If you really want to save more than you earn, the conventional wisdom says you’re gonna need to start a budget. It’s only by seeing where your money goes and figuring out where you can cut back that you’ll be able to get your financial act together. But conventional budgeting is fraught with danger. Here are the three main things you should avoid.

Budgeting Danger # 1: Relentless Focus on Minor Expenses

Bring your lunch to work. Cut back on your lattes. Don’t order dessert. Rent videos from your library.

All of those over-hyped strategies are sure to cut expenses, but will they make a big difference? Will such small dollar changes enable someone currently living paycheck-to-paycheck to move comfortably beyond? Usually, it will not.

Lattes, video rentals, and the like are all real expenses that indisputably leave you with less money for everything else. And, if you cut out $3 of spending every day of every week of every month of every year for several decades, yes indeed—your savings will add up to a ton of money. Such are the benefits of the miracle of compounding interest.

But do those minor expenses represent your biggest opportunities to save? Unlikely. Spending an extra few dollars on lunch a couple of times a week or meeting a friend at a café every so often is probably not what keeps you in a financial hole or prevents you from achieving your financial goals.

The more likely culprits: the size, timing, and frequency of big-ticket expenses like your car and home. Focus your energies there. Can you delay the purchase of a new car for another few months—or even longer? Can you buy a used car instead? Can you buy a house that costs less than the one you’ve been told you can “afford”? Are you willing to do your homework to ensure that when you buy or refinance your home you save a quarter or half of a point on the interest rate you might otherwise pay? Such one-time decisions can have a far greater impact on your financial fitness than nailing the latte choice every day for decades.

Budgeting Danger # 2: Reduced Spontaneity and Flexibility

Are today’s budgeting tools too powerful? You can slice and dice your personal data every which way to Sunday with minimal effort. You can categorize everything. You can create budgets based on your actual historic data and then update the numbers constantly.

But should you?

Certainly not the last part. Not only because constant updating may indicate some sort of obsession, but also because it’s utterly unnecessary. Worse, it could negatively affect your life. Like all tools, you have to use it properly. Use the budgeting tool to increase the value of the life you live, not to decrease the cost to get through it.

Say there’s a week left in the month and while you still have $50 left in your dining category, you’ve spent all of the money in your entertainment account. Then a friend calls and asks you to go to a movie that you really want to see. If you tell your friend, “Sorry, I can’t afford to go to the movies tonight but I can take you to dinner,” you’re missing the point of budgeting.

Don’t let budgeting overtake your life. Don’t micromanage. As with a few baseball statistics, just because something can be measured doesn’t make it meaningful. Understand what’s truly important and ignore the rest.

Budgeting Danger # 3: Easy to Miss the Big Picture

Instead of budgeting your spending, budget your savings.

Start with a goal like “I want to save $X per month,” or “I am going to increase the amount I contribute to my 401k plan by Y%.” Keep this goal top of mind as you undertake any budgeting process. By doing so, you establish your specific budget parameters with your eye on the prize: your savings rate.

Yogi Berra said, “You’ve got to be careful if you don’t know where you’re going because you might not get there.” You can create and live within the most detailed budget in the world—and still live paycheck to paycheck. That’s neither a happy life nor one likely to lead to financial security.

On the other hand, if you’re saving 15% of your income, who cares how you’re spending the other 85%? Don’t lose sight of the big picture.

Michael B. Rubin is the author of Beyond Paycheck to Paycheck and the blog of the same name. He is the President of Total Candor, a financial planning education company.

Photo: oskay

The opportunity to convert an existing regular IRA to a Roth IRA may be the single biggest upside to the stock market’s extended slide. The younger you are and the more aggressive your investment strategy, the more likely it is that a conversion to a Roth IRA will make sense for you.

