right. What else do we have in the expense category?

Erik:
Well, I told you about the 403(b)s, right now I’m funding my 403(b) at about 700 a month pretax and my wife is about 500 a month pre-tax, and then within that we have charitable donations every month, a little over 600 a month. And then below that is our car payment. We have one car that we own free and clear and another one, which is totally underwater and costs us $444 a month.

Scott:
When you say totally underwater, what do you mean by that?

Erik:
It’s about $3,500 underwater. It’s worth about 3,500 less than we owe on it currently.

Scott:
What’s the magnitude of that problem? Is it a $10,000 car, $20,000 car?

Erik:
What it originally cost or what it is worth now?

Scott:
What’s the story behind the car? It sounds there’s something there.

Erik:
Well, it’s an electric car. It’s not a Tesla. Don’t worry. We got it a couple of years ago, and there was a few different subsidies and cash back offers and things like that. But we actually used that subsidy to pay off the other car that we had at the time. It ended up costing us, I think around $23,000, that we put into a loan somewhere in there. Right now the loans about $10,000 left and the car is worth about 6,500.

Scott:
What’s the interest rate on that loan?

Erik:
2.215.

Scott:
Okay, great.

Mindy:
I have a question really quick before we continue. You said the 403(b) contributions are expenses, but they’re pre-tax, so that money comes out of your gross salary before you’re left over with the 9175. I wouldn’t consider that an expense. Scott, what do you think?

Scott:
I wouldn’t consider that an expense either. That’s wealth accumulation that’s going into it. When I’m zooming out in a financial picture here, I’m feeling, okay, we’ve got $9,000 in income after taxes, after these 403(b) things. We’ve got 3,400 of that coming out of that nine. I think it was little over 9,000, right?

Erik:
Mm-hmm (affirmative). Yes.

Scott:
Great. I’ve got 3,400 coming out of that for the mortgage, that leaves me at 5,700. Then I’ve got childcare some months, let’s ignore that for now, because we’re not in that time period. We’ve got a thousand for food and groceries, so now I’m at 4,700 leftover. Then we’ve got this HELOC payment of 1,000, so I’m at 3,700. And then you said charitable giving.

Erik:
Yup. About 600, 610.

Scott:
Great. So now I’m at 3,100 and then what else is coming out of the remaining chunk?

Erik:
Sure. The car payment, 444 every month. Utilities are around 350. Obviously it changes depending on the season. Currently we actually are just starting to fund a Roth IRA. Again, I know that’s not really an expense, but that does come out of that 91 and change. We’re going to start putting 250 a month into that Roth IRA as well. And then we just have our other budgeted categories, we’ve got 200 a month for entertainment. We also have college funds for each of our girls. Currently the college fund for our older daughter, we put it about 200 a month in. I think right now that’s, I don’t know, maybe about 17,000 saved in there so far. Our one year old, we’re putting $100 a month and she doesn’t have much saved in there right now, but she doesn’t know that.
After that, we’ve got our car insurance, we pay about 160 a month. We just have a general household budget item of 150, which we don’t usually hit, but we have that there in case we need it. Clothing, we’re at 125. Pet care, we have pet insurance and we also have to buy our cat food. She also has a pretty bad catnip habit, so we like to take care of her. And then finally our car maintenance, which is pretty low, it’s about 100 a month. We have a budget for giving gifts for about 75. Gas, we actually don’t pay all that much, because we are currently in quarantine. Normally we budget about $65 a month. And then finally we have life insurance that we both have, and that costs us around $50 a month.

Scott:
Right. With that price point on life insurance, I’m sorry, I’m starting with what seems like the smallest thing at first, but it seems you’ve got term life insurance there at that price point, is that right?

Erik:
We do have term life insurance. We each have $500,000 policies that we got when we got married 10 years ago, that we just been paying for.

Scott:
Love that. I think that’s super wise and a really good way to go about it, because you’re not over ensuring it, but you’re making sure that, that’s the point I think of life insurance, is for the situation and that kind of amount. Anyways, start with the smallest thing first, but love that. When I think about your categories here, I estimate that you’ve got about 2300 bucks after that utilities, car payment and some other stuff that we just talked about before that. And then you just mentioned a lot of smaller categories, which I’m going to collectively bucket at about, I think 1500 bucks a month. Is that pretty close approximation to that?

Erik:
That sounds right.

Scott:
You got 800 bucks left over, of which really most of that is going to college funds and IRAs, your Roth IRA. Is that right?

Erik:
That sounds about right.

Scott:
Great. My first reaction to this situation is that you guys are doing a lot of really good things. You’re clearly investing for retirement and setting yourselves up, right? You’ve clearly got a stable financial position. You’re bringing in good income. But what I imagine is happening for you, is you’re not really accumulating a lot of liquidity in your life from a cash basis that is giving you maybe a feeling of flexibility. That’s my first reaction from this. Is that at all on target?

Erik:
I’d say that’s pretty on target. We do have a safety net fund that is not totally liquid, but also pretty easy to get to if we were to need that in a particular situation. Right now, we’ve got it invested in a robo-advisor at pretty high level, I think it’s about 20% stocks and 80% bonds. I think that’s at about 28,000 right now as a safety net. But other than that, no, we don’t really have a lot of liquid assets.

Scott:
Great. You’ve got a conservative, strong financial position. You guys clearly both have good jobs, doing good work and building I think some wealth over the long run here, but you’re not having that three, $4,000 a month cash accumulation, that’s giving you a lot of options around entrepreneurship, real estate investing opportunities and access to that. Maybe some of that abundance of freedom or really that feeling you’re going to get to an early retirement before your pension fully funds. Again, I’m just trying to summarize what I’m seeing as the problem here.

Erik:
Absolutely, absolutely. I think that’s a great point.

Scott:
Great. Mindy, do you have any comments or thoughts on this so far before we start going into some of the strategy and tactics?

Mindy:
No, I think that’s a good summary and I’m excited to look at some of these strategies and tactics because I see some opportunities there.

Scott:
Great. My first thought on your expenses in particular is, I don’t like the way you’re bucketing or thinking about your expenses. I think you did a great job in tracking all of them. I just think personally for me, you have too many categories and they’re too small. How do you condense them and think about them as line item opportunities or bigger categories? For example, the cars, you’ve got a car payment, you’ve got the maintenance, you’ve got the gas, you’ve got all of those things put together as different litems in there, how do you just call that transportation and then say, let’s zoom in on transportation. I think right now I’m here and in a year or two, I could be here. How do I go about that? I think you can do the same thing for a lot of these other things.
You can have a miscellaneous category and you can sub categorize them too if you like that level of detail. But I think it's hard for me to think about, maybe it's easy for you, but where you can simplify these categories and bucket them together to think about them as groupings, I think the better off you'll be because you'll be able to have more leverage and see it a little bit more clearly. That's my very first point. That's not really a deal breaker, but I wanted to mention it and then dive into a couple of these. The second one is, I think you're calling things expenses, that I don't think are really expenses here. Like that, I would separate your rental business from your personal stuff. That rental business should not be requiring cash out of your personal position. It should be capitalized on its own and spitting out cash to you on a regular basis, rather than forcing you to put money from your same bucket into that business.
If it was not in an LLC, if you just own it in your own name as a sole proprietorship, I just opened up the bank account separately and have all the expenses for that rental business flow through that separate bank account and pull money out of it. I think that will again, simplify your financial position to help you kick some clarity around it. The first point here is, I would re design in an Excel file or a mint or whatever it is you're using, a new statement that shows your assets, liabilities and income and separate your personal from your business.

