Case Study - Advice Needed

[mastrr]

I'm 27 and interested in advice on how to allocate my funds among other things.  General advice is helpful as well on how to be a better mustachian.  I ran into this website two weeks ago and it has saved me hundreds so far.  I used to spend $10-$15 a day for breakfast and lunch on weekdays.  I still have not gotten in the habit to make my own lunch but I limit myself to $2 dollars for lunch (pop tarts & can of soda ha).  For breakfast I have a protein drink and make my own coffee instead of Dunkin Donuts now!  I also have some questions that I'll post at the end.

Life Situation: 27 year old guy who is currently renting.

Gross Salary: $65k / year including benefits & company car.

Rental Income: Cash Flow $275 per month on a rental purchased last December.

Current Expenses (per month):

1. Rent - $950
2. Gym - $50
3. Utilities - $100
4. Dry Cleaning - $30
5. Tolls - $100
6. Cable & Internet - $100
7. Phone - $65
8. Food Budget - $200
9. Entertainment Budget - $200

TOTAL = $1,795

Assets:

1, Capital 360 Savings: $15,000
2. Vanguard:
a. Vanguard Balanced Index Fund (Taxable): $27,500
b. VTSAX (Roth IRA): $27,000
3. Employer 401k - Vanguard Institutional Index Fund: $43,000

TOTAL: $112,500

Contributions:
 
1. 6% to 401k (my employer matches 100% of this amount)
2. Max out my Roth
3. Everything else goes into the balanced index fund.

Current Strategy: My Roth and 401k I am utilizing a 100% stock strategy because I do not plan on touching this money for a few decades.  I have reserves in savings which is 6-8 months in living expenses and money that I can use as a cushion if something breaks in my rental home.  I use that Vanguard Balanced Index fund which has a 60/40 allocation to put money that I want to limit the volatility.  I want to limit the volatility to hedge against a bad market so I can still purchase rental homes.

I may differ here because my primary goal is to purchase real estate and grow my rental portfolio.  Reducing expenses is a supplement that helps me achieve my primary goal faster.

Improvements that I can make:

- Cut cable (currently under contract)
- Switch cell phone company (currently under contract)
- Move to the state where I work to reduce toll expense
- Purchase multi family home to live in (ex: duplex)

Questions:

1. How can I better allocate my funds? After reading peoples advice here it seems as though 6% to a 401k is low.  The reason why I only use 6% is because I want to have liquidity to fund my real estate investments.
2 Are there any improvements that I can make to my current strategy?

Thanks for the help!

[Cheddar Stacker]

I am in a whole different world (married with children, higher income, higher expenses, etc) yet share similar goals for rental investments. However I contribute $0 to IRAs and if I did I would go traditional rather than Roth. Instead I max out the 401k at $18,000 plus some extra employer contributions in exchange for wages, and anything extra goes into taxable investments/cash until an RE investment materializes.

You are paying 25% on your last dollar earned, and you can avoid that with higher 401k contributions.

Welcome to the forum. You came to the right place.

[MDM]

I may differ here because my primary goal is to purchase real estate and grow my rental portfolio.  Reducing expenses is a supplement that helps me achieve my primary goal faster.

You are paying 25% on your last dollar earned, and you can avoid that with higher 401k contributions.

My knee-jerk response is the same as Cheddar's.  Some back-of-the-envelope work (aka use of the case study spreadsheet) says you might cut your time to FI from 10 to 9 years by maxing the 401k.  There are of course many assumptions in those numbers, but you might (if you haven't already) do a similar calculation based on rental investment.  The 401k is a "bird in hand" (subject to market performance) - up to you to determine the number and accessibility in the rental bush (which has its own "subject to..." conditions).  Good luck!

[curlyfry]

Sorry I can't get past the fact that you have Pop Tarts AND a can of soda for LUNCH!  Yikes! This is an emergency!!!! 

 (Bringing an apple & a sandwich likely won't cost you more than $2 either!)   

:-P    Please tell me you will reconsider your lunch!

[mastrr]

You are paying 25% on your last dollar earned, and you can avoid that with higher 401k contributions.

What do you mean by this? 25% on my last dollar earned?

Its also interesting that you mention no Roth, I also have thought that in the past because you can't ever take out more than you put in (for awhile) which makes things more liquid.  Most people recommend one and thats the only reason that I started contributing.

