#12 Creating Wealth: Spending Control
Updated: Jun 21, 2021
Creating Wealth is an in-depth conversation between Bill Taber, an experienced financial advisor, and his millennial daughter about personal finance, investing, and financial planning.
Bill Taber is President of TABER Asset Management, a Registered Investment Advisor (RIA) and fiduciary firm located in Des Moines, Iowa since 1998. For decades, Bill has provided investment management services to clients, creating wealth, building wealth, growing income, and preserving capital for each and every client. TABER offers personalized asset management, wealth management, retirement planning, financial planning, and services such as 401(k) rollovers.
His daughter, Anastasia, works in accounting at a global law firm in Washington D.C. She enjoys discussing finances and her cats’ latest antics with her dad.
Creating Wealth Episode 13 - Spending Control: Which should you focus more on for wealth creation: Spending less money, or making more money? Bill and Anastasia discuss an example of buying a used car, as depicted in The Millionaire Next Door by Thomas J. Stanley. How important is it to learn how to spend less money? What are some examples of simple ways to save money? On the other hand, can you be too focused on saving money? Bill provides context to these questions from advising clients over the years.
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Anastasia: Welcome to Creating Wealth, I’m Anastasia.
Bill: Hi, I’m Bill.
Disclaimer: The views expressed today are our own, solely for informational purposes, and it is not an offer to buy or sell, or a solicitation of an offer to buy or sell any security or instrument or to participate in any particular investment strategy. The views are subject to change and are not intended as a forecast or guarantee of future results.
Anastasia: The importance of spending control. We are going to discuss today when creating wealth you can either focus on making more money or spending less money. So today we’re going to talk about the latter. There’s a book that you really like called The Millionaire Next Door. They have this really good example of buying a used car rather than a new car. Dad, do you want to talk a bit about that?
Bill: Sure, spending money for a new car is like throwing away 30-40% of the value of it because as soon as you drive it off the dealer lot, depreciation sets in and you’d have to take the 30-40% hit for selling it to someone else. So you can actually save tens of thousands of dollars over the years, and if you have children, or children in your future, you can actually pay for college education with what you save by not buying brand new cars. There’s a lot of advertising out there that says, “Buy the brand new car and lease it,” or “pay nothing down for seven years” - those are highly profitable tactics for car companies and dealerships. But essentially, you can do quite well and save a lot of money by purchasing a new car that is two to four years old, that has low mileage on it, say somewhere between 20,000 and 50,000 miles on it, where the price of it has already depreciated but it still has a long life and the car runs well. And you wind up spending let’s say instead of $35,000, you spend maybe $22,000 for it.
Anastasia: And that’s a pretty big difference?
Bill: Yeah, $13,000.
Anastasia: For just 50,000 miles on the car.
Bill: Yeah, I mention my dad from time to time on these podcasts and back in the 1950s, when he was on the road traveling for work, he basically had to have a new car every two years because American made cars at that time were planned obsolescence. They would fail in 80,000 to 100,000 miles. But in the 1980s and the 1990s, foreign competition came in and the Japanese started flooding the U.S. market with cars that would last for 150,000 to 200,000 to 300,000 miles. And so U.S. automakers kind of stepped it up and today we have cars that very easily will last more than 100,000 miles. So it’s not imperative that you buy something brand new thinking that it’s going to wear out within an 80,000 or 100,000 mile period.
Anastasia: So do you think that mindset, like the reason why a lot of people are hesitant to buy older cars is because of that, maybe that mindset trickling down even from older generations. “Buy new because you won’t get as long a life with a used car.”
Bill: I think that could be part of it, but I think part of it also is that there are different laws from states across the country. In Iowa, we have a law that says that if you are selling a used car that it has to have a certain level of maintenance to it. But I happen to know for example because we have relatives who live in the state of Texas that they don’t have the same types of laws and the same types of protections, and so there is more hesitance to buy a car that maybe might have some problems because you might not discover it until after you buy it.
Anastasia: So why is this such an important example or story that they use in the book? Why is it that buying a used car is an example of such an impactful way of saving money?