Erik:
That’s great. I love thinking of it that way. We do have two separate checking accounts. We have one for the rental that we have and one for our personal expenses, but that HELOC is that weird mix in that personal and business. Would you recommend continuing to prepay that he HELOC with our own cash as well to get it down and move on in the future? What are your thoughts about that?

Scott:
Well, okay. We can talk about expenses as well, which I think is going to be a big one for you, but this let’s just move into capital allocation, which is what you’re asking about here. You’ve got debts of a HELOC at 4%, which is a variable rate. You’ve got a mortgage on your primary at 1.875, soon to be 1.875. You’ve got a rental mortgage at two and three quarters. You’ve got a car loan at two and an eighth. Anything I’m missing there?

Erik:
Nope. That sounds right.

Scott:
Great. What I’m hearing you say is, hey, I’m going to prepay my primary mortgage first. That’s where you’re applying that extra bucket and you’re refinancing such that you’re going to put more towards that primary residence even before the refinance, which you’re at 3.25 on that primary mortgage. There’s two schools of thought when it comes to paying down debt. One is the debt snowball and the other is the avalanche. The debt snowball being, I’m going to start with my smallest loan first and pay that off right away. And the avalanche being, I’m going to start with my highest interest rate first and pay that off.
When I zoom out and look at your financial position, I say, all of your debts are at low interest rates. And to me don’t need to be prepaid aggressively unless you hate debt. That’s a personal choice. But when I think about it is, interest rates at zero to 4%, for me are not a big deal in terms of trying to prepay them. Interest rates over seven or 8% on debt are a problem. You can’t really get a guaranteed rate of return higher than seven or 8% in a lot of ways, maybe a house hack could be a better investment than prepaying a seven or 8% debt. But as you get beyond that, it’s hard.
In that five to 7% range, that’s where it really is a gray zone, that I think people can have personal preferences and reasonably disagree. But for me, prepaying low interest debt if your goal is to aggressively move towards five, might not be the most optimal capital approach. That’s where I’m like, hey, if you’re thinking about prepaying the HELOC or prepaying the primary mortgage or the car loan or whatever, I think you can do better than that with some investments on average, in my opinion. What do you think Mindy?

Mindy:
I think that Erik is killing it on the interest rates and I missed the 2.75 rental mortgage interest rate. I would not pay an extra dime ahead of that. I’m assuming these are fixed terms.

Erik:
Yes.

Mindy:
Let’s make sure that first. Okay. I would not, but again, I am comfortable with moderate debt and this kind of debt, mortgage debt. I am comfortable with credit card debt. I would say kill that off no matter what, which you do, so you’re perfect there. One thing that my husband and I came to an agreement on is, I used to be, I want to be completely debt free. Let’s pay it all off, completely 100%. He said, I would rather take the money and invest it. Here’s what we’ll do, we’ll take the money that we could have to pay off our mortgage and we’ll put that into an investment, so we can pull it out and pay it off should something happen. We have the money to do it, but we’re going to continue to use this money in the stock market, because we have such a low interest rate.
This was back when we were paying 3.25 and thought that we were getting the best deal ever. So you are crushing it on the interest rate, but again, paying off your debt and being completely debt free is a mindset that some people are way more comfortable with. That is something that you and your wife should discuss. Are you comfortable with having any debt at all? With regards to that, I don’t the HELOC at 4%, because money’s so cheap, but I don’t know where you would get money to pay that off. If I was going to be paying something aggressively, that’s what I would be paying, because it is your highest interest rate debt.

Scott:
Okay. What’s your feeling on debt, Erik? Are you averse to debt? Is that why you’re going with this or is this just happening?

Erik:
I think it’s probably more debt than we’ve ever been in, in our lives, especially now with the rental property, that boosted up more than we’ve been. I know to me, I’m brought up in the debt is not necessarily bad, but you don’t want to go too far into debt for things like this. I guess it really is a mindset more than really looking at it from afar. I don’t think we’d necessarily think that we want to get rid of all debt as fast as possible, but we also want to be smart about what we do.

Scott:
Let me ask you this on the rental property. We’ve got a rental mortgage of about 150 grand. How much has the property worth?

Erik:
About 208, I think recently. It appraised it to 207.

Scott:
Great. And then how much cash do you have in the rental property account that’s specific for that business purpose?

Erik:
Currently?

Scott:
Yeah.

Erik:
About 1800 bucks.

Scott:
Okay. Here’s your problem with that, is I don’t think you’re over leveraged with that. I think you’re under-capitalized in your real estate business. I would feel much better about that position if there were 15 grand in the bank, in that rental business, than I would, if that debt were $15,000 lower and you still have that 1800 bucks. You’re going to sleep a lot better at night with a reasonably well capitalized cash position specific to the rental business, because you did not want to be pulling cash out of your personal life to capitalize your rental business. That’s not the nature of long term rental property investing.
I think if I was thinking about this from a 10 year zoom out lens, I think you’d be better off with capitalizing the rental business right there. And then continuing to focus on the accumulation of assets from the context of a strong liquidity position. If you can get to a point where you’ve got three, 4,000 a month in cash accumulation from your regular month to month operations of, you’re earning your salary and spending your money and accumulating that kind of cash, and then having very well capitalized emergency reserve, which you’ve got, the $28,000, is what I understand is basically an emergency reserve in your mind.

Erik:
That’s right. Yup.

Scott:
And then having that capitalized rental business, you have some debt, but your income and your cash positions in that case will be pretty conservative to me and allow you to continue to be aggressive on the investing front rather than prepaying all of the debt. I wouldn’t take on more consumer debt or anything like that, and I might not buy another rental property for a while, but I don’t think your position is scary right now, if you can get that cash accumulation up and spend six months or so buffering up your financial position.

Erik:
That’s definitely a way of thinking about it that I had not thought about it. I appreciate your thoughts on that.

Mindy:
I agree with Scott, with taking the rental out of your personal expenses. You had a question about the HELOC since it is related solely to the rental property, is that correct?

Erik:
That’s correct, but it’s on our primary residence.

Mindy:
Right. But you took the money out of your primary residence and put it into the rental. So the rental owes you money, not you owe that money back. Does that make sense?

Erik:
Right. Yeah.

Mindy:
Okay. What is your minimum HELOC payment?

Erik:
Right now, I think it’s about 225 to 250 a month. It’s just interest.

Mindy:
It’s just interest. Okay. The rental will be rented out at $1,800 and it’s $1,000 mortgage and 170 HOA?

Erik:
That’s correct.

Mindy:
What does that HOA get you?

Erik:
It is a condo, so it takes care of the exterior of the building and the roof.

Mindy:
Okay. Is there a pool or any amenities like that?