You may already be aware of the key difference between a regular IRA and a Roth IRA.  At a very high level, a regular IRA provides for tax-deferred growth whereas a Roth IRA gives you tax-free growth. All else equal, we’d all prefer tax-free growth, of course. Here’s everything you need to know about Roth Conversions

Contributions to a Roth IRA are limited and are not deductible

Trouble is, income limitations prevent everyone from being eligible to contribute to a Roth IRA. During 2009, if you’re single and make more than $120,000 ($176,000 combined with your spouse, if you’re married), you can’t contribute a dollar to a Roth IRA. Furthermore, those who can make a Roth IRA contribution can’t deduct it – that’s your key upfront sacrifice for the many future years of tax-free growth.

A Roth Conversion allows everyone access to a Roth IRA

Let’s first define what a Roth conversion is: the transformation of your retirement account from tax-deferred to tax-free status. You effectively move money from an existing regular IRA or former employer’s 401k account into your Roth IRA. The cost to do this conversion is the payment of regular income tax on virtually the entire amount you convert.  (You’ll pay tax on 100% of the converted amount unless you previously made non-deductible contributions).

Roth Conversion restrictions are going away

Through the end of 2009, conversions are only available to those people who earn less than $100,000 and have filing statuses other than married, filing separately. However, both of those restrictions are eliminated at the end of the year. As a result, anyone who wishes to contribute to a Roth IRA but whose income level is too high can make a 2009 contribution to his/her regular IRA and simply convert part of their account in 2010.

Why converting your Roth IRA could make sense today

If you’re confident your 2009 adjusted gross income will be less than $100,000, you don’t have to wait until 2010 to convert.  Furthermore, you can take advantage of market downturn, as I referenced earlier.  Here’s a simple example:

Say you invest in stock and you accumulated 300 shares of Johnson & Johnson stock (JNJ) over the years. If you converted your shares during April of 2008, when JNJ was trading at about $67 per share, you’d have converted $20,100 of stock. Assuming you were in the 25% tax bracket, you would have owed about $5,000 in taxes on the conversion.

In April 2009, JNJ was trading at about $51 per share. If you converted the stock then, you would have converting $15,300. If you were in the same 25% tax bracket, you’d owe just over $3,800 in tax, not $5,000, for a permanent tax savings of $1,200. In either conversion, you retain ownership in the long-term potential price appreciate of JNJ, yet in the latter case you’ve successfully timed the market from a tax perspective.

It’s certainly possible that stock prices could go lower from here and that a further delayed conversion could be even more lucrative from a tax perspective.  Nonetheless, a conversion could make more sense for you today than at any time previously.

Take advantage of your youth

The big upside of voluntarily paying taxes (since you don’t have to convert), is the tax-free appreciation of your converted investments.  The longer the amount of time you have until you plan on taking your money out (ideally retirement), the greater the odds that a Roth IRA conversion will make sense.

In addition, the better your investment performance between now and retirement, the greater the upside of converting to a Roth IRA. Still, it makes sense to run the numbers.  Importantly, it seldom makes sense to convert to a Roth IRA if you don’t have the money available to pay the tax on conversion.   Using money from your IRA to pay the tax almost never makes financial sense.

Keep in mind that it’s not an all-or-nothing proposition. If you want to convert your retirement account but just don’t have the funds set aside to pay all the taxes, consider converting some of your account.  You can always do some more next year.

Michael B. Rubin is the author of Beyond Paycheck to Paycheck and the blog of the same name. He is the President of Total Candor, a financial planning education company.

Foxtongue

If you’ve just received the news that you’re pregnant, one thing’s for sure, life as you know it is over. But that’s a good thing. The joys of parenthood far outweigh the cons but you’ll need a solid financial plan if you hope to make it through the next nine months.

So after you’ve shared the news with your parents and 500 of your closest friends on Facebook, you’d better start thinking about how this is going to affect your wallet.