[mastrr]

Sorry I can't get past the fact that you have Pop Tarts AND a can of soda for LUNCH!  Yikes! This is an emergency!!!! 

 (Bringing an apple & a sandwich likely won't cost you more than $2 either!)   

:-P    Please tell me you will reconsider your lunch!

ok fine, today I had a McChicken and a cheesburger off the dollar menu from mcdonalds and no soda because its to expensive.

[surething22]

Sorry I can't get past the fact that you have Pop Tarts AND a can of soda for LUNCH!  Yikes! This is an emergency!!!! 

 (Bringing an apple & a sandwich likely won't cost you more than $2 either!)   

:-P    Please tell me you will reconsider your lunch!

ok fine, today I had a McChicken and a cheesburger off the dollar menu from mcdonalds and no soda because its to expensive.

Haha man. That's some crap for your body!

Do you own your current rental property outright? Do you plan on financing or paying cash for your next one, and residence?

[Cheddar Stacker]

You are paying 25% on your last dollar earned, and you can avoid that with higher 401k contributions.

What do you mean by this? 25% on my last dollar earned?

Based on the facts you presented, I'm fairly certain you're in the 25% tax bracket. This means if you contribute another $100 to your 401k your federal income tax bill will be reduced by $25. Plus whatever your state/local tax rate is. Your 401k contributions come off the top at your highest rate since they reduce your taxable income before it reaches your 1040.

On the food, yeah, you need to find some healthy snacks before you end up with diabetes. Almonds, carrots, dried cranberries, something. When I eat any substantial lunch, it's a bowl of oatmeal I make from bulk ingredients kept in my desk. Likely about $0.30/bowl.

[Faraday]

Prepare for Mind Blowing #2:
http://www.bogleheads.org/forum/viewtopic.php?f=1&t=6211

I'll modify their advice at the bottom of that web page thusly:
Investing Priority
1.   401k/403b
2.   Max HSA Contributions
3.   Max out Roth
4.   Taxable Investing

[curlyfry]

"ok fine, today I had a McChicken and a cheesburger off the dollar menu from mcdonalds and no soda because its to expensive."

okay i will try to see past this.    not being judgemental.  my husband used to eat pop tarts & soda all the time!   (side point: he also later got cancer which costs me > $10,000 in health care bills & took him out of work for many years, but i'm not fear-mongering or saying they are related!) 

+1 for the oatmeal idea - cheapest breakfast going!!        :)

[ShoulderThingThatGoesUp]

I don't know about you, but I just turned 26 and I feel like I notice now when I eat terribly.

Financially, though it looks like you're paying a lot in rent and it's not to live close to work, because you're paying $100/month in tolls and - somehow $0/month in gas? I think you're leaving off some expenses. If you could rent for $750/month instead, which I think should be achievable for one person in a lot of places, that's a lot of extra money per year.

[thedayisbrave]

Ok, dude.  I get that you're trying to save money and make better financial choices.  You have NO reason to be eating that junk. 

[Bracken_Joy]

Health is the ultimate wealth, my friend. You can never buy back the years of poor health from poor habits. Just saying ;) (MMM forums: where you will always receive face punches, just not always for what you expected or asked!)

[Cheddar Stacker]

I don't know about you, but I just turned 26 and I feel like I notice now when I eat terribly.

Financially, though it looks like you're paying a lot in rent and it's not to live close to work, because you're paying $100/month in tolls and - somehow $0/month in gas? I think you're leaving off some expenses. If you could rent for $750/month instead, which I think should be achievable for one person in a lot of places, that's a lot of extra money per year.

OP said he has a company car. So I guess gas is paid by work. But that begs the question: why don't they pay your tolls as well?

[slugline]

Overall, for someone in their mid-20s, I think you're doing pretty well -- with room for improvement. (Most everyone has something they could optimize better.) How much time/mileage is involved with your commute? If you move closer to work, perhaps you'll gain back enough time to prepare more thoughtful meal choices.

Regarding the 401(k): Look at your last tax return and check out the line "taxable income." Assuming you're single, every dollar over $36900 is taxed at a 25% rate. The tax-savvy would prefer to shelter that in a retirement account, letting it compound and then withdrawing it later hopefully in a lower tax bracket in retirement. You'll have to decide whether giving that up for rental properties now would be the superior way to go.

