What Should Someone Do After Paying Off All Consumer Debt? There is No Right Answer

I received an email yesterday from a reader named Jared that reminded me among my recent posts about investing and Buffett I may have been ignoring some basic tenets of personal finance.  Jared wrote me and asked,

Evan, 

First off, THANK YOU. Your blog has been wonderful to read and has been very useful to my own journey.

You may have written a post about this, and I apologize if I’ve missed it.. but I hope you might be willing to answer my question:

You have a “savings” bar on your website that shows your goals. How do you dictate how much money per month goes into these sub accounts? My wife and I are currently in a similar boat and I’m just lost as to how to decide on how much per money goes into retirement, our long-term future (down payment, investment properties) and short-term savings goals (bathroom remodel, vacation, new vehicle, etc).

I know everyone has a different situation, but I would be curious as to how you’ve come to your allotment amounts.

We are about $6,000 away from being completely debt-free (except the mortgage) and we’ve been discussing how we want to start using that money once it’s freed up from debt.

Again, I appreciate your time and your blog. It’s been tremendous in helping me learn.

I never really put together a list of “do X, Y and Z” and with good reason.  First of all, I have not hit my goal.  Without a major life change I am a long ways away from the “millions” mentioned in my domain.  I find it inspiring when I read about the passive income created by someone like Financial Samurai or someone like Retireby40 who laid out a goal of raising his son as a “stay at home retired dad” and actually did it!  For me to tell you to do X, Y and Z feels like I am just faking it because one look at my net worth statement would be evidence enough that I am just not there yet.

Second, I truly believe there are no “rules” for personal finance other than the cardinal law – most people can’t spend more than they earn for an extended period of time and get ahead.  Concurrently, personal finance is way too damn personal to provide a cookie cutter response.  For example, I spent a good amount of time saving almost $100,000 in cash as a down payment on a house where I live (Long Island) in many parts of the Country that would be a house (this account and the subsequent house was at the direct expense of my dividend portfolio which would be a lot bigger today…shoulda, coulda, woulda).

So if I can’t (or won’t) give you the answers in terms of a laundry list of savings/investing what can I help out with?

With Personal Finances YOU Have to Know Your Goals and Build an Appropriate Plan

While I won’t give you a laundry list of saving X to Y I think there are basic tenets that can help.

  1. Know your Goals and Objectives
  2. Find an Accountability Partner
  3. Take an Honest Look at Where you Are at Today
  4. Finally, start Planning

The very first thing you have to discuss, write down or otherwise capture your long term and short term financial goals.  If you are going the traditional route of working until you are 65 you will have very different plan then if you are looking for fast financial independence like my go to guy on the subject, Mr. Money Mustache.  For example, if you looking for FI in 10 or so years you are going to need to save a lot more than someone going the traditional route, and that money is going to have to be working hard.

Second step would be to figure out a way to be accountable.  I believe (read: I have never studied the subject) for most people, accountability will lead to success.  Maybe your accountability partners are the people who randomly find your blog (cough cough) or maybe it is an interested spouse.  It doesn’t have to be a formal relationship of “I did X this month do I get a gold star?”  It could be just an easy conversation with a buddy over a few beers.  In today’s world of the internet if adults who love My Little Ponies enough found each other to create a convention (Yes, Brony Con is somehow a real thing) I think you can find someone on a forum.  I think financial planners bring a lot of value to this step.

Third step would be to figure out where you currently are.  How the hell do you know where you are going without an honest look about where you are?  If you are 52 and want to retire by the time you are 53 and you have no money saved then this step should course correct you.  Similarly, if you are 25 and your goal is to amass a $10,000,000 “nest egg” then this step should tell you, “I need a high paying gig and a discipline investing schedule.

The Fourth Step would finally be to plan.  As alluded to above, this part of the process is so personal it is hard to give blanket rules, but I can try to help with guidelines that I think a lot of people would agree with. I should include the obligatory disclaimer that you shouldn’t listen to me.