Erik:
There’s no pool, no amenities. It’s pretty much just a parking lot in the building.

Mindy:
Okay. And then there’s rental maintenance of $175. Is that a general going into a slush fund thing or is that a specific bill?

Erik:
Yes, that goes just into into a slush fund. I’d keep it in the checking account every month and have it there.

Mindy:
Okay. And again, I don’t consider that a personal expense, I consider that a rental property expense. With that 175 plus 177, plus 1,030 mortgage payment, we’re at $1,382. We still have $400-ish cashflow from this rental property. How do you feel about that cashflow that’s coming in?

Erik:
I feel pretty good. This was something that my wife and I sat down, because we had time during the pandemic to start to think about other ways of having some income. We wanted to try to find something that was a little on the safer side, because we were both working full time. We didn't really have the time to BRRRR our property or anything like that. We wanted to get our feet wet in this safe place. I think for us having that cash flow of 400 or so a month was something we could feel good about while we learned the ropes.

Mindy:
I think that is a good way to look at it. I think a lot of people will say, cashflow is a $100 a month and it’s a single family home. Well then you’re responsible for the roof, which is five to $15,000, depending on where you live, and the furnace and the water heater and, and, and, and. I like that this is the roof and the exterior maintenance is already covered for you. You’re right. You need to learn how to do it. The best way to do it, is do it. The best way to learn how to screen tenants is to actually screen tenants and then realize I made a mistake or you could read the BiggerPockets tenants screening guide.

Scott:
I’m just trying to wrap my head around this and I’m thinking about this. You have a primary residence that was on a 30 year mortgage, and you’re prepaying that mortgage at about 3.25%, a couple hundred bucks a month. Then you take a HELOC out off the property and use that to finance your rental property acquisition at 4%. Again, these are not big errors. You’re not making any bad booze here. I love the fundamentals of what you’re doing with your personal financial position. But to me, it seems you’re taking, you’re prepaying debt at a lower interest rate to borrow against a higher interest rate, to finance rental property activities. When if you just didn’t make any extra payments on the property, you’d be able to accumulate cold hard cash which would give you more liquidity options and help finance the property.
How much would you need to pay off the HELOC over five years let’s say? We can do that math very easily. 60,000 divided by 12 times 560, $1,000 a month. Look, in order to pay this off, you’re going to have to pay $1,000 a month in principal over five years, and then you’re also going to have to pay the 200 or $300 in interest, at least at first, the interest amount will get smaller each month as you prepay the balance that HELOC down. If that makes any sense. To me strategically, I wouldn’t do that again. This situation, I would say, my next property, I’m going to capitalize with cash that I’ve accumulated over time. I’m going to buy from that position of strength. If it’s $150,000 property, I put down that 30, $50,000, keep the 10 or 15 after that in my reserve, or add to my reserve if I’ve already got 50 and another 10 or so.
I've got a really well-capitalized real estate portfolio and then borrow the money against that equity at that lower interest rate, rather than go about this mechanism of financing it. Because right now, what this is going to do, in the short term for you, Erik, is you're going to have a lot less cashflow accumulation going on while you're doing this. Even though the real estate may be a good investment over 10 or 15 years, it may go up in value and it may spit off increasing amounts of cashflow, that may generate a good return overall, but it's not going to help your freedom position in the meantime, because I think you're under capitalized by about 10 or $15,000 in the savings account for that property, which you're going to have to put in from your own money, because you're not going to be able to do it.
That HELOC is a rental property expense, is I guess what I’m getting at, right? I would put that in your rental property business, even though it’s against your mortgage there. Again, while this could have been a good financial move over the next 10 years, I think you’re going to be hurting for the next three or four or five in the sense of your ability to generate cash in your life in a general sense. Am I reading that correctly Mindy, do you think that that’s a reasonable analysis?

Mindy:
I do think that’s a reasonable analysis and I like the recommendation of not doing it again, but this is also a fairly low cost way to learn how to be a real estate investor. And you’re going to reap some pretty big educational rewards from this by going in and doing this. I’m wondering what state this rental is in.

Erik:
Also New Jersey.

Mindy:
Also New Jersey. Okay.

Scott:
Given that context, I would not be prepaying your home mortgage or your rental mortgage or your car payment. I may not even be prepaying the HELOC, although you’re going to have to pay that at some point. But if I did any of those, I would be paying the HELOC first in my view, that’s the debt to get rid of, if you want to get rid of debt.

Mindy:
I completely agree with Scott statement. Of course, you speak to your wife and make sure that she’s on board with that. Happy wife, happy life to both of you. You want to approach this together as a team. I really do paying off the HELOC faster than the rent mortgage or the primary mortgage. That primary mortgage 1.875. Who’s your lender.

Erik:
Do you want me to say?

Scott:
You can, if you like.

Erik:
It’s Finance of America, they’ve been fantastic. We’ve used them ever since we bought our first home, actually our only home that we’ve lived in, they’ve been wonderful.

Scott:
Well, they happen to be a sponsor of BiggerPockets, not the sponsor of this show, but here’s your free advertising Finance of America. Please keep formally sponsoring us. Look, I think you’re doing really well on interest rates here. You don’t have any debt emergencies, but again, I just think you’re going to continue to limit your freedom if you take out more debt at this point. And so the focus I think should really be on how do I accumulate cash at a faster and faster rate, which brings us back to your income and expenses. I love that you have some side gigs there, but you really don’t have a lot of leverage on the income front right now.
It’s no problem. You’re building wealth in some really advantaged ways, with the pension and the tax stuff. That tells me that the leverage point for you here is really going to be on the expense side. Again, that may discount summers. There may be other, you said you have stipend things and stuff. I don’t know if that’s during the summers and you have time to generate more income on the summers, but I don’t think you’re going to make an extra 50 grand on top of your salary or anything like that. Maybe there’s 10 or 15 to be made. I don’t know.

Erik:
Sure. I’ve driven for Uber and Lyft, a few summers.

Scott:
Great. There’s clearly a willingness to hustle and all that. I think it comes back to expenses. When I look at this, you’ve got your primary mortgage. Your 15 year refinance is going to, again, compound this problem in the short run. It may give you that debt free goal awhile later, but your payment is going to go up, even though your interest rate is going to go down, because you’re going to be paying it on a 15 year. What are you paying now and what’s going to be the payment after your refinance?

Erik:
Without the pre-payment included, currently 2,800 or so, is the payment now and after the refinance it’ll be about 3000.

Scott:
Okay. In effect, we’re actually going to get more cash back into your life, because you’re considering stopping prepaying the loan at 500 a month. Is that what I’m hearing?

Erik:
Yeah, originally I was just going to keep paying the same amount, 3,300, whether it was 2,800 or 3000, I was just going to keep paying it, because we’re used to it, at this point, but if there’s a better way to do it, which you’re saying there is, that’s something that we definitely want to look at.

Scott:
I wouldn’t do that frankly, if you want to continue making that payment and not miss the money and move it towards debt, I’d shift that to all the incremental of that payment going to the HELOC rather than the primary mortgage share, at one to eight on the primary mortgage, and you’re at four, that’s just simple interest rate arbitrage. And regardless of which methodology you like, the avalanche or the snowball, that just makes more sense to go to the HELOC.

