Preparing to fight debt with a snowball!

With step one complete (creation of a mini emergency fund), it’s on to step two of Dave Ramsey’s baby steps, paying down debt using a debt snowball.
What is a debt snowball? Basically it’s a very targeted way of paying off debt by focusing on one debt at a time. You list all your debts, interest rates, and minimum payments. Then, you sum up your minimum payments, look at your budget, and figure out how much more per month you can dedicate to paying off debt. That is your snowball.
These extra dollars go directly to the first debt to be paid off, on top of the minimum payment. Once that first debt is paid off, the entire amount that was being used to pay for it (your original snowball plus the minimum payment) now becomes a much larger snowball to be applied to the next debt, and so on until your last debt is wiped out in a debt avalanche!
From a budgeting standpoint, this approach is great. You have a fixed amount each month that will be dedicated to paying debt. Only the allocation changes as each debt is removed. At the end of the process you have a tidy sum you are used to not spending that can go directly to step three, saving up a fully funded emergency fund.
Sounds great, right? But what debt should you hit with your snowball first? There are a couple approaches that you can take. The one that makes the most sense from a numbers perspective is to pay off the debt with the highest interest first. This approach will save you the most money in the long run; however, paying off debt is much like weight loss, seeing results keeps you motivated.
If you think you would lose focus paying off a large debt over time, perhaps you should use the method of paying off your smallest debt first. This approach lets you see results quickly, eliminating one debt and moving on to the next. A similar approach is to pick the debt that bothers you the most (perhaps money you owe a relative) and start there. The most important thing is to start.
I opted for the low balance first approach. I have one small debt that I can have paid off in a few months, and would love to see it gone. To make it easier to see exactly where my money should be applied, I downloaded the Debt Snowball Calculator from Vertex42, recommended by Get Rich Slowly. The calculator is nice because it lets you set up your snowball using either method (high interest or low balance) or even set up a custom order. It also shows you how long it will take to pay off your debt and how much interest you will pay not using the snowball method, which is nice motivation. Finally, the spreadsheet allows you to add in snowflakes, small additional payments each month. I’ll talk more about snow flaking in a future post.
How did you structure your debt snowball? Let me know in the comments, and thanks for reading!

Financial Guinea Pig: Finding a home for my mini emergency fund

As I posted previously, I was able to sequester $1000 as a mini emergency fund.  Additionally, I want to continue to add to this fund, even just a little bit, until it meets a savings goal of 1 month’s rent, which provides me a bit more security in case my income is ever disrupted. Currently, that money is sitting in my savings account, along with the rest of my bonus.

I want to make sure this money is kept separate from my other funds, as a psychological tool to make it “off limits” for expenditures that are not an emergency. At the same time, I want to make sure the money will be available if I do need it, and I want to continue to make regular contributions to the fund.

After reading reviews,  I decided to make Smarty Pig the home of my mini emergency fund, at least for now. Smarty Pig sets up a savings account with Compass Bank, with a yield of 1.0% APY, which is one of the highest yields on the market, currently.  The unique twist to Smarty Pig is that it lets  you set up savings goal buckets within that larger account.  Currently I have a savings goal entitled “paying the rent” into which I have transferred my $1000 and am making regular bi-weekly transfers until I meet my goal of 1 month’s rent. At that time I may leave my goal alone to gain interest, or create a new goal to save just a little bit more.

Signing up for the account was easy.  I needed the bank account information for my current checking account (what I was using as my funding source), my address and SSN for identification purposes, and I had to answer a few questions based on information pulled from my credit report. I was able to set up the date an amount of my recurring transfers, and I can share my account on social media sites if desired, and also receive donations from friends and family.  I don’t think I’d want that for this account, but for someone saving for a big trip, for example, this is a cool feature.

Another interesting feature is a cash rewards prepaid card.  The card pays out 1% of all your spending, and you can drop that directly into one of your goals.  The downside to the card is the fees associated with it. The card has an initial $10 fee.  If you plan on spending $1000 on the card, that $10 comes right back. If not, it might be better if you just put $10 into your account. Additionally, although you can pull out money at an ATM using this card, there are transaction fees of $1.95, on top of whatever the ATM owner may charge.

Ultimately, this card is something I am planning to try, as part of being a financial guinea pig. I view its ideal use not as an ATM card, but as an alternative to a rewards credit card, particularly for large recurring expenses.  I plan to transfer money onto the card, and use it to pay for things like my cell phone bill and internet, items that I currently place on a “clean” credit card (one that has no balance and I pay off monthly).  Although my credit card gives me rewards, they are in the form of airline miles and I feel the more immediate growth of my “paying the rent” fund would give me greater satisfaction. At the same time, unlike a credit card, there is no temptation to leave a balance for these monthly charges (thereby incurring interest) when some other need for the money pops up.

I’ll put out updates on the account and how I feel about the card once I am able to use it for a bit.  Let me know where you keep your mini emergency fund in the comments below, and as always, thanks for reading!

Step 1: Establishing an emergency fund

As I discussed previously, I am following a rough model of Dave Ramsey’s baby steps to work my way toward financial stability. He recommends saving $1000 as a mini emergency fund to protect against the unexpected before moving into paying off your debts. Gather Little by Little explains the reasons to have an emergency fund, and discusses how much you should have in it ($1000 is not one-size-fits-all). Basically this fund is for the things that pop up that would normally throw a huge wrench in your budget.  You do have a budget, right?

