Inflation and taxes can wreak havoc on the best-laid financial plans unless you arm yourself with the knowledge and tactics to prevent the most damage.

Today we’ll focus on inflation, which is one powerful enemy. Why? You can’t see it, there are are no laws protecting you from it and it’s not selective. Every single dollar is subject to its eroding influence.

What is inflation?  – Get to know your enemy.

Inflation refers to the increase in the Consumer Price Index (CPI), which tracks the prices of goods and services that most of us buy. Inflation has averaged 3% a year from 1926 to 2009.

When prices rise, each of your dollars buys fewer goods and services – eroding your purchasing power. Just think about the price increases on everyday items such as milk, bread and eggs over the last few years. Or, consider the rise in your medical insurance premium or the tuition for your children’s education.

It’s not hard to see that if your income doesn’t rise with the rate of inflation, your lifestyle can be dramatically affected. Not all goods and services rise at the same rate, however. If you buy more items that are rapidly costing more money (education, medical costs) you’ll be more adversely affected.

How can you fight inflation?

There are a few ways to fight inflation and fortunately you don’t have to take on this fight all-alone. One of the Federal Reserve’s (the Fed) key duties is to keep inflation under control or in Fed speak: to maintain stable prices. They do this by manipulating monetary policy – usually by raising short-term interest rates but they have other tools as well.

But since inflation is a persistent foe, all the Fed can do is control the rate of inflation, not stop it altogether (which could lead to deflation, but that’s a whole other story).

Five Inflation Beating Tactics

Fortunately, there are some actions you can take with your money to hold off or minimize the erosion of your purchasing power:

1. Invest your cash reserves wisely. Financial institutions are more than happy to take your cash and pay you a low interest rate. Then it’s invested for a higher return elsewhere! Keep up with current savings and money market rates and move your money to where you can get a competitive rate on your cash. Note: money market fund rates tend to move up quickly when interest rates rise.

2. Get the raise that you deserve. When it comes time for your performance review, let your boss know what a good employee you’ve been and ask for a raise when appropriate. A stagnant salary combined with rising prices is a formula for a less abundant lifestyle or the accumulation of debt.

3.If you’re self-employed, price your product or service competitively and take price increases when you can.

4. Monitor your investments based on your time horizon (when you will need the money) and risk tolerance (can you sleep at night?). Being overly fearful of the stock market and holding too much cash will not bring you abundance in your golden years.

5. Certain assets rise with inflation. Treasury Inflation-Protected Securities, gold, commodities, and real estate are examples of assets that typically rise with inflation. If you own a home, this is probably enough real estate.  One of the easiest ways to invest in commodities and gold is through exchange-traded funds.  Careful though, these assets can be volatile and you would only want a small percentage of a balanced portfolio invested in them. Educate yourself or get help before dipping your toe in!

Here are a few resources to get you started on inflation fighting.

From the Get Rich Slowly Blog: Best High-Yield Savings Accounts

From Morningstar:  Exchange Traded Funds

From the SEC website: Asset Allocation, Diversification and Rebalancing

Next Up:  Money’s Enemy #2:  Taxes  (To be posted soon).

The First Simple Truth About Money

Do You Know You Have a Money Personality?

Here’s a related question for you. Ever wonder why you procrastinate about financial matters? It may be due to your deep-seated money personality. We’ve all developed money habitudes and attitudes over the years – learned from our parents, our teachers and our peers.

Some of the information we absorbed about money may not be serving us so well now. For example, if you were raised in an atmosphere of scarcity, you may spend your whole life craving things you can’t afford and you now overspend to get them. On the other hand, if you grew up with abundance, you may expect things will always come easily to you. If your mom was a spendthrift, you may become one too or, you may overcompensate by becoming a miser.  If your dad procrastinated about important money decisions and took the attitude “things will work themselves out”, you may find yourself taking the same approach.

My Money Story

My mother and father were extremely frugal, especially my father. He didn’t want anything. Buying him a gift was torture because it was impossible to figure out what he would like – except peanuts, he loved peanuts.  So my siblings and I would end up buying him canisters of planter’s nuts for any occasion that required a gift.  His frugality rubbed off on my mom. Going out to eat with her is challenging. She’ll look at a menu and always order the cheapest thing on it – or a side salad.  Not a comfortable experience when you’ve just ordered filet mignon.