Building Your Personal Finance Plan

Going back to Jared’s original question I assume that a budget or spending guide of some sort has already been completed.  If you are running a deficit then we have another set of issues.  So assuming you have some type of surplus here are some guidelines when creating your plan (not rules and refer to the disclaimer):

  • Consumer debt, unless at 0%, should be eliminated as soon as possible.  If it is at 0% maybe create an elimination plan.  If you have student loans be honest with yourself about the payment and interest rate.  My law school loans are at 3.5% I can sleep at night so I’d rather be investing what I can in the market versus paying them down aggressively.
  • Fund an emergency fund.  Stuff happens…it just does.  A lot of the stuff that happens to us can be fixed with cash.  The amount of the emergency fund should allow you to sleep at night but be realistic.  I know I’d sleep like a freaking baby with $1,000,000 of cash in the bank but doing that would almost invariable cause financial demise as I am going to need the market to do a lot of the heavy lifting for me.  Alternatively, $2,000 feels like it is too low since a financial emergency is going to cost more (yet most Americans can’t even come up with that amount should there be an emergency!)
  • Speaking of emergencies – Know how much life insurance and disability insurance you have.  Nothing throws off a well laid out plan like a premature death with no protection!
  • Fund short term (and possibly mid term) accumulation goals with cash or cash equivalents.  You don’t want a short term goal to sneak up on you and the market is in the middle of a correction.
  • LEARN ABOUT INVESTMENTS OR HIRE SOMEONE WHO KNOWS WHAT THEY ARE DOING – No one is going to care about your money like you do but if you don’t feel like you want to learn then being a damn ostrich is not helpful.  Do you have a match at work? It is probably a good idea to at least invest up to that match as it is free money, but after that there is a lot of gray area.  Do you do it in non-qualified accounts? qualified retirement accounts? Roth vs Traditional? insurance based products? What’s your risk tolerance? etc.  All of these have pros and cons it is up to you to either know what they are or hire someone who can explain them to you.
  • INVEST -  Maybe you are using dollars to invest in yourself, your business or just the plan market, but you need your money working for you so someday you don’t have to.

I find that a lot of people take an all or none approach to the plan they are creating and life just hasn’t to be that way.  Let’s say you have $500 a month surplus that you know you can use for your plan each month.  Maybe your original plan looks something like:

  • $250 to 0% Debt
  • $100 to Emergency Fund
  • $150 to retirement Account

A few months go by and you don’t have any more debt – if you are anything like me you need to reallocate those dollars ASAP otherwise they will be spent on food and booze and your plan morphs to:

  • $150 to Emergency Fund
  • $50 to a vacation fund so one day you don’t have to eat into cash or credit to go away (if travel is in fact one of your short term goals)
  • $200 to Retirement Account
  • $100 to future down payment accumulation goal

Emergency fund is eventually at a point where you are comfortable and then that money gets reallocated immediately, or maybe you get a bonus and can fill up the emergency fund asap…fantastic since you didn’t write your plan in baby’s blood etched into stone! We can drop the ER savings and start putting that money into either short term cash goals, or if you are comfortable, lets get into the market or real estate.

1,500 words later and I am not sure I answered Jared’s original question the way he wanted me to, but I can’t possibly do so since we have never met!  And that’s the point! How could I possibly give sound and specific advice to someone when we have never spoke about his goals, his wife, his family, his income, his risk tolerance, etc.

8 Responses to What Should Someone Do After Paying Off All Consumer Debt? There is No Right Answer

  1. One thing you have to remember is that any principle balance you reduce while paying off debt serves to increase your net worth. As you get toward the end of your payoff, you’re likely paying mostly principle and little interest, so your net worth is going up quite a bit. When you pay this off, you should keep this in mind so that you continue to use the money to increase your net worth. If you just start spending the money instead, you’ll eventually see that your net worth growth will slow after you pay off the debt, which is counterproductive.

    • I have a problem paying down low interest high balance debt quickly because of liquidity concerns. For example, my law school loans are in the mid five figures at this point at a bit above 3% fixed…it would take a pretty long time to pay them off when that money could be in the market. During that time, my cash flow is likely to remain unchanged, so I am not even getting the benefit of reducing my monthly nut.

  2. This is a great high-level view of personal finance… love it!

    I think Jared was looking for you to explain what steps you take when you are creating your plan.

