Personal Finance Basics – The High Price of Waiting – Part 2 of 2

Monday, March 30th, 2009 at 9:29 pm

Please read the disclaimer before you continue. big-step

In part 1 of this series we looked at the cost of waiting when it comes to investing. An example of this showed that waiting only 5 years to invest could cost you literally hundreds of thousands of dollars over the long run. Many people want to pay off debt before they start to save. Figure 2 shows the excuse debt and how much it will cost to play catch up. For this example we will use a fixed total amount to save for, let’s say $500, 000 by age 65:

Figure 2: How Much Will It Cost To Play Catch Up?

Debt Excuse	Monthly Contribution	Value at Age 65	Monthly Amount Needed to Get To $500, 000
Pay off Student Debt (Age 30)	$200	$458, 776	$226
Save For House (Age 35)	$200	$298, 072	$348
When I Get A Better Job (Age 45)	$200	$117, 804	$881
Pay For Kids (Age 50)	$200	$69, 208	$1, 499
Pay off Mortgage (Age 55)	$200	$36, 589	$2, 836

Now, I’m not going to tell you what you should do. That is for you to decide. I just provide the information. It’s up to you to decide what action you take. All I will say is that if you have the chance to start early, it would be a heck of a lot easier than trying to play catch up. The above example shows that you would have more than 10 times more cash for retirement just by starting early.

One question people often ask is about paying off debt. They would say something like “I thought it was good to pay off your debts and save interest”. This is absolutely true, you want to pay your debts off, but you also need to allocate some cash to investments for the future, even if it’s only a small amount to start with. Let’s look at the example from the first post in this series. If you missed it, it was posted on Mar, 27. 2009. To recall, John and Dave were both saving for retirement. John paid off his student debt slower so that he could start saving 5 years earlier than Dave.

Let’s assume they both had $30, 000 worth of debt. Dave is going to pay his off in 5 years. That would make his payments $594.04 a month assuming 7% interest. John is going to put $200 a month less towards this debt as this money is going towards his investments. So John’s payments are $394.04 a month. According to my calculations John will end up paying $4, 138.53 more in interest and it will take 8 years to pay off.

Finally, lets compare total cash out of pocket and see who’s better off. The following chart will show this:

	Extra Interst On Loan	Total Cash Contributed	Total Out-Of-Pocket Cash	Value of Portfolio At 65	Total Value Minus Out-Of-Pocket Cash?
John	$4, 138.53	$36, 000	$40, 138.53	$507, 996.26	$467,857.73
Dave	$0	$84, 000	$84, 000	$458, 776.50	$374, 776.50

Incredible! John has $93, 081.23 more than Dave. He contributed $48, 000 less than Dave and stopped 25 years sooner, all the while racking up $4, 138.53 more in interest. Yet he is still ahead. At the end of the day this is all that truly matters. How much cash you have after it’s all over, and how well you can sleep at night. Let the numbers do all the talking. This is how I base my financial decisions. Numbers don’t lie, that’s why I loved math in school.

You can see by the following examples that there is a high price to pay for waiting to invest. You can try to play catch-up but it will cost you a lot more to get to the same destination. Take the time to crunch the numbers and then make your decision. If all you do is just start, then that is defiantly a step in the right direction. When is the best time to plant an oak tree? Twenty years ago. When is the second best time to start? Now. Take the first step and start. You will be amazed at how much easier it becomes.