We kids would only get the “necessities” – food, clothing (thankfully we wore school uniforms!) and shelter. So, I learned early on that if I wanted the “extras”, I needed to find a way to buy them myself. This was probably a good thing, as I became self-sufficient at a very early age. But I also rejected the frugality of my parents and have been known to indulge myself on occasion. I’ve worked hard to find a good balance between being frugal and being extravagant.

Can you change your money personality?

Like anything with psychological or emotional roots, it’s possible but it takes work.  Deborah Price is the author of Money Magic, Unleashing Your True Potential For Prosperity and Fulfillment. She is the founder of the Money Coaching Institute based in Petaluma, California and she has developed a money coaching curriculum with the aim to “combine both practical financial guidance with sound psychological principles to help you transform your relationship with money and lead a more purposeful and prosperous life.”

I asked Elizabeth Husserl, a SF Bay Area based money coach, founder of www.innereconomics.com, and a graduate of The Money Coaching Institute, her insights about money personalities.  She said, “If we don’t pay attention to our money personalities they will act out in louder and more extreme ways. For example, the shopping sprees become longer and more expensive because you can’t quite fill the emotional hole you are trying to fill or the anger towards money grows until you blame it for everything wrong in your life.”  Elizabeth offers Inner Economics workshops and private work for individuals, couples and small groups.

Aurora Medina, is also a S.F. Bay Area based money coach. She produces Efecto Mariposa, a Spanish radio show for women that specializes in the psychology of money. One of the ways she does this is through “Mariposa Money Circles” – small groups of six women who explore together the beliefs and patterns associated with money that are holding them back from maximizing their financial potential. When I asked Aurora for her insights she said, “our money personalities relate to the way money is handled mainly in our family environment. We make unconscious contracts about how we will handle money depending on the experiences we encounter that affected us deeply either in a negative or positive way.”

In my own financial planning practice, I find that the more I know about my client’s money type or personality, the better I can serve them. To that end I have each client fill out a money personality questionnaire, which seeks answers to such questions as:

• What messages did your receive about money as a child growing up?
• How did you parents handle money?
• Did you feel like you got an adequate financial education growing up?

Most people are perfectly willing to do this exercise and seem to find the opportunity to explore the emotional and psychological aspects of money cathartic. If I interview a potential client who is in financial trouble and I sense a pattern in his/her life, I will often suggest they work with a money coach first as a precursor to the more technical financial planning work.

If you think that you may be acting in ways that sabotage your chance of financial success and it’s become a pattern  - read, sign up for a workshop, talk to trusted friends or advisors, or engage a money coach. There are resources available to help you.

I’ve listed a few books  just below in addition to the resources I mentioned above:

Books

Your Money or Your Life:  Joe Dominguez and Vicki Robin
Money and the Meaning of Life, Jacob Needleman
The Soul of Money, Lynn Twist
Money, Money, Money: The Search for Wealth and the Pursuit of Happiness by Jacob Needleman
Seven Stages of Money Maturity: Understanding the Spirit and Value of Money In Your Life by George Kinder
You Paid How Much For That?: How to Win At Money Without Losing at Love by Natalie Jenkins, Scott Stanley and William C. Bailey

Other Resources:
National Foundation for Credit Counseling
Association of Independent Consumer Credit Counseling Agencies
United Family Services

So many books, so little time.

Married (happily) With Issues takes the reader along on a fascinating and personal journey in search of a more perfect union. Elizabeth Weil manages to convince her good sport of a husband, that even though their marriage is “good” they might benefit by attempting to make their good marriage better through various counseling and therapy strategies.

In the story, Weil discussed some of her peccadilloes (she doesn’t like French kissing) and his (he’s overly obsessed with cooking gourmet meals every day) that chipped away at their otherwise good marriage.  After I read the article, I remembered that my husband had “suggested” an idea that he thought might lead to a more perfect union between us. I might want to “review my magazine collection” he said, in the hope that some of them could be recycled, “before they took over the house.”