Mindy:
I would really consider prepaying the HELOC over prepaying the primary. I like that your mortgage payment is only changing by $200, because you’re getting such a discount on the interest rates. You said, you’re refinancing, are you pulling any cash out of that refinance? Is that an option?

Erik:
It would be an option, but we’re not.

Mindy:
Okay. Because, well, at that interest rate, if you could pull that money out and put it towards the HELOC and payoff the HELOC at this 1.875, that is something to consider and just run the simple numbers, if when I don’t pull any money out, my payment is 3000, plus I have this $1,000 HELOC payment. When I do pull money out, now my payment is 3,200, but you don’t have this additional $1,000 going to the HELOC. That frees up some money too. That’s something to consider. I don’t know your timeline on your refinance and if it’s still an option to pull that out, but I would definitely reach out to them and see what the options are.

Scott:
Where are you on that refinance?

Erik:
We’re about to sign.

Scott:
About the sign.

Erik:
Yeah. Unfortunately I think we’re probably past that point, but Mindy, I’m really glad you brought that up because that was something I really wanted to ask you guys about. Like I said, it’s probably past for the opportunity right now.

Scott:
I’m going to stop right here and challenge that though. You call up your lender and you say, I want to back out of this mortgage and I want to take more money out at a higher interest rate. They’re not going to be like, you’re blowing me up out of it. Your broker is going to make more money on that. Right? Do not feel you’re going to ruin it for them or whatever with that or losing advantages. I think this is a critical moment for you with this refinance and structurally I’m hearing from you, my goal is to set myself up for early retirement well in advance of my pension timeframe. This trick is not going to do it in my opinion. I think you’re setting yourself up with this 15 year mortgage for having to spend the next 10 or 15 years, throwing everything you got at the mortgage and growing wealth primarily, literally most of your spending.
The single biggest part of all of your spending is going towards this mortgage payment right now. That’s the plan according to your financial statement, it may not be what you’re thinking, but that’s the plan according to your financial statement is, I’m going to pay down my mortgage to retire. I don’t like that plan, frankly, because that primary residence to me, isn’t that freedom. You’re not going to borrow against your primary residence to fund your lifestyle, or I don’t think you should.
I think you generate wealth and freedom in this world by buying rental properties that spin off cash flow or buying stocks that generate dividends or accumulating liquidity in your reserve, that you’re willing to spend to finance your life or starting a business or those types of things or earning into that pension or whatever it is. But I don’t think the primary residence is the way to go. I’m not saying it’s an emergency, but I think it could be worthwhile taking a step back and saying, how do I back out of this loan closing process and rethink my capital allocation structure, because this is the 80, 20 of the situation here. How much is your house worth and how much is the mortgage amount?

Erik:
The house is worth about 500,000 and the mortgage is at 300.

Scott:
Okay, great. You’re currently paying 2,800 a month, but in your mind, you’re paying 3,300 a month. Right?

Erik:
Right.

Scott:
I love Mindy suggestion. What if we went with a 30 year mortgage instead of the 15 year and pulled out $75,000, consolidated your debts, maybe that interest rates 2.25, instead of 1.85, or I don't know, there's going to be a higher interest rate with a 30 year mortgage, right? You've consolidated your debts. You've arbitraged some of those debts and now you've got a much better fixed payment. You have to spend $1,000 a month, every month for the next five years to pay off that HELOC. Right? Plus the interest rate. Instead, now we're at maybe a 3000 or $3,100 payment if you're refinance, pulling a little bit of that cash out to consolidate some of these debts, and you've got a much greater freedom situation in my opinion. You're not going to use that home equity to retire until you pay off the $300,000 mortgage, right?

Erik:
No. Frankly, the plan was to keep the HELOC, and then once it's down enough, use it for more rentals, things like that. But I see you're shaking your head.

Scott:
I don’t like think. I think that’s inefficient. I think that’s going to create a lot of stress in your life as you go about doing it that way. I think you’re getting to a position of strength and then immediately getting into a position of weakness every time you buy a property. What if instead you’ve got instead of a $300,000 mortgage, you’ve got a $375,000 mortgage on your primary, basically the same payment in your mind, because you’re already prepaying it now. And now you’re just accumulating cash and buying that each time from a position of strength, still what that cash position and each business is its own separate cash generation machine rather than a cash generation, coupled with this HELOC suck out of your life, if that makes any sense.

Erik:
Absolutely. I love that.

Mindy:
I would reach out to them and ask them what it takes to pull some money out. I just did a very down and dirty mortgage calculator on Google, the difference between a $300,000 mortgage amount at 1.875 and 360 is about $200 a month. You could cash out the amount for the HELOC, pay off the HELOC, then you’ve just freed up an extra $1,000 in your budget that you were throwing at the HELOC, at the 4% interest rate. I would see what that would cost to do, because it’s going to cost something you’re about to sign, but how much is it going to cost right now versus down the road when you’re still paying this HELOC off in three or five years. That’s another $1,000 you could throw at your car. That’s another $1,000 that you can throw into savings. That’s $12,000 a year, that you’re generating that you’re now saving for your next rental property.

Scott:
That’s right. I completely agree. And just make sure as you’re doing that, you’re careful to compare apples to apples, because you quoted a 1.875 interest rate, but you’re also saying you’ve paid points to get that interest rate to that level. Try to compare them with no points are the same amount of points prepaid with that stuff. You’re doing an apples to apples, but I bet you’re going to get a higher interest rate with the 30 year mortgage, most likely, but the spread, the freedom quotient might be a lot higher on that and building a position of strength there. More debt is never better than less debt, but the terms of that debt really matter a lot.
When I want to finance a business, I’d rather have $10 million debt on a business at 30 year am, than in a two and a half million dollar debt on a two year or three year payback like that HELOC, because it’s just a lot less risky to have the bigger debt over the longer period of time, in my opinion than the smaller debt over a shorter period of time, and it’s going to be a lot less stressful for you.

Erik:
I’ve never thought about it that way.

Mindy:
Another thing to think about, you can repay your 30 year loan in 15 years. Down the road, the first couple of years, you’re just paying on the lower payment, because you’re trying to accumulate money. Once you have saved up a ton of money, you can start cranking it out and still end up paying your mortgage off in 15 years or 20 years. Just because you have a 30, doesn’t mean you have to pay it in 30, but the 15 year you have to pay that off in 15 years or they’ll come and take your house.

Scott:
Now that I’m wrapping my head around the situation, the three big loans you’ve got, are your primary mortgage, your rental mortgage and your primary HELOC, which you use to buy the rental property. The first one to go has got to be that HELOC, not your primary mortgage, because that’s the lowest interest rate. I would definitely not refinance at a 15 year and then begin prepaying that additionally, before prepaying the HELOC. I would either continue with your 15 year mortgage, but attempt to pull some money out. Or I would try to get that 30 year mortgage and pull some money out. It definitely should refinance if you can get a lower interest rate by a substantial amount. My preference like Mindy is probably that 30 year fixed rate mortgage with some money out, that you then don’t use to buy the car or whatever, but that you use to recapitalize your debts and have a little bit of cash left over, maybe to capitalize your rental business and those types of things.
Take care of that stuff and then really focus on that financial fortress and the spending on a month to month basis, so that you can get that three, $4,000 a month in cash accumulation and continue doing all the great work you’re doing already to build long term wealth.

