Laying Down the Law on Spending Priorities
Frugality is a valuable skill during hard times. And Adam Fox and Jessica Gadsden were practicing the art well before the recent slowdown in the U.S. economy.
That might seem unusual for a pair of young married attorneys with a relatively secure six-figure income. But the couple also is toting $165,000 in student debt--a figure that can neutralize even a lawyer’s paycheck.
An added hitch: Fox and Gadsden have been focusing on paying down their loans, but lately they’ve been thinking about a less battened-down lifestyle.
“Our initial plan was to live in an apartment and eat macaroni and cheese until we paid off our loans,” Gadsden said. “But we’re five years into it and we started to want other things.”
Like the house they recently purchased and would really like to remodel. And new cars to replace the aging compacts they drove throughout college. And furniture. And landscaping.
“We have been trying to figure out how to balance saving for retirement and paying off our loans with our other goals,” Fox added.
The good news: Both Gadsden and Fox are extremely disciplined about spending, forgoing many common luxuries including cable television and high-speed Internet connections. Their entertainment budget? Gadsden laughs: “We went to Blockbuster last weekend and spent $3.99 on a movie.”
They don’t buy things on credit, instead waiting to buy until they have enough cash. They also live well below their means, saving in retirement accounts and through mutual funds.
They also have $30,000 in a money market account. That’s a vital statistic. Fox’s job as a corporate attorney appears secure, but the emergency fund would prove invaluable if the spreading economic decay ever reaches their doorstep.
Perhaps best of all, though they have lots of immediate-term wants, they’re willing to wait.
“Although you have a number of immediate goals, you seem to be saying that you don’t have to do any of them tomorrow,” said Alev Lewis, a senior manager in the personal financial planning division at Ernst & Young in Woodland Hills. “That gives you a lot of flexibility.”
Both Fox, 30, and Gadsden, 29, made it through law school at pricey Cornell University in New York by living on a steady diet of student loans. They graduated with about $200,000 in debt.
They were able to swing the debt payments and afford little things they wanted until recently when they moved from Cleveland to Los Angeles for Fox’s job in commercial litigation and intellectual property law.
Gadsden, who had a private practice in Cleveland, has decided not to launch her own practice here. She’s got a dozen irons in the fire--including a book in the works and resumes out to a number of head-hunting firms. But she’s uncertain about what she’ll do. More to the point, she has no steady income.
Fox’s job in corporate law pays handsomely, however. He earns about $185,000 and expects his pay to increase fairly steadily.
Fox has a 401(k) retirement account at work with about $11,000 invested; they have shares in a Vanguard index stock mutual fund that are currently worth about $8,500. And there’s the $30,000 in the money market account.
Without Gadsden’s income, they take home about $9,800 a month after 401(k) contributions and taxes. They pay $2,500 monthly on their student loans and $3,000 monthly on their home mortgage; spend about $400 a month on food; send $400 a month to Gadsden’s grandmother; and put about $200 a month into their Vanguard fund. Other miscellaneous expenses--utilities, insurance, car repairs, etc.--leave them with between $1,000 and $2,000 in available cash each month to address their near-term goals.
The question they posed to their financial planner was this: Should they use their money market savings and/or their spare monthly income to pay off their student loans? Or, perhaps, to buy new cars or fix up their house?
Any of the above, Lewis responded. The couple simply must decide which goals are most important and then create a reasonable plan to accomplish them all over a period of a few years, she said.
For a couple that hates to be in debt--they have no credit card debts or auto loans--it’s certainly tempting to put the loan repayment first. However, given the massive loan balance, that would push their other goals into the distant future. And because this is student debt, not credit card loans, there’s less advantage to paying it off.
Why? The interest rates on student debts are capped at relatively low levels. The couple’s debts charge interest rates ranging from 5% to 8.65%. Moreover, if the borrower suffers an economic hardship, such as a job loss or disability, student loan payments can be placed on a temporary hiatus.
Meanwhile, Gadsden’s 1989 Toyota appears to be on its last legs, requiring expensive repairs every few months. And Fox’s 1992 Mitsubishi Eclipse probably isn’t too far behind.
Gadsden wants an inexpensive car. She can’t stand the idea of spending more than $10,000 on a depreciating asset. But Fox would like something nicer.
Some of the house repairs are also pressing. For instance, the plumbing in their two-story Spanish-style residence in central Los Angeles dates to the 1920s, when the house was built. You can’t draw a glass of water from the faucet while someone else is taking a shower. Add in other fix-up projects and the tab comes to about $16,000.
“We never really thought about putting these things in order,” Gadsden said. “Everything was a No. 1 [priority].”
Once they were pressed to put their goals in order, however, it was clear that fixing the plumbing and making a few other minor house repairs was what needed to be done first. Replacing Gadsden’s car would rank second, while making more house repairs and buying some furniture would rank above replacing Fox’s vehicle.
As for the couple’s investment portfolio, it’s too soon to tell whether it will meet their retirement needs. For a couple so young, there are dozens of variables that will affect their eventual retirement readiness. Those include whether Gadsden returns to work and how much they save in the future. However, given their long time horizon, it’s likely that the market will recover and appreciate at historical rates of return, which average about 11% annually.
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This Week’s Make-Over
Subjects: Jessica Gadsden, 29, and Adam Fox, 30
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Income: $185,000 annually
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Goals: Pay off their student debts while saving for retirement, fixing up their house and replacing their old cars
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Assets
* $30,000 in a money market account
* $8,500 in Vanguard 500 Index fund
* $11,000 in Fox’s 401(k) retirement account, split 50% in Spartan US Equity Index fund; 25% in Fidelity Blue Chip fund; 25% in Fidelity Dividend Growth fund
* About $20,000 equity in their home
* A 1989 Toyota Camry and a 1992 Mitsubishi Eclipse
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Debt
* $165,000 in student loans
* 30-year fixed-rate home mortgage of $308,000 at 7.375%
* $57,000 home equity loan at prime plus 2%
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Recommendations
* Prioritize goals
* Create a reasonable spending plan to accomplish goals, in their order of importance
* Maintain a substantial emergency fund
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Meet the Planner
Alev Lewis is a senior manager in the personal financial planning group at Ernst & Young in Woodland Hills. She’s a certified public accountant with a personal financial planning designation and a certified investment management analyst.