I know my magazine habit is a pet peeve of his…and the article triggered my unconscious and motivated me into action. It’s hard for me to discard my beloved magazines: The New Yorker, More, Gourmet, Sunset, Good, California Home & Design, and Cook’s Illustrated all hold for me hours of pleasurable entertainment.  But, because I knew it would be good for my marriage, I threw out everything but the 2009 issues.

Would I have agreed to purge my magazine collection if I hadn’t read about one couple trying to build a better marriage? Probably not. Could Elizabeth Weil have become a writer or a well-informed, always-trying-to-improve-spouse without reading? Probably not.

Reading is so important. One of the most powerful advantages to being an avid reader – you not only learn so many new and interesting things, (“Hey, let’s try and make our already good marriage better!”) reading has the power to change your behavior in positive ways. Reading can even help you think about, manage and handle money better!

My Personal Finance Reading list
This brings me to my list of favorite personal finance books -  guaranteed to change one or two of your money behaviors the first time you read them and more if you read again and again.  Just give some of these books a try and see if you start gaining money smarts!

1.   I Will Teach You To Be Rich, Ramit Sethi.  Meant for a 20-30’s audience this book is full of tips about how to live within your means but enjoy the things you love, and how to automate your finances so that saving and investing are on auto-pilot.

2.  Your Money or Your Life: 9 Steps to Transforming Your Relationship with Money and Achieving Financial Independence: Revised and Updated for the 21st Century by Vicki Robin, Joe Dominguez, and Monique Tilford.  Do you ever feel like you are spending money on things you don’t even really care about but buy anyway?  This book really makes you think about the value of your time and money and helps you to align your values with your spending.

3.  Get Financially Naked: How to Talk Money with Your Honey by Manisha Thakor and Sharon Kedar.  An inspiring, practical guide that will help you to talk about money with your partner and create a successful financial life together.

4. Your Complete Retirement Planning Road Map: The Leave-Nothing-to-Chance, Worry-Free, All-Systems-Go Guide, Ed Slott.   Ed Slott is the guru of retirement planning and his books will teach you everything you need to know about 401k’s, IRA’s pensions, etc.

5. Making the Most of Your Money Now – The Classic Bestseller Completely Revised for the New Economy,  Jane Bryant Quinn.  A very comprehensive book covering all stages of your financial life. Discusses the pros and cons of major financial decisions.  (Buy the 2010 version, will be available soon).

Happy Reading!

Jim and Annette in front of their new home

“I really admire the conscientious way you bought your first house,” said I. “That’s because we’re really cheap!” said they, almost in unison. Meet Jim and Annette. They’re in their late 30’s and lucky. They both watch their pennies. If only all my clients would…well, never mind.

While many of Jim’s and Annette’s friends bought houses in the last few years, they held back. The market was too frothy and unaffordable, they thought. At the time, life was a cramped one bedroom apartment in North Berkeley. But of course things change. Soon enough real estate prices crashed, and taking the leap made more sense. They started out on their own, found some neighborhoods they liked and found some houses in their price range: no more than $525,000.

Know Thy Numbers
In the meantime, Jim and I worked on their cash flow adding in housing costs (they’ve been clients since 2007).  Both were adamant that they know the numbers and not get in over their heads.  Jim has an inviolable goal, “I want a six month buffer of living expenses at all times.”  As s self-employed graphic designer, www.jameswilsondesign.com he has a about a thousand good reasons for doing this. And while Annette currently works for Williams-Sonoma – layoffs have begun there.  I recommended they get pre-qualified for a mortgage, which they did.

Here’s a few things they learned along the way.

Know your must-haves
Jim and Annette knew what they had to have:

1.  A good location so they could walk to shops and services, and have an easy commute.
2.  A live-in ready house: some work would be okay, but they wanted no delays or additional costs.
3.  They wanted to live near their friends.

What you can live with?
No house is perfect, especially a house in the Bay Area in the $500,000 price range. Here’s what Jim and Annette had to contend with:

Close proximity to Bart meant noise, so new windows are planned.
They lack storage space, typical of older homes (1926).
They have $18,000 worth of work  to do – plumbing upgrades, electrical work, window replacement, foundation repair and some unexpected termite damage. Closing cost credits (due to the fine work of their realtor Carol Parkinson) and first time home buyer credits ($8,000 on their 2010 taxes) will help pay for all this.