Erik:
That sounds great. Like I said, that’s definitely not a way that I had looked at it. I really appreciate you taking a look at the numbers and really crushing it. Both of you. Thank you.

Mindy:
Good. That’s why we’re here, to provide a different perspective. Let’s look at your grocery budget.

Erik:
Do we have to?

Mindy:
We do have to, because it is $1,000 a month. You have to eat. It’s not like you’re going to be able to get that down to $1.50. What does this $1,000 look like? Do you have a special diet? Are you guys foodies? Do you go out and enjoy fine dining, or is this just last minute running to the grocery store or running to the fast food because there’s no meal prep? Which is my life. I’m not judging you. I’m judging me. That’s totally my life.

Erik:
Out of that $1,000, about 200 to 250 is dining out. We do go as a family to, not any particular places, very extravagant, but it does cost money to have four of us, or three of us and the two year old. That’s part of it. The rest of it really is groceries. We do try to buy organic when we can, even though it is a little bit more expensive and we do plan our meals every night and we don’t just go out and say, we don’t have anything planned tonight, so we’re just going to go blow 50 bucks at a restaurant. We try not to do that. The rest of that, believe it or not is a lot of groceries.

Scott:
You have a two year old, right?

Erik:
And a seven year old.

Scott:
So you have a family of four, that didn’t strike me as super unreasonable from a grocery and dining out budget, from my seat with a 200 a month for eating out, given your incomes, I don’t think that’s irresponsible at all with that. But you can probably cut more out of that if you’re a little bit more intentional, but I think that that’s a less pressing problem than your overall capital strategy from what we discussed earlier.

Mindy:
Your car insurance is $160 a month?

Erik:
That’s correct. For two cars.

Mindy:
For two cars? Have you considered shopping that around? Have you been with the same company for a long time?

Erik:
We have, but we do continue to every year we get something in the mail that says, hey, call us for a quote and we’ll check a $25 gift card or something. We have asked and actually every insurance company we’ve asked has said they can’t get close.

Mindy:
Okay. Well, then there’s no room there.

Erik:
There may be other companies out there we haven’t tried yet, but we certainly have looked at a few other options.

Mindy:
I’m not seeing a ton of opportunities now to cut, $200 in entertainment, that’s not extravagant. $75 for gifts, $65 for gas, life insurance, car maintenance, clothing, pet care. I’m not seeing a lot of extravagance there. I think the rental property is really what’s making it look like you have a lot more expenses than you do. Like Scott said, re-categorizing your expenses into rental property and personal. I would take these 403(b) contributions out of the expense category, because they’re coming out of your check before you even see your check. Do you have opportunity to contribute to a 457 plan?

Erik:
I didn’t know want a 457 plan was until I listened to the podcast this week.

Mindy:
Okay.

Erik:
So, no, I may have an opportunity. I didn’t even know they existed until this week.

Mindy:
Okay. My sister-in-law just asked me, this was so awesome. She just asked me for advice on money. I’m like, yeah. I asked her if she had a 457 and she said, “I don’t know. Let me check.” She said, “I do. I do.” I contributed to that one first, because when you separate service from your school, you have access to all of those funds. You’re reducing your taxable income by contributing to it, but then you can access it and move it someplace else. You can roll over to an IRA and then start investing in real estate through that method if that’s something that you find value in. The 403(b) is great. You’ve got a nice bunch of money in your 403(b). Your wife does too. Having that is great, but also the 457 plan is another option to look into it if it’s available. Listen to the millionaire educator episode of our show as well. I wish I had that episode number handy.

Scott:
I can’t remember which one it was, but there’s a lot of good stuff to learn from that. My overall impression of your spending is not that you’re doing anything irresponsible on the personal spending side of things. You can probably button up as long as you’re paying attention and making it a focus, every week or every month to take a little bit of a dive into each of those categories, just to do a sandy check, make sure you’re reasonable there. The things that are crushing your cash accumulation are your primary mortgage, your rental mortgage, your rental HELOC, your grocery bill, which again, I don’t think is out of whack there. What I’m seeing though, is that, you’ve got, what’s called $33,000 if you cash out refi, if you take that advice and cash out refi, you’ve got $3,000 in monthly mortgage expense, plus 1,000 in groceries coming out of your personal position.
Plus another 2000, let’s call it in other expenses on 9,000 in income, that gives you 4,000 leftover give or take. And from anywhere in the ballpark on that. I think you should be sitting there and scratching your head, if I’m not putting in at least $3,000 towards investments, if I’m really pulling in $9,000 a month after tax and after my 403(b) contribution, then why am I not depositing a $3,000 plus into my savings account or just general liquid wealth that I can touch, what’s going on there? Why is that not happening? That was my problem with this at first as well. I think we discovered it. It’s the rental property that’s doing that. You are directing a lot of that free cash flow towards this rental property and you’re not done yet. I would take care of that problem with the recapitalization. I would separate the business.
I think once you’ve thought that through taking a step back and set that up, you’re going to look at it and you’ll be like, okay, great. Now, if I take these actions, I’m going to be in that position, and guess what, over the next two years, you’re going to be in a much better position because some of these lingering personal debts, like the carload are just going to take care of themselves as you just make the continued payments. And all of a sudden you’re going to be left with another six, $700 a month in cash accumulation. That’s a good position to be in. If you can start accumulating three, $4,000 a month in liquidity, after the good stuff that you’re doing with your retirement account contributions, you’re going to be able to invest in all the real estate you want once a year.
I think that’s the North star I’d shoot for. And then from there, the path toward financial freedom is going to open up more and more options to you each time, as long as you’re doing it from position of strength and not, again, just sucking all that cash out with the HELOC approach here.

Erik:
I love that. That’s exciting.

Mindy:
I would to see you rewrite out your expenses and your debts based on the way that Scott and I categorize them. Not that we’re the end all be all, but we are, for the purposes of this show anyway. Your retirement contributions are not an expense because they come out before your check. Start with your check, 9175. This is how much we have. And now we write checks to these things on a monthly basis. Your car payment, your mortgage payment, your food, your HELOC, your charitable giving, all of the things that take money away from that 9,000 and see what’s left over. You say that you track your spending and here’s where I’m going to come in and recommend Scott’s all, oh, you should use Mint. I love the notebook because it is in your face right there. And as you’re going through the month, I’m at the end of the page, I’m going to have to turn a page to add more expenses. I don’t want to do that. I don’t want to.
I’m going to make it into a game and try to not add any more lines. It’s really powerful to see it in front of you, as opposed to going into Mint after the fact and seeing where it all went. When you’re doing it in real time and you’re looking at it in real time, it can get a little scary. For me, it was always, I have to tell my husband. I didn’t know you could lie to your husband about your money. I would never do that, but I didn’t know that was a thing until I read this book, I’m like, wait, you lied to your husband about money? He doesn’t hold it over my head. It’s just, I feel I need to be completely honest with him about our financial situation.
He feels the same way. And having that on that paper, he’s going to ask, why did you go here? Not, why did you go here? Just, why did you go here? Oh, well, I really just wanted this one thing that doesn’t change my life at all. That notebook is really, really powerful. I would like you and your wife to look through your expenses and consider tracking them like that, and seeing where all the money’s going every single month. And then as you see it in real time, it starts to shift, I don’t really want all of my money going there, so I’m going to change my mindset. I’m going to do it in a different way. It’s not an overnight success. You’re going to make mistakes, because nobody’s perfect, not even Scott.