Bill: I think it’s the pernicious nature of advertising. They basically tell you that you need to buy something brand new, and that your friends and relatives and coworkers are all buying brand new and so you need to as well. That’s a piece of it.
Anastasia: Yeah, I’ve known some people who have bought new cars and they’ve said, “I just don’t want to buy someone else’s used car.”
Bill: Well, if that’s important to them, then they can buy a new car. The way that you probably get less wealth detraction out of that process would be to hold that car until it can’t run any further, until it just totally breaks down. The thing that is probably most wealth destruction oriented is buying a new car and then two years later buying another brand new car because you think that wealthy people do that. Because people who have money basically buy the most expensive car they can and they buy it because they know other people are looking at them and then they replace it as soon as it’s two years old because it’s not new any longer. That’s totally contrived. That’s totally false.
Anastasia: And I love those people because then I get to buy their cars.
Bill: Yeah, it puts more of those cars on the market for savvy consumers like you.
Anastasia: Oh, thank you for calling me savvy (laughs).
Bill: Well, your first car was a Toyota Prius!
Bill: And the car had over 100,000 miles on it (laughs).
Anastasia: And now it has 160,000 but it’s driven across the U.S. twice and it’s holding up pretty well. Knock on wood (Laughs).
Bill: Yeah and that car should easily last 200,000 miles as long as you get regular oil changes and regular maintenance.
Anastasia: Yeah and the nice thing too is that it doesn’t require a lot of maintenance. I’ve talked to other Prius owners who just love their--okay this has become an ad for a Prius. I don’t mean to do that (laughs).
Bill: Well there are car models out there that have a history of less car maintenance than others. And so that is something that you want to look into when you’re buying a car as well.
Bill: Consumer Reports is a magazine that can help you look at the track records of what the maintenance has been on those and help you figure out how to save money by not having to be in the repair shop so often.
Anastasia: Yeah, that makes sense. So I’ve read part of The Millionaire Next Door book and I guess what I was thinking in terms of why this is such a powerful example is because when you look at someone owning a flashy car you think, “Wow, how much money do they have?” You just assume that they make a lot of money but what the book was saying was actually these are net-worth poor individuals. Maybe they have a higher income, but it’s more likely that they have a lot of debt because they’re buying these flashy cars. So that’s something that I thought was really interesting, then Ii would see flashy cars around and unless they’re driven by an older person, I assume it’s possible that they wanted the status symbol of that car and they bought a BMW or they bought something flashier and now they have the debt of that car. So the millionaire mindset is, “Try to make smarter purchases so that you don’t have to go into as much debt.”
Bill: Sure, some younger people, particularly young males put a high priority on having a really nice looking car and so they may push aside other things that money should be spent on or saved for in the future to buy the car. And a lot of times they finance it, maybe a six or seven year debt, which gets to be quite expensive. And they’re driving around a car that keeps them from building a lot of wealth because they have an interest payment on it for so many years.
Anastasia: Yeah, simple as that!
Anastasia: Okay, so what are examples of simple ways to save money?
Bill: There are numerous ways to spend less. One thing is that every adult basically needs insurance, like home insurance. property and casualty insurance, or renters insurance. Policies will typically have deductibles. Say the insurance company says we will pick up the expenses of this claim as long as you pick up the first $500 or $1,000 or $2,500. The coverage that you pay, the premium that you pay to have a low deductible, say of $500 is quite high and you can save quite a bit of money if you can tell the insurance company, “I want your coverage but I’m going to take a deductible of $1,000 or maybe even $2,500.” And when you look at what the premium is on that, it’s quite a bit less. So what’s the tradeoff on that? It’s that you have to have saved emergency funds, which gets back to having that pool of money there to take care of things that you can’t budget for but you know that may happen at some point. The emergency funds, if you have three or six or eight months’ worth of expenses saved up and you have a claim that is more than $500, you take it from that. And over time it winds up being a lot of money saved and less profit for the insurance company. So that’s one example, I mean there are other examples. There are TV shows I’ve seen of people that are really frugal in how they use resources. I know there was one family where the father taught everyone in the family that a shower should not last longer than 30 seconds.
Anastasia: Oh no.
