Case study: Starting with less than zero
I am not a trained financial expert. I'm not an accountant, I'm not a financial planner, and I'm not a stock broker. What's more, I've made many many money mistakes on my own financial journey. As a result, I've always been reluctant to sit down with people and go over their budgets.
That seems to be changing.
In March, I spent a couple of hours talking with a friend about her financial situation. A few days ago, another friend asked if I'd be willing to meet with him in the near future to puzzle through his budget woes. And yesterday, I took three hours to chat about money with my friends Wally and Jodie.
As always, I've changed names and certain identifying features in the story that follows. Unless I have explicit permission to share details, I do my best to protect people's privacy when I write about their intimate financial lives.
Wally and Jodie have recently begun dating. He's in his early forties (and recently divorced); she's in her late twenties. They both work in food service, and have done so all of their lives.
Their trouble — and the reason they asked me for help — is that they cannot seem to make ends meet. They work hard but never have anything to show for it. In fact, they feel like they're falling further and further behind.
“Can you help us?” Wally and Jodie asked.
“I can try,” I said. “Let's look at your numbers.”
An Income Problem
“To start,” I said, “let's look at how much you're bringing in.”
“That's part of the problem,” Jodie said. “We don't have a fixed income. Because most of our money comes from tips, we can't predict how much we're going to make from one month to the next.”
“Right,” said Wally. “And it doesn't help that our hours are irregular. We both work at several different restaurants. Some pay better than others. Plus, there are days when you won't have any customers. When that happens, you're sent home early with nothing to show for it.”
“Well, how much would you say you make on average?” I asked.
Wally and Jodie made some calculations. “I make maybe $1400 per month,” Wally said. “On a good month, I'll make $1700. And Jodie makes another $1500. These numbers are after taxes.”
Jodie nodded. “But we each just picked up a shift at a new restaurant. That should give us each maybe $500 extra each month.”
“That's great,” I said, jotting down numbers in my notebook. “But I don't like looking at potential numbers. I learned the hard way that when you budget based on future raises, bonuses, or other expected sources of income, you can get into real trouble. Obviously, you hope that extra money comes through, and when it does, you can apply it to your budget. Until then, though, it's best to ignore it.”
I thought for a moment. “My first impression — before we even look at your spending — is that you're not making enough money. You're making less than $3000 per month combined. We should brainstorm some ways you can earn more.”
Starting with Less than Zero
I turned a page in my notebook. “Now, let's talk about how much you're spending.”
“That's the problem,” Jodie said. “We spend exactly what we bring in, no matter how much we bring in. That means there's never enough to catch up on our debts — some of which we're behind on.”
“What are your biggest expenses?” I asked.
“Well, our apartment costs $900 per month — but it'll go up to $950 pretty soon,” Wally said.
“Not bad,” I said. “That's actually a great price for Portland. And it's a reasonable amount based on your income.” I explained how the average American household spends one-third of its income on housing; I advocate aiming for 25% — or less.
“Food costs money,” Jodie said. “We budget about $100 per week for groceries, but that's just bare bones stuff, you know?”
“I have a car payment,” Wally said. “In fact, that's one of our biggest problems. I took out the loan when I was married. My ex-wife and I are both on the loan. It seemed reasonable at the time. Now, though, it's a pain in the ass. I owe $12,500 on the car and payments are $300 per month. To make matters worse, I'm already a couple of months late on my payments. This is causing me a ton of stress. It makes Jodie stressed, it makes my ex-wife stressed, and it makes me stressed.”
“Hm,” I said. “I don't have any experience with getting behind on payments. I used to live paycheck to paycheck, for sure, but I was lucky. I never had an accident or got sick, so I was always able to make payments on time. I don't know that I have any good advice for you about this problem, but maybe some of my readers at Get Rich Slowly could help.”
“Honestly, that's one of our biggest frustrations with the money advice we've found,” said Jodie. “All of it assumes that you're starting from zero. Or more than zero. What if you're starting with less than zero? What if you're deep in debt — we have $35,000 in debt, just like you used to — and what if you're behind on your payments? What then? All of the advice we read seems to be written by rich people for rich people.”
“Yeah, I can see how that would be frustrating,” I said. “Like I said, I don't have experience starting at less than zero. I started at zero. I was deep in debt, but once I stopped spending, I already had a gap between my income and spending, so I could immediately start paying down debt. You two have some catching up to do. We need to figure out how you can play catch-up.”