Scott:
I love it. I think that that’s a critical component. It’s making sure that you’re, again, keeping that liquidity. I think the 80, 20 of your financial position is again your allocation and how you’re directing your money at the highest level. But I also think Mindy’s completely correct, that if you can really tighten up that spending piece, that is going to help you dig your way out. The danger for you is, I think it would be a mistake to do what Mindy is saying, and then continue along this path of capitalizing your situation in such a way that it’s going to leak right out the back end. Again, even though you’re spending less and less and building more and more wealth on paper, you’re just going to get into more and more of a stressful financial situation if you continue along the path, I think that you’re going with the way you’re managing your debt situation.
Even though, again, you’ve got good debts at low interest rates in theory that are designed to improve your position. I just think that you should be ruthless, cold, calculating and ruthless about, is what I’m doing with my cash flow making me freer, or is it giving me more trouble? If you said to me, Scott, I want to retire in 15 years with my pension and have no debt whatsoever. I would have said, everything you’re doing is setting you up for that result. In the meantime, you’re not going to be able to build a large cash position. You’re not going to have good shots at entrepreneurship. You’re not going to able to buy a lot more real estate, but, hey, you’re going to pay off your house and this rental property, and then have your pension and nice 457(b) plan. That’s what your path you’re currently on is going to do.
If you want to get somewhere before then, or have that freedom earlier or move on with that, I think you’re going to have to make a change and think about your debt structure and then do exactly what Mindy said and really be ruthless about your spending.

Erik:
That makes a lot of sense, but we definitely need to sit down and discuss that. That’s like I said before, it’s a great way of looking at it that we certainly had not.

Scott:
The reason I do this is because I know this is your life and a lot of things. Of course, this is all for entertainment purposes only, nothing of this is financial or legal advice, but because I’m thinking through it, and it’s such a large set of numbers and moves relative to these things, the stakes are so high. I’m just trying to make sure I’m feeling good about that. And I think I am, I’m feeling better and better about that as the assessment of your situation with it. Again, that comes down to you owe your lender nothing. You have to have an embarrassing call and they’re frustrated and you back out of that, too bad for them. Too bad for them. You might be out a little bit of money, if there was some fee involved, but you haven’t signed anything. I don’t see why you’re not able to back out. I wouldn’t sign the paperwork until you rethink how you want to manage your debts at a fundamental level going forward in pursuit of that goal.

Erik:
That makes a lot of sense. Mindy, I loved your comment too, about sitting down and doing that with the notebook. We started listening to BiggerPockets money and we love the idea of the monthly money meeting. And so we started doing that a couple of months ago. I’m the one that does most of the finances in the family and we’ve been okay. My wife’s been okay with that too, but we sat down and we started working on it and it really does make you feel better having that chat every month. And so right on. Thank you guys too, for mentioning that over and over again.

Mindy:
That’s fantastic. All the couples that we talk to, continually have a regular money meeting. It’s not necessarily monthly. Some of them do it weekly. Some of them do it quarterly, but it’s a regular money meeting just to check in. The first one is going to take a long time. But as you go through them, you can see your budget. I hope you love spreadsheets. You have to, to be a member of the personal finance community. You have to love spreadsheets. I bet three people who don’t. But have the spreadsheet and have the snapshot of what’s going on. As you start looking at it, it gets easier to quickly look at the snapshot. That’s the night that the girls sit in front of the TV and watch a movie, and that’s okay. Sometimes TV is a great babysitter, but it’s just a time for you and your wife to sit down and have the conversation. I don’t remember who we were speaking to, but she said, it isn’t me against him, it is us against the world. It is the two of you against the whole world, and you are going to win.

Erik:
Love that.

Scott:
You’ve got a really healthy relationship with all this stuff. You’re doing all these things that are really right. I see a future for you where you get into that position we described earlier over the next six to 12 months, where all of a sudden things get a lot easier from the financial position and you’re just accumulating all this cash. And you’re like, huh, Scott and Mindy, what do we do with all this 3000 in cash now, every month, that we’ve got and deploying that in the most effective way. More contributions to 403(b) or that next rental property investment. I think that all this stuff is going really well and you’re a good position. Just got a couple of big decisions to make around the debt management and then button up on the expenses.

Erik:
Right on. Thank you.

Mindy:
Erik. This was really helpful to see where you’re going and what you’re doing. I think that a lot of people are going to get some value out of this, to look at their own situation and say, where can I make some tweaks that will really have a long term benefit for me? I appreciate you sharing your finances with us today. This was really great.

Erik:
Thank you so much. I just appreciate how real, how wonderful, how authentic all of this is. I think it’s going to really help a lot of people. I think it’s a really interesting, good and fun and tough challenge. Thank you.

Scott:
Definitely. Thank you so much for taking the time.

Mindy:
I would to check back in a couple of months and see what decisions you’ve made and see how it has impacted your finances.

Erik:
All right. Let’s do it.

Mindy:
Okay, great. Okay. Erik, we will talk to you soon. I hope you have a great day.

Erik:
You do the same. Thanks.

Scott:
Thank you, Erik.

Mindy:
Okay. Scott, that was Erik, the teacher with his finance Friday dilemmas. What did you think?

Scott:
I think that again, through seven of these finance reviews, that what’s becoming super clear to me, is that this is an art. This is an art, not a science, it’s a science in our minds for us as individuals, it may be a science. It may feel there’s a right and wrong answer, a black and white, but as we’re learning, there’s so much gray and there’s so much areas and room for debate on all these topics. There’s no one right choice and you can do the right thing and it can have an implication for the short run or the long run that’s different than what you want. I’m learning so much here. I think that’s so helpful in thinking through this stuff, because I don’t think Erik has made any wrong decisions, right? In his finances. He’s made decisions that are limiting his flexibility and freedom, and may not be directly in pursuit of his stated goal of trying to retire well in advance of his pension funding. But I just think it was a fascinating discussion and I hope it was helpful to you if you’re listening.

Mindy:
Yes. I agree with you 100%. He’s not doing anything wrong. There’s just things that he can be doing better to help him move towards his goal.

Scott:
Absolutely. And those things that he could be doing better would be different if, again, if his goal was to sit there at the time when he was eligible to fully fund his pension with no debt, just complete freedom of the no debts and an asset base and a pension, all that stuff. That’s not what he wants. He wants to retire earlier than that. And for that, I think that he’s going to have to make some changes, because its financial position is currently set up in my opinion, to fast track him towards that debt free zone, long term rather than that freedom now zone.