    I think my plan is mostly simple. I try to balance the needs/wants of now with my needs/wants of the future. Most people want satisfaction now, but I know the value compound interest and I value financial freedom greatly.

    The result is that I look to spend my money on appreciating assets and investments, while trying to reduce my expenses elsewhere.

    • “I think Jared was looking for you to explain what steps you take when you are creating your plan.”
      - I think so too, but by giving him (or anyone) that info without this context seems like a bad idea…then once I wrote out the post I figured how I did it for myself seems worthless, no?

      • Yes the context is key.

        I was responding to the point that you made at the end of the article about not possibly answering his question and not being able since you never met.

        Maybe it may be worthless to him, maybe it’s not.

        I’ve kind of forgotten some of the article, but here is a quick response that I might have given to Jared if he asked me the same question (emphasis on the quick because I’m pressed for time right now):

        “It’s very personal decision what to do with money after you pay off debt. One could naturally think of funding a retirement as a goal. You could put money in Roth IRAs and 401Ks to aid with that. Additionally, you could create an “opportunity fund” of cash that can be deployed for business opportunities or other things that may rapidly advance your financial goals.

        Personally, we’ve decided to invest in real estate which gives us great leverage at a low interest rate. Over time our tenants will pay the vast majority of the mortgage, taxes, insurance, and maintenance. When the mortgage is paid off, we’ll enjoy a stream of income that is (mostly) independent from our retirement accounts which rely on the equity markets.

        Again this may not be right for you, but it’s what I’m doing.”

        Have you heard back from Jared since the posting of this article? I’d be curious to hear his thoughts on this.

  3. Allow me to clear the air –

    What I was looking for was some real-life examples of how people save / spend money after becoming debt-free. While I know every situation is different, it helps me to see current, real examples. Evan did that by using a $500 surplus / month example.

    We followed the Dave Ramsey method of pausing our current retirement contributions in order to tackle the debt. We both started new jobs that require a period of employment before offering contributions so it worked out. So, now I’m realizing that we are behind on what we should have saved.

    I say that, to say this: I was looking for how someone in a similar situation saves (by percentage). How much goes towards retirement? How much do you save towards personal goals (new car, vacation), etc. We are not in a position to max out our 401k or a Roth account.. so how do we appropriately save for that while maintaining a lifestyle that doesn’t have us eating Ramen noodles for 3 years and still feeling good about retirement? Where should my savings be held? Should I be investing in alternate areas besides retirement accounts? How does one get into rental properties when saving up for a down payment on one could take many, many years.

    It felt daunting to try and do SO much when it’s not easy for us to max out a bunch of money towards retirement like some extremists do. And yes, that is our personal decision. I’m also from the school of “live now because there may be no tomorrow”, so I’m not interested in putting 70% of my income into an account I can’t touch for 40 years so I can retire by 40. Our family has had some health issues that really puts this into perspective for us and we realize… we may not even MAKE IT to 40.

    So, to summarize, I asked Evan about what he does. We seem to be at the same age and same stage in life, so it helps me to see what a REAL person does. Not someone making a ton of money each year. Since Evan maintains a bar graph of savings on the site, I was just curious as to how he allotted money towards those goals..which prompted the original question.

    And while Evan may not want to air dry all of his personal finances to the world, he gave me a great example of surplus income.. so yes.. the post was helpful! :)

    I am certainly interested, as LM put it, as to how someone in your position(s) “balances the needs/wants of now with my needs/wants of the future”

    I hope my rambling helped.

  4. I think a small celebration is appropriate to recognize the accomplishment. Then I would agree with your thought of fully funding your emergency fund as one should never invest without first having an emergency fund. After than, invest and save as much as you can but make sure that money you plan to use for a down payment, replacement vehicle, etc. should remain liquid (maybe online savings) and kept out of your investment pile. AFFJ

  5. I’ve become more comfortable with retaining low interest debt for longer and investing that money. If it’s contributing to an asset that’s growing, the interest is likely tax deductible, and if you can achieve long term growth in excess of the cost of financing, it’s a win win situation.

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