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Today’s Friday Book Club will feature chapter two of The Automatic Millionaire which was written by David Bach, the New York Times Bestselling Author of Smart Couples Finish Rich and Smart Women Finish Rich. The second chapter of The Automatic Millionaire is entitled ‘The Latte Factor’ and focuses on an idea of David’s (which he dubbed ‘The Latte Factor’) which in a nutshell says that anyone can save money by watching their unnecessary expenditures, such as a morning latte at Starbucks, which could be replaced with homemade coffee at a fraction of the cost.

The Latte Factor 

In the early parts of this chapter David explains how he coined the phrase “The Latte Factor.” He was teaching a four-week investment course years ago when one of his students spoke up and told him that his ideas were unrealistic and not really feasible in real life. David, being somewhat offended by this remark, asked the woman to explain. She said that it wasn’t really possible to save 10 dollars a day, that she was living paycheck to paycheck. David called her out on this and asked if she would play along and walk him through a typical day with all of her expenses. She has no problem with this and they begin his little game. It turns out that this woman spends over ten dollars before she is even through her work day! Of course we all have these bad financial habits, whether it be for a latte from starbucks or a pack of cigarettes or maybe even a bag of chips from the vending machine every day. These little expenses can add up quickly. As David puts it a latte a day (at $3.50) adds up to roughly $1,260 over the course of a year.

What That Latte Really Costs

After David covers how these small-item spending habits can cost us thousands a year he works some numbers and figures out how much this woman that he had been talking would be able to save over the course of 42 years at a 10 percent return if she cut down her daily spending habits and saved $5 a day, which is about $2,000 dollars a year. If this woman would do this simple act she would be able to save close to 1.2 million dollars by the time she hits the young age of 65. It sounds amazing doesn’t it? This is one of the reasons that I wanted to start this site, and why I am reaching for a target twenty-something audience. Compound interest (which means earning interest on your interest) is a powerful force. I believe it was Einstein who said it is the most powerful thing in the universe. Twenty-somethings (or even those in their later teens) are still young enough where they can truly take advantage of the power of compounding interest. Twenty-somethings are also a very self-gratifying generation. We know what we want and we get it, which isn’t always what is best for us in the long-term. I do believe that for some people “The Latte Factor” is a very viable alternative for finding ways to save money. If this saved money is investing wisely (which truly is not a terribly difficult thing to do) then it can (and will) lead to future wealth.

Overall I found this second chapter of The Automatic Millionaire very gratifying. It has some fantastic principles and sound advice for anyone to apply to their own lives. If you haven’t checked out this book yet I’d encourage you to get it, or at the very least check it out from your local library and give it a quick read (it’s very easy reading). David does a great job relating to anyone and giving sound advice, while keeping things entertaining.

A Financial Tool For Your Use 

For those who are interested I threw together a spreadsheet which you can use to calculate how much money you could save over the course of forty years by cutting back on your expenses and saving a certain dollar amount a day. It’s a really easy spreadsheet to use, just plug in the dollar amount which you think you can save a day into the dark green box, which will then calculate the monthly savings and plug that number into everything else. The blue box will show the amount that you will have accumulated after forty years. Give it a try, you can download it by clicking HERE.

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I have been quite busy this past week between Thanksgiving and preparing for finals week at school.  I will be coming back tomorrow with another Friday Book Club and I’ll be back full force next week, but in the meantime I wanted to link you to some of my favorite finance posts that I’ve written here at Debit versus Credit.  Check them out and please leave me comments, I love to hear from my readers!

Loans and Credit

How Your Credit Score Defines You

Credit Cards 101 

Budgeting 

Starting on the Road to Wealth

My 33% Savings Plan

Investing 

Investing 101

Retirement Planning

Are You Ignoring Free Money?

Thanks for reading.  If you have any comments or suggestions feel free to e-mail me or fill out the contact form.  I respond to all e-mails, so don’t be shy!  Have a great weekend and look for an update to the Friday Book Club tomorrow!

You’ve all heard the phrase, “keeping up with the Joneses.” If you haven’t, it means to covet whatever latest gadget, toy or whatever it is that your neighbor, friend, associate, or family member recently purchased. Of course we all pretend to not be so shallow as to live by this “rule,” but in actuality I’m willing to bet that at one point in your life you have made a “they have it, I need it” purchase. I’ll be the first to admit that I’ve made purchases this way. I’m not proud of it, but there’s no way that I can deny it. Of course making purchases on such a misguided impulse is NOT the way to financial independence, freedom or whatever it is that you may call it.

