Personal Finance for Dummies, 4th Edition

Do you need help managing your financial priorities? Relax! This friendly guide, now updated to include changes to the tax code, gives you just the information you need to take control of your finances, buy the right insurance coverage, and weather economic downturns. More Reviews and Recommendations Editorial Reviews - Personal Finance for Dummies, 4th Edition From the Publisher

Do you need help managing your financial priorities? Relax! This friendly guide, now updated to include changes to the tax code, gives you just the information you need to take control of your finances, buy the right insurance coverage, and weather economic downturns. Loading... Features - Personal Finance for Dummies, 4th Edition Table of Contents Read a Sample Chapter Table of Contents Introduction1Why This Book?1What's New in This Edition2Uses for This Book3How This Book Is Organized3Icons Used in This Book5Part IAssessing Your Fitness and Setting Goals7Chapter 1Improving Your Financial Fitness9Targeting the Trouble Spots9Jumping over Real and Imaginary Hurdles16Common Financial Problems: You've Got Company20Defining Bad Debt and Good Debt22Knowing How Much Bad Debt Is Too Much23Determining Your Financial Net Worth25Savings Analysis28Measuring Your Investing Knowledge30Measuring Your Insurance Savvy32Chapter 2Setting and Achieving Goals33Creating Your Own Definition of "Wealth"33Prioritizing Your Savings Goals37Building Emergency Reserves40Saving to Buy a Home or Business41Funding Kids' Educational Expenses42Saving for Big Purchases42Preparing for Retirement43Part IISaving More, Spending Less59Chapter 3Determining Where Your Money Goes61Examining the Roots of Overspending61Analyzing Your Spending66Growing Rich on Your Income: The Secret72Chapter 4Conquering Debt and Credit Problems73Using Savings to Reduce Your Debt74Decreasing Debt When You Lack Savings76Filing Bankruptcy79Ending the Spending-and-Debting Cycle85Dealing with Credit Mistakes87Chapter 5Reducing Your Spending91Finding the Keys to Successful Spending92Reducing Your Spending: Eric's Strategies98Chapter 6Taming Taxes119Understanding the Taxes You Pay119Trimming Employment Income Taxes122Increasing Your Deductions124Reducing Investment Income Taxes132Getting Help from Tax Resources135Dealing with an Audit138Part IIIBuilding Wealth through Investing141Chapter 7Important Investment Concepts143Establishing Your Goals143Understanding the Major Investment Flavors144Understanding Investment Returns148Sizing Investment Risks149Diversifying Your Investments152Acknowledging Differences among Investment Firms159Experts Who Predict the Future166Leaving You with Some Final Advice169Chapter 8Choosing Your Investment Vehicles171Slow and Steady Investments171Building Wealth with Ownership Vehicles175Off the Beaten Path: Investment Odds and Ends188Chapter 9Investing in Mutual Funds191Understanding the Benefits of Mutual Funds191Exploring Various Fund Types193Selecting the Best Mutual Funds200Deciphering Your Fund's Performance206Following and Selling Your Funds209Chapter 10Investing in Retirement Accounts211Looking at Types of Retirement Accounts211Allocating Your Money in Retirement Plans221Transferring Retirement Accounts228Chapter 11Investing Outside Retirement Accounts233Getting Started234Understanding Taxes on Your Investments235Fortifying Your Emergency Reserves236Investing Money for the Longer Term240Chapter 12Investing for Educational Expenses247Figuring Out How the Financial Aid System Works247Strategizing to Pay for Educational Expenses251Investing Educational Funds256Chapter 13Investing in Real Estate259Deciding Whether to Buy or Continue Renting259Financing Your Home267Finding the Right Property and Location283Working with Real Estate Agents285Putting Your Deal Together289After You Buy292Part IVInsurance: Protecting What You've Got299Chapter 14Insurance: Getting What You Need at the Best Price301Discovering My Three Laws of Buying Insurance301Dealing with Insurance Problems311Chapter 15Insurance on You: Life, Disability, and Health317Providing for Your Loved Ones: Life Insurance318Preparing for the Unpredictable: Disability Insurance326Getting the Care You Need: Health Insurance331Discovering the Most Overlooked Form of Insurance338Chapter 16Covering Your Assets341Protecting Where You Live341Auto Insurance 101346Protecting Against Mega-Liability: Umbrella Insurance350You Can't Take It with You: Planning Your Estate351Part VWhere to Go for More Help355Chapter 17Working with Financial Planners357Alice in Financial-Planner Land357Surveying Your Financial Management Options362Deciding Whether to Hire a Financial Planner365The Frustrations of Finding Good Financial Planners368Finding a Good Financial Planner373Interviewing Financial Advisors: Asking the Right Questions375Chapter 18Computer Money Management381Surveying Software and Web Sites381Accomplishing Computer Money Tasks385Chapter 19On Air and in Print393Observing the Mass Media393Rating Radio and Television Financial Programs395Learning to Surf the Internet396Navigating Newspapers and Magazines397Betting on Books398Part VIThe Part of Tens401Chapter 20Survival Guide for Ten Life Changes403Starting Out: Your First Job404Changing Jobs or Careers405Getting Married406Buying a Home408Having Children408Starting a Small Business412Caring for Aging Parents412Divorcing414Receiving a Windfall415Retiring416Chapter 21Ten Things More Important than Money419Glossary423Index439 Read a Sample Chapter Personal Finance For DummiesBy Eric TysonJohn Wiley & SonsCopyright © 2003 Eric Tyson
All right reserved.
ISBN: 0-7645-2590-5
Chapter One Improving Your Financial Fitness

