Wednesday, April 9, 2008

Budgeting: Part 1: The Big Picture

"These people who are always briskly doing something and as busy as waltzing mice, they have little, sharp, staccato ideas, such as: 'I see where I can make an annual cut of $3.47 in my meat budget.' But they have no slow, big ideas."

- Brenda Ueland

Budgeting ought to be about very big ideas, yet somehow we have managed to trivialize the budgeting process and transmogrify it into various pedantic exercises. Budgeting has taken on such negative connotations that it is no wonder that one third of people don't budget at all and two thirds say they are unsuccessful at budgeting. For many people, budgeting has become merely:
  • An exercise in arithmetic. "If the numbers all add up, then I've really accomplished something."
  • An exercise in irrelevance. "I made up a budget once. I never did understand it. It was just a bunch of numbers. It never did anything for me."
  • An exercise in technology. "I learned how to use all the features in Quicken or Money, so I guess I have a pretty good budget."
  • An exercise in statistics. "If my spending conforms to what other people spend on average, then I must be doing OK."
  • An exercise in fantasy. "I construct the budget I would like to follow, but it bears no resemblance to reality."
  • An exercise in guilt. "I'm always over budget. I feel terrible. If only I didn't have a budget, I would feel better."
  • An exercise in magic. "I thought creating a budget would magically make all my debt disappear and I would be on the road to riches."
  • An exercise in power. "I will make make other members of my household conform to my spending plans!"
  • An exercise in negativity. "I can never do anything or have any fun because of my stupid budget."

In order to avoid these traps, try to start with the big picture in mind before you begin to work on your household budget. DON'T start with the average housing or grocery bill in the country. Instead, ask yourself big-picture questions such as the following:
  • When I look back at age 70, what would I like my life to look like?

  • When was I the most happy in my life? Why?

  • If this morning I was diagnosed with a terminal illness, what would I do during the next 6 months?

  • Am I satisfied with my contribution to the planet?

  • What do I regret NOT having done in life?

Unfortunately, while the average person may see the value in asking such questions from time to time, they probably think that such "heavy" questions have nothing to do with budgeting.

But the reality of achieving lifelong objectives is that the big picture needs to permeate everything in your life - including budgeting. With any endeavor, the first question you want to ask is: What is my objective? Budgeting is a tool that can help you accomplish your objectives, but how can you properly construct your budget if you don't know what your objectives are?

And pushing it further: Why limit your objectives to this year's income statement? I suppose you could read Dickens to "learn the street names in London", or you could listen to Beethoven to "hear what a violin sounds like", but how foolish it would be to stop at that point! In the same way, why use a budget merely to make ends meet or to save some money?

It is often said that money cannot buy happiness. Fair enough. However, we usually recognize that money can to a large extent be traded for time and vice versa. We also often define money as a store of value. Budgeting, being a tool to manage money, can therefore be extended to help manage those most precious of commodities - time and values. And if economics can be defined as "the allocation of scarce resources among competing ends", then I contend that the household budget is nothing but economics in action at that level. Budgeting is all about choices, and you are the decider!

When people find out that we have a formal household budget, they often ask why we bother. Surprisingly to many people, the real reason we have a budget is not to save money or to provide discipline (although it probably does both of those things). We formally budget our financial resources in order to make sure that our finances are aligned with the big picture of what my spouse and I are attempting to accomplish with our lives.

Are you doing the same?

Tuesday, April 1, 2008

Negative Reactions To Early Retirement

"Keep away from people who try to belittle your ambitions. Small people always do that, but the really great make you feel that you, too, can become great."

- Mark Twain

While I certainly don't associate retirement with "greatness", I nonetheless have found that when discussing the possibility of early retirement, I encounter a substantial number of negative reactions, occasionally bordering on the belittling attitude Twain mentions above. In my previous article, I indicated that our family and the Nielsen family experienced the same two negative reactions from many people: (1) You're going to be bored. (2) You're being quite irresponsible.

It seems our two families are not alone in this regard. A recent comment to same article on this blog asked the following questions:

"What keeps you going in the face of the two reactions by your friends? I am in a job that I dislike but is bearable for a few more years. I am working to pay my house off so I have choices of which job to have after I quit without worrying about pay as much. I have a few select people who understand this, and the rest (who don't know what I am doing exactly but are life-long friends and know something is going on) are really reacting to me not spending what they figure I must earn. I'd love to see your thoughts on how you have handled the reactions and kept going."

I think the negativity mainly comes from misunderstandings, along with a healthy dose of financial ignorance in some cases. Very rarely do I find that there is an undertow of jealousy or antagonism involved.

Many people feel that early retirement is irresponsible because they think it would necessarily involve abdicating my responsibility to adequately provide for my children. This is not the case. Obviously I owe my children a safe, loving environment and appropriate food, shelter, and medical care. Beyond that, I also owe them an opportunity for success and happiness in the broadest sense of the words - including education, recreation, and many other avenues of life. However, I do not owe them everything Madison Avenue advertises, nor do I owe them whatever someone else has in life. Specifically, for example, I don't owe them an iPod, an ATV, or a new vehicle just because they see them in advertisements, and I don't owe them a 7-bedroom house, weekly dinners at Morton's, and a yearly vacation in the Hamptons just because some of their friends choose to spend (and borrow) that much money.