Bill: (Laughs) That saved a whole lot of money on their hot water bill over the years. (Laughs) But for people that aren’t used to doing that, a hot shower is kind of a nice thing...
Anastasia: Yeah, to me that would be worth paying money for (Laughs).
Bill: (Laughs) Yeah, so there’s all different levels of going at this. Another one would be bank fees for people who use ATMs or automated teller machines to get cash. I was at a bank here a few months ago and pulled up to an ATM and there was a receipt that was hanging out of the machine and so I just happened to look at it-- it didn’t have anybody’s account information on it--but what it did say was that the person had taken a $20 withdrawal and paid a $3 ATM fee to get that money. If you think about that, that’s a 15% cost of getting $20, or $17 in cash. Those are some obvious things but there’s any number of them that are out there.
Anastasia: Yeah, I have a few that I’d like to add.
Anastasia: Just because this is what I see as a generational thing too. So we just bought a house and we have carpet in the basement and the previous owners had a dog so there were a lot of fun black light discoveries when the carpet cleaners came over. They cleaned it, did a really good job, and they said that if we paid them in cash it would cost less because a credit card came with a 3% fee. So like what we talked about in the last podcast episode was that the credit card companies charge this 3% and instead of the carpet cleaning company absorbing the cost, they pass it onto the consumer and say, “Hey, you can give me cash.” We didn’t have cash on us, because we are millennials, and we do not carry hundreds of dollars in cash anymore. So we ended up paying the 3% fee. I told my fiance that my dad would have gotten cash (laughs) and made sure that he had cash to pay for that.
Bill: Yeah, or more accurately would have written a check from my checking account.
Anastasia: Yeah, but then we also didn’t have checks.
Bill: That’s definitely a millennial thing.
Anastasia: I thought that was an example of how those kinds of financial fees--the ATM fees, the credit card transaction fees when they do pass it onto the consumer--those are small examples of charges, but they can really add up. 3% on $300 is not a laughable amount. So another example that I wanted to mention is delivery. Growing up, we would call into a pizza place and we would order the pizza and we would go pick it up. We never--I don’t remember ever having a delivery person come to our house.
Bill: You can’t because we didn’t.
Anastasia: I went to college and particularly after college it seems like every person I know always orders delivery. If you’re ordering delivery every week, those charges add up. And that’s like an easy thing that you can not do. That’s what I see as like a generational difference because everyone I know orders delivery.
Bill: I’m coming to appreciate that...
Anastasia: (Laughs) Us millennials.
Bill: that it’s a generational thing.
Anastasia: Okay, my next question: How important is it to learn how to spend less money? In your career, have you seen people who have focused on one or the other and been successful at it, like maybe a spendthrift who earns a lot of money or a low wage earner who is a savant at finding discounts? Or do you really need to focus on both?
Bill: As far as focusing on both, I think--and research tends to show this--that once a person or a couple gets to the level of $70,000-$80,000 in gross income that expense control becomes more important. Below $70,000-$80,000 it’d be good to focus on what I refer to as a good offense, which is looking at ways to increase your income, as opposed to only expense control, which I refer to as a good defense. In America, it’s a lot easier to earn money than it is to accumulate wealth and I think the reason for that is that there are constant marketing campaigns out there that urge people to either on a conscious level or a subconscious level to just spend money. There also is a fair amount of peer pressure that is kind of like the whole phrase, “Keeping up with Joneses” that occurs. So being frugal, or cautious in your spending is the cornerstone to building wealth. I can give you a couple of examples from my investment career. There was a woman who had never married, she was an executive secretary for an organization and worked there for roughly 30 years. Over that period of time, she never made more than $35,000 a year in salary, but because she had the personal habit of saving about 30%, or about one-third of her total income--