* * *

In This Chapter

* Understanding and conquering obstacles to personal financial success

* Overcoming real and imagined financial hurdles

* Comprehending common money problems

* Understanding bad debt, good debt, and too much debt

* Determining assets, liabilities, and your (financial) net worth

* Calculating your rate of savings

* Assessing your investments and insurance

* * *

We're barely acquainted, but I do know that you're not dumb. Realdummies don't read and educate themselves. And real dummies don'tunderstand the value of investing in their education. Real dummies also can'tdeflate their egos enough to admit that they need help and guidance.

Here's what dumb is: Dumb is the crook who walked into a conveniencestore, put a $20 bill on the counter, and asked for change. When the cashieropened the register, the man pulled a gun and demanded all the cash. Thethief took the loot - $15 - and fled, leaving his $20 bill on the counter. Orhow about the criminal who robbed a person who lacked cash? The victimoffered the assailant a check, which the assailantlater attempted to cash atthe bank, where - surprise, surprise - he was arrested. Both of these storiesare true!

So you're most definitely not dumb! But you may not be literate when itcomes to personal finances.

Targeting the Trouble Spots

Unfortunately, most Americans don't know how to manage their personalfinances because they were never taught how to do so. Nearly all our highschools and colleges lack even one course that teaches this vital, lifelong-neededskill.

In the handful of schools that do offer a course remotely related to a personalfinance class, the class is typically an economics course (and an elective atthat). "Archaic theory is being taught and it doesn't do anything for the studentsas far as preparing them for the real world," says one high school principalI know. Having taken more than my fair share of economics courses incollege, I understand the principal's concerns.

Some people are fortunate enough to learn the financial keys to success athome, from knowledgeable friends and good books like this one. Others eithernever learn the keys to financial success, or they learn them the hard way - bymaking lots of costly mistakes. The lack of proficiency in personal financialmanagement causes not only tremendous anxiety but also serious problems.Consider the following sobering statistics:

  About 1.5 million personal bankruptcies are now filed in the United States annually. That's about one in every 80 households. So in the next eight years, nearly one in every ten households in the United States - the most affluent country in the world - will file bankruptcy.

  Studies show that fewer than 20 percent of baby boomers are saving adequately for retirement, and that one-quarter of the adults between the ages of 35 and 54 have not even begun to save for retirement.

  One out of every two marriages in America ends in divorce. Studies show that financial disagreement is one of the leading causes of marital discord. In a survey conducted by Worth magazine and the market research firm of Roper/Starch, couples admitted to fighting about money more than anything else (more than three times more often than they fight about their sex lives). And a staggering 57 percent of those surveyed agreed with the statement, "In every marriage, money eventually becomes the most important concern."