Mindy:
I completely agree. Welcome back, Erik. Listeners, we recorded the episode you just finished listening to way back on December 9th. We are recording this followup episode on February 2nd, almost two months after we spoke with Erik. Erik, tell me all of the things that you’ve done since we last spoke.

Erik:
Oh my gosh. Well, we were so excited, my wife and I to have our of clarity, looking at our ideas and where we want it to be. I think one of the things that you and I and Scott didn’t get to touch on as much, were just the bigger goals. I know we were talking a lot about the more minute details of what goes where, but one of the things that we’re really lucky and fortunate, is that, in about 10 years, we’ll be eligible for some pension income, even if it’s reduced because we’re retiring early. That does give us a little bit more flexibility as far as what we do with our money going forward. We’re not looking to retire in the next two or three years. We really enjoy teaching. It’s something that fulfills us, not just monetarily, but that’s where we’re at.
But we are looking to do some different ideas. We want to work until we’re ready to retire, and not feel like we’re ready to retire, but have to do another 10 years in order to be completely vested in our pension. We don’t think that’s fair for our students, my wife and I, and we don’t think that’s fair for our family to do that. When we’re ready, we want to say we’re ready and be able to make that change.

Mindy:
That is 100% the point of being financially independent, because then you can still choose to work, but you don’t have to work.

Erik:
Exactly. I was reading an article and I don’t remember who it was by. I wish I could find it again, but they were talking about fire versus fund, which is financial understanding and new directions. I think that goes with us. We are looking to retire early, but we’re not looking to retire in our 30s. I’m already 40. This was how we’re looking at it. Anyway, after we were able to chat, we were in the middle of our refinance on our primary residence. We hadn’t done it yet. I emailed or contacted our loan officer pretty much the next day after discussing it with my wife and we were both on the same page. We ended up doing a cash out refinance instead of a 15 year. We did a cashout refinance to 30 years.
We decided to pull out all of the equity that we could, which is about 80% of value. We were actually able to cash out, pay off the HELOC and start capitalizing our real estate business right off the bat. So we were able to take that cash, put it aside and now we’re sitting on a reserve that will help us get to our next real estate acquisition, next investment. We’re really excited about that. Because now we’re not prepaying all that principal on our mortgages, we’re actually able to save just about 40% of our net income every month, which is something that we were not able to do, because we were putting it all towards the extra principal and paying off these loans. It’s just a different way of thinking about things. It really has offered us, opened up some really needed new directions as far as where we’re looking.

Mindy:
That’s fantastic. I’m so happy to hear. Now, when we did talk to you back in December, you had some ridiculous low interest rate, was at 1.875?

Erik:
That’s right.

Mindy:
What did your new mortgage come out to?

Erik:
Well, because it’s a cash out and we did the 30 year, it’s 0.375% for that cash out, which allowed us to pay off our HELOC, which was, I believe it’s 62, 63,000. Once we get our escrow back from our old mortgage and all that, will be about $30,000 in cash leftover from that cash out refinance.

Mindy:
Oh wow. That’s fantastic.

Erik:
To help us start doing that, we’re not planning on using it. I think you or Scott had mentioned, don’t go out and buy a boat. Don’t go out and go on a $15,000 trip around the world. We’re taking this cash, putting it aside for our next real estate venture or rental, which now instead of waiting that five years to pay off the HELOC and continue doing all that principle, we’re looking hopefully within the next year to do our next rental property, between what we’ve been able to save and what we were able to get the leftover from the refinance.

Mindy:
Okay. Did we have any other debts that we were trying to pay off? I think you have the primary residence that you were refinancing. You have the HELOC on the primary to pay for this rental and now the rental is just by itself.

Erik:
Correct.

Mindy:
You have paid off your HELOC.

Erik:
Correct.

Mindy:
Did you make any other big fabulous changes? That sounds so mean. Did you do anything else? I don’t mean it like that.

Erik:
We did not pay off our car loan, because that’s down near 2% right now. We didn’t think it made much sense to do that. There’s still about 9,100 left on our car loan, which will be paid off under two years. We figured that there were better things to do with that cash then pay it off.

Mindy:
Right. 2% falls under Scott’s four and under. I don’t even worry about it. I just pay that and keep the debt.

Erik:
Yeah.

Mindy:
Okay.

Erik:
Aside from that big change, as far as where our big debt is, I know Scott’s mentioned on the program a couple of times that he is a big fan of another financial independence podcast. Am I allowed to mention the name here?

Mindy:
Of course you are.

Erik:
ChooseFI.

Mindy:
We love ChooseFI.

Erik:
That’s also a podcast and network that I’ve been listening to now for a few months. They had a great guest on who was talking about 403(b)s and the wide world of strange 403(b) dealings. We had one of those very high price 403(b)s, actually both of us through our school districts. I’m about done with the process of moving it over to a discount broker to be able to take care of that. We’re going to be losing about 2.5 % of fees every year by moving it over to that. That’s not something we had talked about on the podcast before, but that’s just something that happened since then as well.

Mindy:
That’s fantastic. You’re not losing 2.5 % of fees. You’re gaining 2.5 % of fees. You’re shedding 2.5 % of fees. That’s awesome. Do you want to talk a little bit about that 403(b), because I didn’t know you could move that to a different broker to hold onto.

Erik:
I didn’t either. I didn’t either, but this is a great topic and something I did not know. The 403(b)s at different jobs, when I look at the different options in my district, I have maybe seven or eight different providers. Now, it looks they’re approved by the district and they’ve been vetted by the district, but districts don’t do that. They basically put on, I guess if there’s enough interest in a particular provider, they’ll just put it on as one of their providers. Both my wife and I went with the first one who came in and said, hey, would you to open a 403(b)? For me, that was 18 years ago. For 18 years, I’ve been diligently putting away money out of every paycheck into our 403(b). It’s done well. I’m not saying that it didn’t do well, but I didn’t know that I’m paying over 3% in fees-

Mindy:
Oh my God.

Erik:
… on annuities and mortality fees. I don’t even know what some of these are, but once I heard this podcast episode, I went and checked and went, oh my gosh, I’m the person that they’re talking about, where I’m paying over 3% of my fees every year to have this 403(b). It wasn’t easy. But I looked down the list for a low cost provider with my district, luckily we have one. And so after filing the paperwork back and forth and back and forth for about, well, really, since we were on before, I have finally been able to get that money moved without penalty, without taxes, over to a different provider.

Mindy:
I know about this from the 401(k) aspect of it, when you’re going from 401(k), you’re rolling over from a past employer whenever you go from 401(k) to IRA or 401(k) to a self-directed 401(k), as long as you don’t take possession of the money, you don’t pay taxes or fees. You’re going from a pre-tax account to a pre-tax account. You want to make sure that they make the check out to the new pretax account name, whatever that may be. I’m assuming that you had to do that. I just want to throw that in there because if somebody doesn’t know about that, if they wrote the check to Mindy Jensen, I would have sent it back to them and said, Mindy Jensen doesn’t want this. You need Mindy Jensen, the 401(k) to have this money. I just want to throw that out there really quickly.
But that’s fantastic. I didn’t know that, because I don’t have a 403(b). With the 401(k), your company’s like, your options are two, take it or leave it, and that’s it. With a 403(b), it sounds like you have more options. I’m excited for anybody who has a 403(b) to look into this as well.