Bill: --She was able to retire with $1.5 million in wealth and set herself up for a more affluent retirement than when she was working. On the other hand, I had a client, a male attorney whose income would generally hover around $1 million per year, and he spent a lot of it on a second home and third home. He was always nattily dressed in very expensive suits. He always had, as we just discussed earlier, the latest model expensive car. But the interesting thing was, you know he had some money, obviously it’s tough for people who make $1 million a year not to have any money, but he was not in any position or anywhere close to being able to afford to retire. These are a couple of extremes, but there’s a book out there called The Millionaire Next Door by Thomas Stanley. He talks about those two examples. The first one, the executive secretary, would be a prodigious wealth accumulator (PAW). And the second one, the attorney, would be an underachieving wealth accumulator (UAW). It’s a pretty simple formula, but you can go through this and determine where you are at in that scale by taking the formula of taking your gross income, either yours and/or your spouse’s or significant other’s on an annual basis and multiplying it by your current age and dividing it by ten. So for example, someone who has a $50,000 income, either as an individual or a couple, that is 30 years old would be $50,000 x 30 years, divided by 10, equals what they refer to as an expected net worth of $150,000. So if you look at your assets, what you have, minus your liabilities (debts), that’s your net worth, if that figure is $150,000, then you are kind of in the middle between being a prodigious wealth accumulator and an underachieving one. If your net worth is two times (200%) that expected $150,000 mark or $300,000, then you are considered a prodigious wealth accumulator. And I have never seen anyone that has been that that did not have a really good handle on expense control. On the other hand, to go to the example of the attorney, the underachiever, $150,000 net worth, one half (50%) of that amount would be $75,000 and that would be the level you were at if you were underachieving. And I’ve seen a number of people like that basically don’t have a good handle on expense control.
Anastasia: So would you be able to run through that formula with an example?
Bill: Okay- say at the time that I was working with him, he had $1 million income and he was 50 years old, so multiply those two numbers, that’s $50 million, divide by 10--he should have an expected net worth of $5 million. And if he was prodigious in his wealth accumulation, which he was obviously the opposite of, his net worth would have been $10 million, or a decamillionaire. On the other hand, if he was an underachieving accumulator, his net worth would be $2.5 million. He probably had a couple million dollars and that he had at least some equity in his second and third homes, but he sure had a lot of cars, and a lot of really fancy clothes and a lot of expensive entertainment habits that kept him from accumulating what he probably should have been able to do if he had been more focused on expense control.
Anastasia: Okay, yeah that helps. Because you also mentioned assets and liabilities. I believe assets would be income, if you own a house, a car, etc, but liability would be your debt, what you owe?
Bill: Liabilities would be debt, what you owe on things. But assets are not income. Assets are the balance in your 401(k), the value of your house, it’s the value of your savings and investment accounts.
Anastasia: --If you’re lucky enough to have a pension.
Bill: Well, a pension provides you with a promised income at retirement.
Anastasia: So that doesn’t count?
Bill: So if it’s a true pension, that’s not an asset.
Bill: But on the other hand, if you have a 401(k) plan which you’re going to use for retirement, then those are assets that you can put on your financial balance sheet.
Anastasia: Okay, so I think that’s important to define for people who want to use this formula and figure out where they stand.
Anastasia: Well, I guess to answer that question, obviously it’s ideal if you focus on both. But it seems to be best if--you mention that example of the woman who made $35,000 a year, she was able to have a very healthy net worth, and so it’s almost like expense control is very important.
Bill: Yeah, it really is the key to wealth building. As we’ve said before, the key to is spending less than what you earn. And then once you have spent that much less, that goes into savings. Savings creates emergency funds. Once you have a sufficient amount of emergency funds, then you can start putting money towards investments.
Anastasia: Yeah, and I always found it interesting too because growing up the way I did and then getting to compare that to other people once I was no longer living with you guys and an adult, it seemed like you guys always had such a focus on expense control. That leads me to my next question--can you have too much of a focus on reining in your spending? Can you be too focused on saving money in a way that’s unhealthy? How have you struck that balance or suggest for people to find that balance?
Bill: It’s a great question because I think it does take some life experience to figure that out, to figure out what feels best for you. What I can say is that being frugal can be unhealthy if it leads to feelings of lack or scarcity in your life. You’ve seen TV shows with people that obsess about this. You’ve seen the show about hoarders?