Know what you care about most
Jim and Annette are now proud and busy homeowners: they’re refinishing floors, knocking out walls and buying a few new furnishings. They splurged – on a $4,000.00 Thermador Range.   When I questioned the decision, Annette said something to me that I thought was very wise:  “It’s about knowing what you really care about” she said, “and putting resources and energy towards those things, and then making compromises on the rest.” Wise words.

My Take: Top 5 things to consider when buying a home in the Bay Area

1. Know what you can afford before you start looking for a home.  Get pre-qualified.
2. Identify the neighborhoods where you want to live. Get to know prices.
3. Make a list of your no-compromise must-haves.
4. Get referrals for real estate agents and mortgage brokers.  Make sure you’re comfortable and that there’s a level of trust between all parties.
5.  Know that the costs of home ownership don’t end with the purchase.  Endless amounts of money can be spent improving, furnishing and decorating a home. Carefully plan your expenditures based on your income and budget.  Most important: don’t rely on credit.

Everybody needs a vacation. A good financial plan can help you achieve that goal among many others.

They were in their late 30’s with three small children.  He was friendly and open, she was quiet and not terribly happy to be there. He’d orchestrated our meeting after finding my website and liking it so much he called me.

Like many Americans, they are caught in a financial “perfect storm.”  They got married 6 years ago and decided to have a family. After the first child was born 4 years ago, she left her job to be a full time mom. They now have a 2 year old and a newborn as well.

The American Dream
In 2006, they put 20% down on a million dollar home.  Back then, (it seems like another age entirely) not having the income to support the mortgage payments on an $800,000 loan was no big deal. You just “stated your income” and secured an interest-only loan.  And voila! Home ownership was yours – the American Dream.

Fast forward three years.   The ITI (Interest, Tax and Insurance) payments are killing their budget, vacations are out, they’re having a hard time finding the money they need for home improvements and funding college savings accounts.  To add insult to injury, the company she worked for went bankrupt, and all of her retirement savings was in company stock which is now worthless.

Stormy Weather
She tried freelancing,  but with three young children, concentration is difficult and the stress level is climbing. His employer has announced no more matching funds for the retirement account and no cost of living raises this year. Serious storm clouds are gathering on this couple’s financial horizon.

Love and Money
Given what is happening to this couple, I found myself surprised that only one of them – the husband – wanted to meet with me. It was rough sledding with his wife – she wasn’t convinced I could help and was quite firm in her convictions. But credit where credit is due, she did come to the meeting. Truth to tell, it’s usually the other way around. Such is married life, I suppose. You like camping, I like bed & breakfast’s, you  like parties, I like quiet nights at home, you want a financial planner, I want a vacation. Yin meet Yang.

Advice and Consent
Here is my advice to couples who are facing financial challenges and don’t see eye to eye on the value of a financial planner. Work together and see if you can find consensus. Remember one of the rules of marketing: What’s In It For Me? Help your partner understand there are benefits.  Even though the process may be uncomfortable, and difficult to understand, the end results are what matter most.

It’s one thing to say, “We have to have a financial planner because we don’t know what we’re doing” vs “If we get a financial planner to help us, we increase the chances that we can put Peter and Julie through college and have a decent retirement. Without that kind of help, I’m not sure how we can do those things. Will you help me?” Stress the long term and short term benefits.

Or, you can take a different attitude all together…as  another reticent  spouse said to me at the end of a recent interview:  “Oh, you mean I can pay you to listen to him nag about our money…that sounds really good to me.”

Say Good-Bye to Your Money Troubles
Which brings me to a very important reality:  Money troubles are a leading cause of strife in a marriage and often times can lead to divorce.  If an objective advisor can help you to communicate about money and develop a workable plan which in turn leads to a more harmonious relationship…wouldn’t it be worth it?

So what do you think?  Does this couple need a comprehensive financial plan?  Will he persuade her? Will she come around? Would love to know your thoughts.