[mastrr]

Prepare for Mind Blowing #2:
http://www.bogleheads.org/forum/viewtopic.php?f=1&t=6211

I'll modify their advice at the bottom of that web page thusly:
Investing Priority
1.   401k/403b
2.   Max HSA Contributions
3.   Max out Roth
4.   Taxable Investing

thanks for the link / very funny (had to google HSA)

[mastrr]

I don't know about you, but I just turned 26 and I feel like I notice now when I eat terribly.

Financially, though it looks like you're paying a lot in rent and it's not to live close to work, because you're paying $100/month in tolls and - somehow $0/month in gas? I think you're leaving off some expenses. If you could rent for $750/month instead, which I think should be achievable for one person in a lot of places, that's a lot of extra money per year.

Yes I am paying a premium right now for living in a nice section of a city.  I think your spot on as moving closer and less rent/mortgage is the single best move I can make to save money.

[mastrr]

OP said he has a company car. So I guess gas is paid by work. But that begs the question: why don't they pay your tolls as well?

I assume that they view it as my choice to live in a different state.

[mastrr]

I may differ here because my primary goal is to purchase real estate and grow my rental portfolio.  Reducing expenses is a supplement that helps me achieve my primary goal faster.

If your primary goal is to grow your wealth through rentals, then you should be keeping money in taxable accounts instead of locking it up in 401(k)s or HSAs or IRAs.  A bunch of super smart people have commented here, but very few of them seem to have fully read your post. 

Yes, OP can grow wealth quicker by avoiding taxes-- in keeping with the brilliant advice from folks like Mad Fientist, Root of Good, Go Curry Cracker, et al--but if your goal is to grow wealth through property rentals, then locking your money up in tax-deferred accounts will actually hamper your core wealth-building strategy and make for some sleepless nights if you don't have sufficient cash flow to weather large, unpredictable one-time costs of property ownership.  I suppose you might want to use a Roth IRA, in the event that you don't need the money right away, because you will still be able to access the contributions penalty free.  You're going to need more cash flow than someone trying to build wealth through investments.

Also, I am guessing you work in outside sales and you get a monthly stipend for travel, and that may even be part of your 65K compensation.

Appreciate the input, you are correct and am going to modify my approach a bit.  Max Roth (100% stock) , 401k Up to company match (100% stock), 15k for living expenses and 20k in money that I can use as a downpayment in savings account, and everything else I will throw in the vanguard balanced index fund.

[mastrr]

Sorry I can't get past the fact that you have Pop Tarts AND a can of soda for LUNCH!  Yikes! This is an emergency!!!! 

 (Bringing an apple & a sandwich likely won't cost you more than $2 either!)   

:-P    Please tell me you will reconsider your lunch!

ok fine, today I had a McChicken and a cheesburger off the dollar menu from mcdonalds and no soda because its to expensive.

Haha man. That's some crap for your body!

Do you own your current rental property outright? Do you plan on financing or paying cash for your next one, and residence?

I used conventional 80/20 loan on my first rental.  How I finance my next rental depends on the property's condition.  If it is in good condition I will use another conventional loan, if its in bad shape and doesn't cost much I will pay cash and fix it up.

If I decide to live in a home with the intention of turning it into a rental down the road I will use a FHA loan because it only requires 3.5% as a down-payment.  At this point I am not moving into a home that I don't see as an investment.

[mastrr]

Overall, for someone in their mid-20s, I think you're doing pretty well -- with room for improvement. (Most everyone has something they could optimize better.) How much time/mileage is involved with your commute? If you move closer to work, perhaps you'll gain back enough time to prepare more thoughtful meal choices.

Regarding the 401(k): Look at your last tax return and check out the line "taxable income." Assuming you're single, every dollar over $36900 is taxed at a 25% rate. The tax-savvy would prefer to shelter that in a retirement account, letting it compound and then withdrawing it later hopefully in a lower tax bracket in retirement. You'll have to decide whether giving that up for rental properties now would be the superior way to go.

This makes more sense to me now, thank you.  I have to be balanced while still having the ability to act quickly on deals.  Also, when the market tanks is when I want to be buying because I can get in cheap and profit once the market turns around.