  Fewer than 10 percent of American adults understand a 401(k) well enough to explain it to someone else. Fewer than one in four can explain what a municipal bond is.

  In a Princeton Survey Research Associates investing basics test, approximately one-third of the people who took the quiz answered fewer than 50 percent of the questions correctly. These results are all the more stunning when you consider that the questions only offered two or three multiple choice answers as options!

  Nearly 80 percent of consumers do not know how the grace period on a credit card works. An even greater percentage doesn't understand that interest starts accumulating immediately for new purchases on credit cards with outstanding debts.

  Fifty-three percent of people who took a multiple choice investing quiz did not know that total return was the best measure of a mutual fund's performance.

The overall costs of personal financial illiteracy to our society are huge. Thehigh rate of spending and low rate of saving in the United States leads to lowerlong-term economic growth and higher interest rates. Annually, billions ofdollars are wasted through the purchase of inferior and inefficient financialproducts.

Talking money at home

I was fortunate that my parents taught and instilled in me the importance ofpersonal financial management. Mom and Dad taught me a lot of things thathave been invaluable throughout my life. Among the useful things my folkstaught me were sound principles for earning, spending, and saving money.My parents had to know how to do these things, because they were raisinga family of three children on (usually) one modest income. They knew theimportance of making the most of what you have and of passing that vitalskill on to your kids.

In many families, however, money is a taboo subject - parents don't levelwith their kids about the limitations, realities, and details of their budgets.Some parents I talk with believe that dealing with money is an adult issue,and that kids should be insulated from it so that they can enjoy being kids.In many families, kids may hear about money only when disagreements andfinancial crises bubble to the surface. Thus begins the harmful cycle of childrenhaving negative associations with money and financial management.

In other cases, parents with the best of intentions pass on their money-managementhabits. Unfortunately, some of those habits are bad habits. NowI'm not saying that you shouldn't listen to your parents. But in the area ofpersonal finance, as in any other area, poor family advice can be problematic.Think about where your parents learned about money management, andthen consider whether they had the time, energy, or inclination to researchchoices before making their decisions. For example, your parents may mistakenlythink that banks are the best places for investing money. (You canfind the best places for investing your money in Part III of this book.)

In still other cases, the parents have the right approach, but the kids go tothe other extreme out of rebellion. For example, if your parents spent moneycarefully and thoughtfully, you may tend to do the opposite, such as buyingyourself gifts the moment any extra money comes your way.

Although you and I can't change what the educational system and your parentsdid or didn't teach you about personal finances, you now have the abilityto find out what you need to know to manage your finances. And if youhave children of your own, I'm sure you'll agree that kids really are amazing.

Don't underestimate their potential or send them out into the world withoutthe skills they need to be productive and happy adults. Buy them some goodfinancial books when they head off to college or begin their first job.

Teaching personal finance in schools

Nancy Donovan teaches personal finance to her fifth-grade math class as away to illustrate how math can be used in the real world. "Students choose acareer, find jobs, and figure out what their taxes and take-home paycheckswill be. They also have to rent apartments and figure out a monthly budget,"says Donovan, adding, "Students like it and parents have commented to mehow surprised they are with how much financial knowledge their kids canhandle." Donovan also has her students invest $10,000 (play money) andthen track the performance of their investments.

Urging our schools to teach the basics of personal finance is just commonsense. We should be teaching our children about how to manage a householdbudget, about the importance of saving money for future goals, and about theconsequences and dangers of overspending. Unfortunately, few schools offerclasses like Nancy Donovan's. In most cases, the financial basics aren't taughtat all.

Some people argue that teaching children financial basics is the job of parents.However, this well-meant sentiment is what we're relying on now, andfor all too many, it isn't working. In some families, financial illiteracy is passedon from generation to generation.

We must recognize that education takes place in the home, on the streets,and in the schools. Therefore, schools must bear some responsibility forteaching this very important life skill. And with more and more teenage studentsholding down after-school jobs, teaching money-management know-howthrough the schools makes even more sense.

