A Retirement Reality: Spend Less, Save More And Invest In Dividend Stocks (Part 2)

 |  Includes: BAC, WMT, XLV
by: Regarded Solutions

Based upon a very successful article written about 10 days ago (check it out here), I have been inundated with requests for a follow up article on various ways to save, prior to investing, for a young family just starting out.

In the previous article, we discussed the basics of financial security for long term success. The keys to success are not difficult to understand, but they are difficult for many regular folks to actually implement.

Life always seems to get in the way.

I feel it would be helpful to have a discussion about the cornerstone of saving money and living life, which happens at the same time. Nope, we cannot save up and THEN live, sorry folks. Nor can we live life and ignore saving completely if we want to have a more secure future, and/or, retirement. So how do we achieve both so that we can finally take the investment plunge? It is all about money management.

Money Management Is The Holy Grail For All Investors

Prior to investing a dime in any stock, it would be a good idea to figure out how we can live and save without having to munch on twigs and sand for the next 30 years. Once we do that, guess what I have; the "Team Alpha" portfolio for everyone to watch, and choose to follow along, or maybe even invest in some, or all of the core stocks.

Managing money was never taught in any school I ever attended, and I would venture a guess that it was not taught in YOUR schools either. If our folks did not teach us, we learned on our own. As statistics have shown, the American public has failed miserably. So what are the steps we need to take to begin managing money effectively?

The key is obvious; how much do we take in and how much do we spend. Let's look at life's largest expenses and how we can effectively manage them, in order to save, so that we can accumulate wealth, and invest for financial security.

The Big Expenses

  • Housing
  • Health insurance and medical expenses
  • Auto
  • Food


In this article, it breaks down the true cost of home ownership into various categories; Mortgage payments, property taxes, insurance, utilities, furnishings, and maintenance. Over a 4 year period from the initial purchase, the cost of ownership averages roughly $48,000. That is $12,000 per year based on the 2009 average home cost of $180,000.

We can break this down into monthly payments of roughly $1,300/month, with inflation over 3 years included. While this appears quite reasonable to many folks, consider this on the average annual gross income of $50,000 for a family of four.

After federal and state taxes, we could be looking at a net income of $35-40,000 depending on the state you live in and your effective tax rate. I calculated 20% for Federal and 5% for State taxes, coming to a net income of $38,000. That would also include FICA and Medicare taxes, but nothing else taken out.

$38,000 less $15,600 equals $22,400.

Health Insurance And Medical Expenses

Based on this report from 2008, the average yearly medical cost came in around $15,000. That includes health insurance, office visits, dental, prescriptions, and medical emergencies. The amount will fluctuate based on the insurance plan, but in general, this is what was calculated.

"Your typical American family of four is going to have $15,609 in medical expenses this year. That's an increase of more than $1,100 from last year.

That number is reported in the fourth annual Milliman Medical Index, which tracks the average yearly health care costs when the family of four is covered by an employer-sponsored preferred provider organization."

Take a look at this chart:

health care, health insurance, costs, employees

As you can see, Milliman estimates reached over $19,000 in 2011. The actual out of pocket expenses for employee's with health insurance from their employer is less of course.


An out-of-pocket expense of roughly $8,000 can be used in our exercise.

$22,400 less $8,000 equals $14,400.

Auto Expenses

Many of us do not realize the cost involved in owning and operating one car, let alone 2 cars in a family. According to this article from Investopedia, the average cost for owning and operating one car, per year, comes to roughly $8,000 based on a 2006 report from the US Bureau of Labor Statistics.

"According to Consumer Expenditures in 2006, released in February of 2008 by the U.S. Department of Labor's U.S. Bureau of Labor Statistics, the average vehicle costs $8,003 per year to own and operate. The breakdown of the figure comes to $3,421 for purchasing the vehicle, $2,227 in gasoline and motor oil expenses, and $2,355 in other vehicle-related costs. As one might expect, the least affluent spend less than the most affluent. In fact, the nation's most affluent quintile spends a whole lot more, with their $15,198 in annual vehicle expenses coming in at nearly six times the $2,856 spent by the least affluent."

Item Lowest 20% of Income Earners Second 20% of Income Earners Third 20% of Income Earners Fourth 20% of Income Earners Highest 20% of Income Earners
Total $2,856 $5,058 $7,310 $9,571 $15,198
Purchase $987 $1,954 $2,940 $3,774 $7,442
Gasoline/Oil $991 $1,624 $2,182 $2,829 $3,508
Other $879 $1,489 $2,188 $2,968 $4,248
Click to enlarge

We can safely use the $8,000/year figure for 2 cars, based on the average family of four income of about $50,000.

$14,400 less $8,000 equals $6,400.

Food Expenses

We need to eat of course, and food costs are rising seemingly faster than our healthcare costs. According to the 2010 US Government Census, a "liberal" food cost came to about $10,000 per year. Based on the average income , a "thrifty" food cost came to about $5,000 per year.

In this article, an even pricier cost is estimated for 2013.