A couple examples of when you might tap your emergency fund:

  1. Your car dies and you find out repairs are going to be a couple hundred dollars.  You need your car to get to work, so it’s not an optional expense.
  2. You are traveling and your flight is cancelled and you have to get back for work (this has happened to me), so you book a ticket on another carrier and deal with the refunds from the original carrier later.
  3. You manage to sprain an ankle while playing on your kickball team.  Emergency room co-pays to make sure it’s not broken, ice packs and aspirin were not in your monthly budget.  If it is in your budget because this is a recurring expense, perhaps you should stop playing kickball.
  4. A relative dies and you need to fly across the country for the funeral.

All of these expenses are items that previously would have gone on a credit card and then you would have had to pay them off over time, with interest.  Now, you just pull the money from your emergency fund (which should be paying you interest) and you pay yourself back over time, building up your emergency fund back to its starting level.

Since I recently received a bonus from work, rather than use all of the money to pay off debt, or use it for a nice vacation (which is what I really want to do), I set aside $1000 as a mini emergency fund.  Step one complete, achievement unlocked! I wish this whole process could be that simple.

This is the point where you have to assess if $1000 is the right amount for you.  Maybe it’s too high (you don’t play kickball, you don’t own a car or house), or maybe it’s too low (you have children or other family members for which you are responsible, your income source is very variable, you have sick relatives).  For me, I’ve decided that $1000 is fine for the type of expenses listed above, but for my own feeling of financial security, I want to have enough money tucked away that I can pay the rent for at least one month. Therefore, while I am working on paying down my debts, I will be transferring a small amount of money out of every paycheck until I meet the goal of one month’s rent.  As those of you in DC know, that is well above the $1000 mark.

I’ll talk more about where I’m putting my emergency fund (keeping it in reach, but sequestered from my other money) in a future post.

Do you have a mini emergency fund? Have you had to tap into it previously? Has it helped you avoid using your credit cards? Let me know in the comments below, and thanks for reading!

Baby steps to financial stability: establishing a framework

As a guide to building financial stability in my life, I’m using the model of Dave Ramsey’s baby steps as summarized below:

  1. Save $1000 in a mini emergency fund
  2. Pay off debt using the debt snowball
  3. Save 3-6 months of expenses in savings
  4. Invest 15% of into IRAs
  5. College funding for children
  6. Pay off home early
  7. Build wealth and give

Now, as I have no children, number five does not apply to me at this time.  As a renter in DC, number six does not apply to me either, although perhaps I might modify it to start saving for a down payment on a house when I reach that step.

Regarding step three, I have read several opinions that 3-6 months of expenses is not enough in the uncertain financial times we are living in currently. After having been unemployed for 6 months out of the first year of my career (to be discussed in another post), and knowing the number of my friends who have had similar experiences, I would agree. I was very lucky that when I was laid off I had saved about 1/4 of my yearly salary and had trimmed my expenses considerably, including moving into my parents’ basement (thanks, mom and dad!) to avoid paying rent in an expensive DC market. On the other hand, the fixed expenses that I have currently involve paying off credit cards and student loans.  Once I get through step two, most, if not all, of those expenses are gone, which makes 3-6 months (or 9-12 months) a much more manageable number.

Perhaps the biggest criticism of this method is that there needs to be a step zero, a commitment to changing your financial situation that is not explicitly stated by Dave Ramsey. Many bloggers say that this step should be a commitment to no more debt, while others argue that this step needs to be an assessment of your current income and expenses to figure out where you will find the money to fund step one. For me, I took the time to trim expenses, calculate my total debt and how long it will take to pay it down at my current rate, and make a plan for bringing in extra income.

What does your step zero look like? Let me know in the comments below and thanks for reading!

Becoming Penny Wise in DC

I am a young professional in the Washington, DC metro area.  After spending most of my adult life in school, I am finally launching the career that earning those degrees allows me to pursue. After living the life of a student for so long, it’s clear to me that as I am starting out in the professional world, I also need to get a financial education so that I can create as much financial freedom for myself as possible.  I created this blog to organize my thoughts, solicit ideas, and share suggestions regarding achieving financial stability as a young professional. Financial stability, for me, at this point in my life, is composed of the following:

Freedom from worrying about day-to-day money issues
This doesn’t mean being suddenly super-rich (although it would be nice if my bank account magically fattened up). This does mean being able to comfortably pay my bills without worrying about unexpected expenses.  From a practical perspective, this means creating as much space between my income and expenses as possible, while saving money in an emergency fund to take care of the unexpected.

Freedom for the future
This means knowing I can retire before I drop dead, and perhaps even buy a house or car somewhere in between. Talking to most people in my generation, we no longer count on This goal is all about saving larger amounts of money, and making wise investments so that it grows.

Working because I love my job, not because I need my job
This is a goal that is very important to me.  While I really enjoy my current job, I want to know that I have the flexibility to pursue another option if an amazing position opens up.  Also, although I only started my career 2 years ago, I spent 6 months of that time unemployed.  I learned the tough lesson that job security really does not exist, and that a steady paycheck may go away at any time. My plans with regard to this goal include saving (just like the first two goals) to provide a financial cushion, but also to generate other revenue streams so that if I was no longer at my current position (by choice or by chance), I can still pay my rent.

While working toward these goals, I will be writing about increasing income, decreasing spending, tackling debt, and making my work more flexible and enjoyable. I hope you enjoy reading a bit about my journey to financial stability, and I look forward to your feedback in the comments section.