Lobby your schools! Make sure that financial basics are taught in schools atall levels. If you think that you're powerless to change the situation, you'remistaken. Many of the changes that were made to our education systemstarted at the grassroots level.

Identifying unreliable sourcesof information

Some people are smart enough to realize that they're not financial geniuses.So they set out to take control of their finances by reading or consulting afinancial advisor. Because the pitfalls are so numerous and the challengesso mighty when choosing an advisor, I devote Chapter 17 to the financialplanning business and tell you what you need to know to avoid being fooled.

Reading is good. Reading is fundamental. But reading to find out how tomanage your money can be dangerous if you're a novice. Misinformationcan come from popular and seemingly reliable information sources, as Iexplain in the following sections.

Won 't investment gurus make me rich?

One formerly best-selling personal finance book (Wealth Without Risk byCharles Givens) advises you to "Buy disability insurance only if you are inpoor health or accident prone." Putting aside the minor detail that no insurancecompany (that's interested in making a profit) is going to issue you adisability policy after you fall into poor health, how do you know when you'regoing to be accident-prone? Because health problems and auto accidentscause many disabilities, you can't see disabilities coming unless your horoscopehappens to warn you!

Consider the investment seminars by Wade Cook. These seminars lure you inby promising outrageous and unrealistic returns. The stock market has generatedaverage annual returns of about 10 percent over the long-term. Cook, aformer taxicab driver, promoted his seminars as follows: "A live, hands-on, dothe deals, two-day intense course in making huge returns in the stock market.If you aren't getting 20% per month, or 300% annualized returns on your investments,you need to be there." (I guess I do - as does every investment managerand individual investor I know!)

Cook's get-rich-quick seminars, which cost more than $6,000, were so successfulat attracting people, that his company went public in the late 1990sand generated annual revenues of more than $100 million.

Cook's "techniques" included trading in and out of stocks and options onstocks after short holding periods of weeks, days, or even hours. His tradingstrategies can best be described as techniques that are based upon technicalanalysis - that is, charting a stock's price movements and volume history,and then making predictions based on those charts.

The perils of following an approach that advocates short-term trading withthe allure of high profits are numerous:

  You're going to rack up enormous brokerage commissions.

  On those occasions where your short-term trades produce a profit, you pay high ordinary income tax rates rather than the far lower capital gains rate for investments held more than 12 months.

  You're not going to make big profits - quite the reverse. You're going to underperform the market averages if you stick with this approach.

  You're going to make yourself a nervous wreck. This type of trading is gambling, not investing. Get sucked up in it and you'll lose more than money - you may also lose the love and respect of your family and friends.

"The past history of stock prices cannot be used to predict the future in anymeaningful way. Technical strategies are usually amusing, often comforting,but of no real value," says Burton Malkiel, a Princeton University businessprofessor and author of the investment classic, A Random Walk Down WallStreet.

If Cook's followers were indeed earning the 300 percent annual returns hisseminars claim to help you achieve, any investor starting with just $10,000would vault to the top of the list of the world's wealthiest people (ahead ofBill Gates and Warren Buffett) in just 11 years!

Understanding how undeserving investment gurus get popular

You may be wondering how Charles Givens and Wade Cook became so populardespite the obvious flaws in their advice. Givens made the most of histalent for working the media and his great self-promotion through seminars.One of the problems with the mass media is that hucksters like Givens canget good coverage and publicity. Many members of the media are themselvesfinancially illiterate. And they love a good story. So Givens got all sorts of freepublicity, getting quoted in the press and invited to appear on a number ofnational programs, such as The Today Show, Oprah, Donahue, and Larry KingLive.

Thousands of people went to seminars conducted by Givens, partly becauseof the credibility Givens built through media appearances. As has now beenwell documented by some of those same members of the media, many unsuspectinginvestors were sold commission-laden products, including risky limitedpartnerships, through his organization.

Consider the case of Helen Giszczak, a 69-year-old retired secretary. Sheinvested nearly two-thirds of her modest life savings in limited partnerships,which she said were described to her by Givens as "probably the most conservativeinvestments we know of." But some of her limited partnershipsended up in bankruptcy, while the others lost much of their value.