Erik:
There’s a great community and website out there where you can basically check the different fees on pretty much any 403(b) provider, it’s called 403bwise.

Mindy:
403b W-I-S-E?

Erik:
Correct.

Mindy:
Okay. We will include a link to that in the show notes as well, 403bwise.com

Erik:
Dot com or dot org. I don’t remember. I’m sorry to say.

Mindy:
I will look into it and I will put it in the show notes.

Erik:
Excellent. It’s just, we’ve continued to take a look at places where we can chip away. Scott’s book talks about the static parts of your budget or on JJ. I forget the word that he uses.

Mindy:
I can’t remember what he uses either, the book is upstairs, so I can’t even flip through it really quick. But the core three, the big ones, the big three, the housing and the car and the transportation and food.

Erik:
Right. We do go out as a family once a week to have a dinner out. We don’t go to super fancy restaurants, but even for a family of four, if we decide to have a drink and an appetizer and a dessert, we’re looking at a hundred bucks for the family of four. And so while we weren’t paying that every week, we were going out to places that were a little expensive and that ended up killing our budget. Because of the pandemic, we’re not dining in, in our area. The restaurants are open, but it’s pandemic, so we decided not to eat in. So we just, instead of going out every week there, we would go maybe once or twice a month. And then those other weeks we’d go to Wendy’s drive-through, get a cheeseburger for my eight year old who’s thrilled, get some nuggets for our two year old, we’d get a burger, pay 15 bucks and we drive around and look at the Christmas lights.
It was more exciting for the girls than sitting there at a stuffy restaurant. It was fun, do something different. I think that’s something that we’re going to continue. That made a difference in our budget. That probably saved us 150 to 175 bucks a month just in doing something, and we’re getting the same, if not better enjoyment out of it.

Mindy:
That’s fantastic. Every little bit counts. And now you’re able to save 40% of your take home pay, which is no small potatoes. The restaurants, the kids don’t care. They want to spend time with you. They don’t care about the things. They don’t care about the restaurant experience. You know what, I love Wendy’s. We would go there just for a frosty and the kids, you get the little tiny one and the kids are super excited about it, but we go around and drive around and look at all the Christmas tree lights. I actually live next door to the Griswold’s, so we don’t have to go very far to see the crazy lights. They’re still up, it’s February 2nd. It’s so easy. I live next door to the Griswolds. Wait, what? You’ll see. And then they’re like, Oh, I see.

Erik:
Nice.

Mindy:
It glows, their whole house glows, but it’s wonderful, and there are several around town that are like that. We go and we drive past them and they love looking at them. And just, you’re having a conversation, when it’s dark outside, the kids aren’t on their tablets, they’re not on the books, they’re just talking to you and that is priceless.

Erik:
Absolutely. That’s something we’re definitely going to keep doing. I don’t know, somebody, I think talked about on one of the episodes, talking about how they actually got more excited about it, because they knew they were saving that money and that in and of itself was exciting too. I think that’s definitely where we’re at as far as the dining out budget.

Mindy:
Yeah. I started tracking my spending because my husband was like, “Why are we spending so much money all the time?” I’m like, “I don’t know.” So we started tracking it on a notebook, right by the door where I came in and we started noticing instantly how much we were spending at the grocery store. And then it became like, Oh, well, that’s ridiculous. I need to stop that. Then it was a game. How little can I spend at the grocery store today? How little can I spend this week? How little can I spend this month? Frankly, when it comes from a place of not hardship, it’s a lot easier to have this game be fun, but you can also just really gamify the system and just crank yourself so far ahead.

Erik:
Absolutely. That’s something we’ve enjoyed. Other than that, we finally cut the cord. I know that’s definitely been mentioned in the FI community, cutting cord. We went from 145 a month for cable and internet down to 45 a month, and we don’t even notice a difference. Already paying for Disney plus and Hulu. Why am I going to pay for live TV too?

Mindy:
If you have a problem with the reception, I have a big antenna that my husband loops over the top of the stairwell, but it gets great reception and I don’t need all the rest of the stuff. Frankly, all the TV is crap. I’m sorry, if you watch TV and really enjoy it, that’s great. I just can’t get it into it. every once in a while I’ll binge, but for the most part, it’s just like, I want to watch football and the Avengers movies.

Erik:
Yeah, right on. I understand.

Mindy:
And Disney plus, because it’s, what is it? $8 a month, that’s a no brainer when you have kids.

Erik:
Yes, absolutely.

Mindy:
Well, Erik, this is awesome. I’m so excited that this was helpful. The conversation was helpful. I’m super excited for you and you’re catapulting yourself into the stratosphere with that 40% savings rate. That’s so awesome. Does it feel pinchy to be saving 40%?

Erik:
Not at all. It honestly feels very similar to how we felt before. We’re just making the best out of where we’re at. Honestly, we feel great.

Mindy:
Everybody I talked to who does the, I cut everything out and then they add a couple of things back in. They’re like, I don’t miss all that other stuff. This is just yet another example of the stuff that isn’t necessary and then go back in and add stuff in when you need to have it. You’ll be surprised that not everything comes back in and you don’t miss the things that you didn’t need.

Erik:
Absolutely. As far as the paying down principal early versus investing it, looking at the numbers, it just makes sense. Why am I paying down something to save 2.5 % versus putting it aside and then investing it and making 8%, 10%, whatever it is, looking at it, the way that we did back two months ago provided a lot of clarity.

Mindy:
I’m so pleased. I’m sorry, Scott, wasn’t here to listen to this, but I will share this with him and let him know that his suggestions were very helpful.

Erik:
And yours too. We got both sides. We really appreciate. Mindy, this has just been fantastic.

Mindy:
Erik, this is wonderful.

Erik:
We’re so appreciative. Thank you.

Mindy:
I’m so happy you came back to give us an update and thank you for taking the time out of your day. It was very helpful.

Erik:
And thank you too. We really appreciate it.

 

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In This Episode We Cover

  • Why rental property owners should always have a strong safety reserve of cash
  • When prepaying loans may be a good or bad idea
  • How to not over-categorize your budgets and expense tracking
  • Pros and cons of using a HELOC to finance a down payment
  • 30 year mortgages vs. 15 year mortgages (rental and primary residences!)
  • Why you should separate your business expense tracking from personal expense tracking
  • Why a 457(b) plan is great for those who have it available
  • And So Much More!

Links from the Show

The BiggerPockets Money Podcast is for anyone who has money… or want to have more! Join BiggerPockets Community Manager and Podcast Director Mindy Jensen and CEO Scott Trench weekly for the BiggerPockets Money Podcast! Each week, financial experts Mindy and Scott interview unique and powerful thought leaders about how to earn more, keep more, spend smarter, and grow your wealth. You'll get tips for getting your financial house in order and actionable advice from guests who have been in your shoes—and found their way out.