Once you accept that many "needs" in life are unnecessary, a much smaller income level is possible. I've also learned that even if the desired income level is defined, most people still don't have an appropriate ballpark idea of how much money someone would have to accumulate to support that income level. Some people guess wildly too low and other wildly too high. Educated people sometimes guess way too high, and this leads them to assume that you can't possibly have that much money.

Financial articles in the mainstream press are often not helpful in this regard. I remember a prominent article last year on Yahoo Finance that claimed that even if one had a house that was paid off at age 65 plus $4 million saved for retirement, you were probably in trouble. The article suggested that under such circumstances, it was very likely you would have to downsize from a 4-bedroom home to a 2 or 3 bedroom home, and replace the mid-range sedan or SUV with a Honda Accord. This seems preposterous to me. We can talk all day long about sustainable withdrawal rates for portfolios, but at the end of the day, if a 65-year-old person (who incidentally qualifies for both Social Security and Medicare) has a $4 million stash and no mortgage, that is a lot of money. Did the writer of the article realize that with $4 million, a 65-year-old person can purchase an inflation adjusted annuity that starts at $250,000 / year, is adjusted up for inflation each year, and the payments are guaranteed for life? Think about it. You could buy a new Cadillac every year on that kind of income. (I don't necessarily think an annuity is the best choice, but because it's a defined and guaranteed income stream, it lucidly supports my contention that $4 million is a decent chunk of change!)

As for the comments from others that I would be "bored" in retirement, I can only suggest that is likely to be a psychological projection. A lot of people basically vegetate when they're not working, and so if someone can only imagine watching television and lounging around the pool during off hours, it's not very surprising they would consider life without work to be boring. Under that paradigm, it certainly would be boring. However, I do find that, for me, almost every major activity outside of work is more intellectually challenging and fulfilling than the activities I perform at work. Note that I'm certainly not disparaging work. There can be intellectual stimulation and a certain degree of fulfillment in a corporate job, and I'll even admit that my daily work experience is not really all that negative from that standpoint. However, my current vantage point is that I most certainly would not be bored if I had to expand my "non-work" activities to encompass most of my time.

So specifically how do we handle these reactions? It depends on the particular response:

  • Mindless disagreements. If someone continues to simply repeat the same criticism over and over without any true engagement of ideas, then it's time to move the conversation to a different subject. (There's no point in banging your head against the wall.)

  • Lifestyle disagreements. When someone tries to understand our point of view, but can't understand how or why we would choose not to acquire a more "upscale" or "consumerist" lifestyle, I usually try to explain that everyone draws the line somewhere. Everyone has a point at which more acquisition and spending become simply waste and decadence. I don't usually criticise where others draw it for themselves, so I encourage others to agree to disagree on where the line should be for me.

  • Financial disagreements. If someone understands your motivations and accepts your chosen lifestyle, but merely disagrees on the financial cost, then the conversation can actually be very useful. If you have friends who engage you at this level, consider yourself lucky. They can often poke holes in your arguments, force you to readjust your plans to reality, or at the very least, make you explain your assumptions and calculations in a clear and convincing fashion. This is a great thing, although it can sometimes involve some financial transparency if the conversation gets detailed.

In summary, disagreement and negative reactions can be helpful if they allow you to more fully explore and understand your own motivations or to engage in conversations with friends at a deeper level.

On the other hand, I would strongly urge anyone not to abandon their own ideas about what they hope to do with their life just to please someone else - especially if that person is not even a close family member. It is amazing to me how much we often crave acceptance from even the most casual of acquaintances. For many of us (myself included at times), we can be manipulated by a salesperson we have never met before and will probably never meet again. We may purchase or upgrade a product or service simply because we don't want to "disappoint" the salesperson or appear "cheap" or "unstylish" to him or her. Amazing!

Thus, when a friend or co-worker puts down early retirement as a losing proposition, it does affect me to a point. It sometimes does sting when someone says to me, "Come on! You could be making some serious bucks when you're 50! Think of your children! Do you really want to drop out of corporate life as a quitter? And if you stop working, you'll eventually run out of money, and then you'll end up flipping burgers or living on the street because no company is going to hire anyone with a big employment gap. Don't be irresponsible. And what's wrong with you, anyway? Don't you want to someday be proud to own a Lexus? Besides, I know you'll be much happier working. You'll be bored if you stop. Come on...everyone secretly aspires to be a Vice President. When you say you wouldn't want that, it only tells me you're either lying or you're content to do nothing with your life. Or maybe you just think you can't make it, so you pretend you don't want it."

Sigh... I'm afraid my desire to please only goes so far. Hence, I can't structure my life around comments like that. I just can't. If I really want to do something different with my life and my whole family is behind me, it would be the epitome of cowardice and underachievement to change that to please friends and acquaintances who think otherwise.