A Mountain of Debt
As we worked through their budget, I was mostly impressed. While Wally and Jodie aren't bringing in a lot of money, they're not spending a lot of money either. As with most budgets, they did have some discretionary items that could be cut, but not a ton of them. (Their biggest discretionary expense seems to be local travel. They're spending a couple of hundred dollars each month to visit family and/or have fun with friends.)
My biggest concern was their debt. Between the two of them, they have $35,000 in debt:
- $12,500 for Wally's car, on which he's upside-down. (“I wish I could just sell it and wipe out the debt,” Wally said. “But I'd still owe about $3000 if we sold it.”)
- $12,500 for Jodie's student loans.
- $10,000 of miscellaneous debts, such as $500 they just spent to buy new tires after getting stranded because of a flat.
To complicate matters, Wally and Jodie are going through several large life transitions right now. Wally is fresh from his divorce, they just moved in together, they're both trying to find permanent full-time jobs, and they're thinking about moving to a cheaper place to live.
“So, that's our situation,” Jodie said. “For good or ill, that's what we have. Where do we start? How do we get out of this mess?“
“Well,” I said, “the good news is that I think you're both capable of working together to build a brighter future. The bad news is that it's going to take some time. It's also going to require some sacrifices — or what seem like sacrifices. If you want to fix this, you'll have to do some stuff that sucks in the short term. But I want you to remember: Most of these sacrifices are temporary. They're only until you manage to get rid of the debt.”
“I read what you wrote about growing up poor and having a scarcity mindset,” Wally said. “I totally relate. My family was poor too. Any time my parents got money, they spent it. They felt like they deserved to treat themselves because they'd gone without for so long. And looking at my own life, I see that I do that too.”
“That's a tough trap,” I said. “I totally relate. And I know first-hand how when you're poor, you feel like any windfall should be spent on fun. But if you want long-term happiness and financial stability, you have to decide that — for a year or two — you're not going to give in to that temptation. When you get a bonus or a raise or a big tip from a table at work, you'll put that money toward your financial goals, not toward a nice dinner out. Once you get rid of the debt, you can have all sorts of nice dinners out. But until then, you have to agree to make a game of living on less.”
Growing the Gap
“I want you to focus on two things,” I said.
“The first thing is the gap between your earning and spending. Right now, you don't have a gap. You're spending exactly what you earn. It's impossible to save for the future or to catch up on your debt if you don't make more than you earn. So, to start, you two need to do whatever you can to increase this gap.”
I turned back to my notes on their budget. “You should trim your budget in whatever way you can. You don't have a lot to trim, but if there's anything you can cut, cut it. I know family is important to you, but maybe you can explain what that you're trying to get out of debt and need to take some time off from the visits. Or maybe make the visits shorter — a weekend instead of a week. And remember: You're not cutting these things forever. You're only cutting them until you get rid of your debt.”
Wally and Jodie nodded.
“Because you don't have a lot to cut from your budget,” I continued, “I think the best way for you to increase your gap is to find ways to earn more money. Right now, you're both working at two or three or four different restaurants. You only have a few hours per week at each place. None of the restaurants are that nice, so you don't make great tips. Honestly, I think this is where you should focus most of your attention.”
Wally sighed. “We've talked about that,” he said. “We'd love to earn more, but nothing ever seems to work out. One place says it's going to give us more hours, but it never does. Jodie will pick up a shift a nice restaurant across town, but then it's a logistical problem to get there. I get frustrated by how much time is involved with all of this.”
“That's a good point,” I said, “and I don't have a good solution. Actually, you know what I'd do if I were you? You're both great servers. You do good work. Your bosses like you, and so do your customers. If I were you, I wouldn't be looking for work at diners and cafes. In your spare time — which I know isn't much — you should be applying for work at upscale places. When you work at a nicer place, you don't do any more work, but you make a lot more money. Plus, you have the advantage of interacting with a different sort of clientele. If you build relationships with some of them, who knows where that could lead?”
When I was in college, I made money by waiting tables. I received several job offers from regular customers who were impressed by my work ethic. I suspect that if Wally and Jodie were in the right environment, they'd experience the same kind of thing.
