By Dr. Jim Dahle, WCI Founder

You've probably heard the phrase Buy This, Not That before. There's a book with that title. WCI Columnist Francis Bayes even did a version of this idea last year. Today, we're going to go over a potpourri of financial wisdom in “Buy This, Not That” style.

 

Buy a Used Car with Cash, Not a New One On Credit

The amount of money that Americans throw away on transportation is unbelievable. I am a firm believer that the reason most middle-class folks are not wealthy is sitting in their driveway. Cars depreciate rapidly, and more expensive ones cost more to finance, insure, maintain, and repair. When I see someone with a five-figure car loan, I just shake my head and honestly feel sorry for them for not understanding this principle. Few of us agree with everything Dave Ramsey says, but he's got two auto rules of thumb that I think are pretty darn good.

The first one is that you shouldn't have cars and other things with motors (boats, planes, motorcycles, snowmobiles, RVs, etc.) that are worth more than half of your annual income. If you make $200,000 a year, you should have no more than $100,000 in cars. If you're a resident married to a stay-at-home spouse, that limit is going to be $30,000. Maybe a $10,000 car and a $5,000 car would be even better.

The second rule of thumb is that you shouldn't buy a brand new car until you're a millionaire. At that point, it becomes a relatively trivial part of your financial world, rather than something that is preventing you from building wealth.

Both of his rules of thumb are worth following. I would also add my own rule to the collection: “Never have a car loan of more than $10,000, even if you're a doctor or expect a high income later.” Get used to paying for your stuff with cash using “saved money.

 

 

Buy Index Funds, Not Actively Managed Funds

The data showing that you should invest in low-cost, broadly diversified index funds instead of actively managed mutual or exchanged traded funds is overwhelming. Yet only half of the money in mutual funds is in index funds, and plenty of those are not low-cost or broadly diversified. Why buy something that is almost guaranteed to underperform? The benefits of index funds are even more pronounced in a taxable account. Higher management fees, more bid-ask spreads, higher commissions, more short-term capital gains, more non-qualified dividends, and more manager failure. Who needs it?

 

Buy Term Life Insurance, Not Whole Life Insurance

Life insurance is designed to treat the financial catastrophe of having a breadwinner die young. Term life insurance is “pure” insurance; you're paying only for what you need. Young healthy people can buy millions in term life for a two-figure amount per month. Whole life insurance, on the other hand, is a combination of unnecessary insurance and a poorly performing investment. No wonder such high commissions have to be paid to get it sold.

 

Buy a House in a Good School District, Not Private School Tuition

If you live in a good school district, you can send your kids to the local public schools for free. Well, not for free, but it might as well be since you're going to pay the property taxes supporting those schools either way. Private school tuition can be as much as $40,000 per year. From kindergarten, $40,000 x 13  years = $520,000. If you have four kids, that's over $2 million in private school tuition. You're telling me you couldn't find a decent house in a decent school district for $2 million? I'm skeptical. A house might be a consumption item, but it's the least bad one to buy. Not only does it shelter your family, but it generally appreciates over time. If you have school-age kids, owning a house in a good school district pays two kinds of dividends. It pays you “saved rent” dividends, and it pays you “saved tuition” dividends.

 

Buy Individual Disability Insurance, Not Group Disability Insurance

While the most important thing about disability insurance is to have SOMETHING in place, some disability insurance is clearly better than other disability insurance. An individual disability policy generally has premiums that do not go up over time. It can go with you when you leave your current employer, and it is more likely to pay out and for longer in the event of a disability. Group life insurance policies have escalating premiums. They are not portable, and they can be filled with so many holes in coverage that they resemble Swiss cheese. Not sure where to get a good individual disability policy? We can help with that. 

 

Buy Retirement Accounts, Not Annuities

Retirement accounts are products made to be bought; annuities are products made to be sold. The tax breaks available in a 401(k) or a Roth IRA are dramatically better than those available in an annuity. Both retirement account money and annuity money grow in a tax-protected way, but that's where the similarities end. Both annuities and Roth IRAs are funded with after-tax money, but the earnings coming out of a Roth IRA are tax-free. Those coming out of an annuity are taxable. At ordinary income tax rates. And the earnings come out first. And the fees are significantly higher. Retirement accounts often provide better asset protection, better estate planning benefits, and better investments. While annuities have their uses for some people late in life, funding one before maxing out your retirement accounts is almost surely a mistake.

buy this not that

 

Buy Experiences, Not Stuff

The data in the happiness literature is very clear. In general, the purchases that bring the most happiness are shared experiences with people we care about, not the stuff that fills our houses and garages. Not convinced? Go to an estate sale sometime. Nobody wants the decedent's old stuff. What isn't being thrown away is sold for pennies on the dollar. The average estate sale brings in $18,000, and the estate sale company takes 30%-40%. How many years of your life did you work so you could get $12,000 worth of stuff?

 

Buy a Practice, Not a Doctor House

Young dentists are often faced with the choice to buy into a practice or get a big mortgage on a fancy house. Buy the practice first. The practice is an asset, which may double or triple your income. The house is a consumption item. The same principle applies to many physicians buying into a partnership or purchasing shares of a surgical center, dialysis center, endoscopy center, lab, radiological center, or practice real estate. The doctor house will be just as enjoyable at 40 when you can afford it as it would be at 35 when you can't.

What do you think? What other “buy this, not that” items would you add to the list? Comment below!