"The Department of Agriculture Center for Nutrition Policy and Promotion estimates a moderate weekly grocery bill for a family of four with school-age children at roughly $236.60, which translates into an annual family budget of approximately $12,300 for food consumed at home."

Based on the average income of $50,000 we can use the "thrifty" food cost of $5,000 per year.

$6,400 less $5,000 equals $1,400.

I can see everyone shaking their heads already. "There is no way that WE can live on THAT!" You probably would be correct. After all the balance would need to pay for clothing, cell phones, internet, cable TV, etc. Not a pretty picture, but very typical of the average US family. Perhaps now we can see how the savings rate has dropped (see that first article again), and how folks are retiring with nothing.

Very difficult choices need to be made, and far too many folks simply refuse to make them and go into debt. You do not have to be one of them.

What I Suggest

Living below ones means is the only way to achieve balance in ones finances. It is the only way to have a chance for a more secure future, and a potential retirement.

The very first expense I would target would be housing of course. Rather than buying the average home of about $200k, cut it in half. Put a cap of $100,000 on the cost of a home. If that means moving, or not buying, then so be it. Think of your goal, not of the moment.

If you cut your costs of all housing related expenses by roughly 25%, you would save about $3,900 per year. That amount is less than the Draconian cut of 50% I suggest.

The next obvious expense would be the automobile expenses. Rather than owning 2 cars, get a decent 4 year old used one for the entire family, and reduce expenses by 60%. Think of the goal, not of the moment.

If you cut 25% of your auto expenses, you would save $2,000 per year. About half of what I suggest, but you can get 2 used cars and a higher deductible insurance to reach this modest cut.

Health insurance and medical expenses are too important to tamper with, so the best you can do is to take care of yourself. Quit smoking, don't drink, get regular exercise, and lose weight if needed. There are some statisticians who claim that 20% could be slashed from everyone's medical expenses if these simple rules were followed. For our sake, lets just say you can cut down on co pays from office visits and it saves you 10% from your healthcare expenses. Let that be your modest goal here.

That would save you about $800 per year while keeping you and your family healthy, and insured.

Food costs are tricky, especially with a younger family. Simple steps like using store brands rather than name brands, and buying in bulk rather than as you need it, are perhaps the best ways to cut food expenses.

I found this article that offers 10 ways to cut food costs. Take a look at it and I am sure you can find at least a few ways to save. Your goal here is to cut 15% from your food bill. Nothing drastic, just realistic if you work at it.

A 15% cut on the food costs would save about $750 per year, without having to starve yourself.

Now let's add up the potential savings;

1) Housing: $3,900

2) Auto: $2,000

3) Medical: $800

4) Food: $750

A total of $7,450 per year could be a target to cut from expenses, to save. Add that to the surplus of $1,400 from the original net income less basic expenses, and you will have $8,850 per year to begin saving and investing.

Saving And Investing

The very first way to save wisely is either through your employer's 401k plan, or your own IRA. For those just starting, I would suggest putting the maximum amount into a 401k plan to receive the employer matching contributions at least. If there are no 401k plans available, put the maximum amount into your self directed IRA. You can even reduce taxes by contributing to either plan, unless you opt for a Roth IRA which I would hold off on until you are ready to invest, rather than to actually save.

The next step would be to set up an emergency savings fund of about 15% of your available funds, "for a rainy day". Once you have about 6 months of your annual net income saved, you can slow this down.

Only after these initial steps are taken, or if you get a second job, or a significant raise in income, would I suggest that you begin investing. For now, your goal is to "sock it away". Once you have "socked it away" for at least 5 years, you can use the funds outside of your 401k, and/or IRA, to invest in carefully selected stocks to begin your long term goal of acquiring wealth. My chosen path is a well balanced dividend growth stock portfolio with some "spice".

"Team Alpha" has all the ingredients to help you achieve the longer term goal.

Our portfolio now consists of Exxon Mobil (NYSE:XOM), Johnson & Johnson (JNJ), AT&T (NYSE:T), General Electric (NYSE:GE), Annaly Capital (NYSE:NLY), Southern Company (NYSE:SO), Procter & Gamble (NYSE:PG), Intel (NASDAQ:INTC), Realty Income (NYSE:O), Coca-Cola (NYSE:KO), Bank of America (NYSE:BAC), American Capital Agency (NASDAQ:AGNC), Wal-Mart (NYSE:WMT), Cisco (NASDAQ:CSCO), 3M Company (NYSE:MMM), Bristol-Myers Squibb (NYSE:BMY), and Healthcare Select Sector SPDR (NYSEARCA:XLV).

More people will fail at the basics and never even get to the goal of investing. We hear about it everyday and the simple fact that you are here on Seeking Alpha, reading this article, is evidence to me that you do not want to be counted among the former.

Be careful out there, and save, save, save!

Disclosure: I am long XOM, JNJ, GE, T, O, NLY, AGNC, BMY, CSCO, INTC, MMM, WMT, SO, KO, XLV, BAC. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.