“Another option is to pick up a few hours work doing something completely different,” I suggested. “Maybe Jodie could work in a women's clothing store. Maybe Wally could do yardwork or handyman stuff.”
“I think we get where you're going with this,” Jodie said. “We need to increase the gap between our earning and spending. Because we don't spend a lot, the best way to do this is to earn more money…somehow.”
“Yep,” I said. “That's the gist of it. That's the first thing I think you should focus on.”
Taking Baby Steps
“The second thing you should tackle is your debt. I know you both have things you want to save for long term, but I want you to put those dreams on hold for now. You can't save for your future until you pay off your past.“
“My dad tells me I should save first before tackling the debt,” Jodie said. “He says I should build six months of savings before anything else. What do you think?”
“I disagree,” I said. “I think saving six months worth of expenses is a fine goal, and that's absolutely what you should aim for. But that's not where you should start. As you increase your gap between earning and spending — because remember everything depends on this gap — I think you should apply your money according to the Dave Ramsey plan. Here, I'll explain.”
I made a modified list of Dave Ramsey's “baby steps”:
- Build a basic emergency fund of roughly $1000 (while continuing to make minimum payments on debt). “My advice is to keep this fund in a brand-new bank account that isn't connected in any way to your other accounts,” I said. “You want to make this easy enough to access when you need it, but not so easy that you can just access the money on a whim.”
- Pay off all debt using some version of the debt snowball method. “When I was struggling, I couldn't figure out how to get out of debt,” I said. “Dave Ramsey's version of the debt snowball helped me. In your case, I'd use a slightly different version. Wally's car seems to be a huge psychological weight. You two need to prioritize that. After you've saved your emergency fund, throw as much money as you can at debt — with everything extra you can find going to that car.”
- Save an enhanced emergency fund equal to six months of normal expenses. “After you're out of debt, beef up your savings. I know you'll want to start saving for other goals right away, but don't. Take time to add some margin to your life. You'll be glad you did.”
- Pursue long-term financial goals, such as traveling, moving to Idaho, or buying a motorcycle. “You know what's awesome?” I said. “After you've taken time to pay off what you owe using the debt snowball, then you can immediately start building a wealth snowball. If you're paying $500 toward debt each month, then once that debt is gone you can immediately start saving $500 per month!”
“That all sounds great,” said Wally, “but to be honest, J.D., in some ways your advice is just like the other advice.”
“What do you mean?” I asked.
“Well, it's assuming that we're starting from zero. But we're not. We're starting with less than zero.”
“I have an idea,” said Jodie. “What if we added a step zero to the baby steps? We could call it ‘putting out the fires'. Before we save the basic emergency fund, we could throw every dollar toward catching up on the car payments.”
“I think that's fantastic,” I said. “In fact, I think that's really smart. If you can take some quick steps toward increasing your gap between earning and spending, then you should be able to get caught up on the car within a few months — if nothing goes awry. Then you can pursue the plan I've laid out.”
Wally nodded. “I think that makes sense,” he said.
After three hours on the back deck, I sent Wally and Jodie home with a handful of money books. I could tell their minds were bubbling with new ideas. (“Is gas for the car a Want or a Need?” Wally texted me yesterday afternoon. I love it!)
I know that Wally feels frustrated. He hates being over forty yet feeling like he's in the same place he was when he was twenty. I get it. But here's the thing: He has to adopt a beginner's mind. “Start where you are,” I wrote in January. “Don't fret about the past or how other people are doing.” Wally needs to accept that his situation is what it is — and work to improve from that point.
Knowing what I know about these two, I really do believe they're capable of starting where they are — starting with less than zero — and destroying their debt in a relatively short period of time.
It took me 37 months to get out of debt. (I started on 21 October 2004 and finished on 03 December 2007. That's a total of 1139 days to pay off $35,196 in debt.) Progress was slow at first, but accelerated rapidly toward the end of that period.
Wally and Jodie have exactly the same amount of debt as I did when I decided to become CFO of my own life. My challenge for them is this: Get out of debt quicker than I did. Do it in less than 1139 days.
If we count yesterday as Day One, then 29 September 2021 would be day 1138. Wally and Jodie, my hope for you is that together you can be debt free by that date — or sooner.
What advice do you have for Wally and Jodie? What can they do to improve their financial situation? Did you start your financial journey with less than zero? Have you ever fallen behind on payments? If so, how did you handle it? How did you caught up?