Wealth is not built outwardly

I can’t speak for other nations since I’ve lived in the U.S. of A. my entire life, but a disturbing trend which I’ve observed here in this country is the need to publicly display one’s “wealth.” You know exactly what I’m talking about, and maybe you’re guilty of it yourself: fancy cars, ginormous houses, fancy electronics. Don’t get me wrong, I don’t have a problem with nice things or fun toys. I do have a problem however with what’s seemingly behind all of these luxuries in this country, namely nothing… or worse, debt. It all comes back to the Jones, and trying to keep up with them. Please don’t fall for this trap. Wealth is not something that can or should be built outwardly. You’ll never become rich if you play this game. I know that driving a Mercedes would be awesome and attract people’s attention, but is it really necessary? Probably not.

Let me break this down into some numbers for all of you. You’ll see what I mean by saying that wealth is not something that can be built outwardly. I’ll be comparing the Smith family with the Jones family, both of which are completely fictional.

The Smith Family: Financial Analysis

The Smith family is not your typical American family. The family consists of Mr. Smith, Mrs. Smith and their two daughters, Chloe and Bree. They live in a modest single-family home, which they purchased 5 years ago for $153,000 dollars. Mr. and Mrs. Smith both work for a local insurance company and their annual household income comes to about $65,000 before taxes. They have two cars (a Toyota and a Mazda), both purchased used but still in fantastic condition. The Toyota is paid for and they owe $6,000 on the Mazda. They do not have any credit card debt, as they pay off any balances owed monthly. They currently owe $144,000 on their home.

Mr. and Mrs. Smith have both worked for their current employer for 11 years. They met in training, as they both started on the same day. They each started to contribute to their 401(k) immediately upon being hired. Their employer matches 100% of the first 5% of their contributions. Mr. and Mrs. Smith both took advantage of this matching and have each contributed 5% of their income to their 401(k), with their employers matching making an even 10% contribution. Their 401(k)’s are now worth a total of approximately $43,000. Their home is worth $165,000 dollars. The Toyota is worth $7,000 and the Mazda is worth $11,000.

Let’s do some quick simple math…

The Smith family assets total $226,000 dollars. Their liabilities total $150,000 dollars. This would give the Smith family a net worth of approximately $76,000 dollars. Not bad. They are in their early thirties after all, with plenty of years until retirement. At the rate they are moving now they’ll have a net worth in excess of $1,000,000 dollars by the time they reach the age of 65. Most of this worth would be from their retirement accounts. Let’s take a look at the Jones family now.

The Jones Family: Financial Analysis

The Jones family consists of Mr. and Mrs. Jones. They don’t have any children, but do plan on adopting a little boy in a few years. Mr. Jones works for a large snack-food product corporation while Mrs. Jones works on her own as a beauty consultant. Mr. Jones brings in approximately $80,000 a year while Mrs. Jones makes about $35,000 a year. Together their annual income equals $115,000 dollars. They live in a large single-family home with plenty of upgrades, which they purchased 5 years ago in a much desired neighborhood for $410,000 dollars. Mr. Jones drives a new BMW which he owes $32,000 dollars on and Mrs. Jones drives a new Honda which she owes $15,000 dollars on. They also live a luxurious lifestyle, which leads to an average balance on their credit cards of roughly $7,500 dollars. They currently owe $401,000 dollars on their mortgage.

Mr. and Mrs. Jones have approximately $11,000 dollars saved in a 401(k) plan. They only recently (2 years ago) began contributing to this plan… and contribute just 2% each, with their employers matching in full their contributions. The BMW that Mr. Jones drives is worth $35,000 dollars while Mrs. Jones Honda is worth $20,000 dollars. Their home is worth $440,000 dollars.

Let’s do some quick simple math…

The Jones family assets total $506,000 dollars. Their liabilities total $455,500 dollars. This gives the Jones family a current net worth of $50,500 dollars. Not very much, considering how wealthy they appear to be, is it? Let us also consider that by the time they turn sixty five if they continue with their 2% contributions to a 401(k) their net worth will be just under $1,000,000 dollars. About half of their wealth would be from retirement accounts, and the other half would be from their home (assuming of course that it is paid for at this point).

Oh, America…

I love nice things as much as the next person, but when we let our money control us, instead of controlling our money… something has gone terribly wrong. Please don’t let yourself fall for the idea that having nice things makes you rich. Just look at the comparison I made between the Jones and the Smiths… the Smith’s have a greater net worth, even though they appear to be “just getting by” at best, while the Jones family appears to be wealthy, but in actuality has almost nothing to their names (net worth wise). If you are rich (or save appropriately) please do enjoy the wealth that you enjoy… but before you do anything you should be saving a portion of your money to allow for your financial independence. Don’t let the “Jones” family run your life and influence the way you spend your money.

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