Bill: They hoard possessions. They are unable to throw anything away. It’s an attitude of, “I can’t throw that away because I might use that again.” And what I have found is an anecdote to that is something called “The Vacuum Principle”. That’s if you have something that’s broken, or say you have some clothes that have some unrepairable holes in them. The Vacuum Principle basically says throw it away, get rid of it, even if you’re not certain about how you’ll be able to pay to replace it. It creates a vacuum or an empty space in your life. And this is one of these laws of nature. Nature abhors a vacuum. Following that principle, something will happen. You’ll either learn to live without it, or more likely, you will figure out how to replace it. And so this gets to the topic of having an abundance mentality. You need to imagine your life or a state of abundance. In other words, you need to imagine that having that thing that you had to throw out being back in your life again, and then what that does is creates a structural tension within you that has you start to look at ways that you can create work to have that show up again. So it comes down to what your focus is. Because, as I mentioned, what you focus on tends to show up in your life. And so if you focus on abundance, you’ll figure out a way to replace it. If you focus on lack, then you’ll be anxious and concerned about not having it.
Anastasia: Yeah, keep expense control within your mind and every time you spend money, have it be a conscious decision, but don’t be so focused on saving money that you’re missing out on life experiences, or you’re worried about not having enough money. It’s a really common fear, especially after the number of financial crises we’ve been through, but just however you’re able to maintain a positive mindset is a lot better for your mental health and it’s a lot better for your expense control as well.
Bill: Well said. You can’t cut your way to prosperity. The ideal situation is that your income goes up and your expenses go down - but that rarely happens. And there are situations where people’s income go down and their expenses go up, which is what’s happening for some people with this current pandemic. That’s not sustainable and can lead to bankruptcy. And then there’s the situation where if you’re focused entirely on what you don’t have, that creates conditions of scarcity and lack and feelings of poverty, and can cause your income to go down and the more you try to ratchet down your expenses, the more your income goes down because you’re focused on having less. So that doesn’t work. The formula that basically works is to have your income go up, but have your expenses go up at a lesser amount. There are businesses out there that have been very successful because they realize that to stay in business, they have to have their income or revenue growth grow faster than their rate of expenses. And so, say two parts effort into growing revenues and one part effort into controlling expenses. The people who have been highly successful in accumulating wealth--I know Sir John Templeton that started the Templeton Funds that became the Franklin Templeton Funds had a formula. He called it the 50-50, which is that when you take an extra dollar in, you save and invest that first 50 cents and get to spend the other 50 cents. You have the discipline of saying, “I’m not going to spend money on something until I’ve made additional income to pay for it.”
Anastasia: That’s what we’re all working towards.
Bill: That takes us beyond the scope of saving 15% of your salary, but that is a strategy that has made people incredibly wealthy. The short answer is, it’s always good to focus on controlling expenses. And once your income is above $70,000-$80,000 then it’s not as important for you to make more money to have more wealth as it is to control your expenses.
Anastasia: Is that a household income or is that a single person income?
Bill: That could be either, depending on what you are living.
Anastasia: Does it differ if you live in a high living cost area?
Bill: Yeah, I think it differs somewhat. Obviously, Washington, D.C., New York, San Francisco, Los Angeles, yeah the numbers might be higher. But that’s probably an average across the U.S.
Bill: I once had a blog post that said a million dollar isn’t what it used to be. And the basic premise of the post was that if you save and invest a million dollars and you take a sustainable income from it, like 4%, that creates $40,000 a year. The idea was that $40,000 doesn’t buy what it used to. Which is true because of inflation. But then I had someone who lives in, I think, probably in a little cabin in a mountain, maybe in Colorado or Idaho or somewhere like that said, “Man, if you can’t live on 40 grand a year then something’s wrong with you.”
Bill: So, it’s all relative.
Anastasia: It really, truly is all relative. (Laughs) Okay, well did you have anything else you wanted to mention?
Bill: Not currently.
Anastasia: Okay, great! Thanks Dad!
Anastasia: Thank you for listening to Creating Wealth! If you liked our podcast, please subscribe and consider recommending it to your friends or leaving us a review on your podcast app. We would love to discuss your questions. You can email them to us at email@example.com. You can also find full transcripts of every episode on taberasset.com. That’s Taber with an “e” not an “o.” Thank you for joining us on the path to financial abundance. We’ll see you next time!