You want the best for your family of course but who should you listen to? When it comes to giving new parents advice, suddenly it seems everyone is an expert: don’t get this brand of diapers, make sure to get that kind of car seat, don’t rush to get the baby the first time it cries, and so forth. The good news is that you will have nearly nine months to prepare your home. Make sure to use a few of those hours to get your financial house in order too. Both are about to go through major changes.

No matter your fiscal discipline, there’s about to be another mouth to feed. Many couples will want or need to move into a bigger space. The extent of many of your baby-related expenses will be controllable, as your and your partner’s expenses are today. However, even with maximum restraint, you’ll still be walking down new grocery aisles and visiting new stores, ultimately spending money on products and services you never considered previously.

If you’re financially unprepared for your new baby, you could end up financing diapers. Here are the top 5 things you should do when you’re expecting:

Tip 1: Communicate With Your Partner

The theoretical conversations you may have had a few times previously will now become real. Decisions will have to be made. Nothing should be assumed, Talk about them.

• Will one of you stay home? If so, for how long? Things may change. That’s okay.
• Could all of you live on just one income? If you think so, what makes you so confident? Have you ever done so before?

Tip 2: Live Within Your Means

It’s as important as ever to make sure to live within your means. Resist the temptation to use your new arrival as an excuse to purchase things you can’t afford and don’t really need. If you have a car with four doors and four tires, you already have a “family car.” Your apartment or existing abode is probably big enough to accommodate the baby. Try to put off a major move for as long as possible. Not everything has to fit the stereotype. Spend on what’s important to you within the constraints of what you can actually afford.

Tip 3: Establish An Emergency Fund Now

If you haven’t already done so, there’s no time like the present to establish an emergency fund. The traditional three to six months sounds like a lot. It is a lot. But it’s better to have some money socked away for this purpose than none at all. Do what is possible. Remember you’re trying to set aside three to six months of non-discretionary living expenses only, not your full monthly income. If you aspire to have one partner stay at home for an extended period, one easy way to enhance your emergency fund is to practice living on one income while both spouses are still working.

Job security still have you feeling confident you’ll never need to tap an emergency fund?  It’s not just about your job.  When you first hold your baby in a few months, it will be so obvious- there’s another person in the picture now.  The more people in the family, the greater chance there is for some kind of emergency. Be prepared.

Tip 4: Get Life Insurance

Many young adults without children can actually spend their money more wisely than on life insurance. That concept changes immediately upon conception. Now, someone will be depending on your income for years to come. You’ll need to be sure that if something unfortunate happens to you, your child can still maintain the lifestyle you’ve been providing. Only life insurance can provide that financial security.

Tip 5: Sign Up for the Health Care Reimbursement Account at Work

Also known as a flexible spending account (FSA), this account requiring minor paperwork can effectively save you 25% or more (depending on your tax rate) on your medical expenses. When you’re expecting, you’re going to have big medical bills, including pre-natal care and delivery.

Your next annual enrollment date presents the perfect chance to increase your contribution rate to reflect your new medical spending and to reduce your after-tax costs in the process. If you won’t reach an enrollment date prior to delivery, remember that your child’s birth constitutes a “life event” and will give you a special one-time opportunity to increase your contribution rate.

Be prepared, don’t overspend, and remember that what really matters is not the brand, design, or expense of your child’s bedding, stroller, or Onesie, but rather your love and care for them.

Michael B. Rubin is the author of Beyond Paycheck to Paycheck and the blog of the same name. He is the President of Total Candor, a financial planning education company.

Source: (prlewis)

Are you considering buying your first home? Earlier this year, the government decided to provide one of the biggest financial incentives in history to first time home buyers: up to $8,000. Not surprisingly, there are some strings attached, but nowhere near as many as existed for the previous version of the tax credit (commonly known as the 2008 or the $7,500 credit).

Here are the top seven things you need to know about the 2009 first time home buyer tax credit:

You must purchase a home before December 1, 2009.

Only homes purchased during 2009 and before December 1 qualify for the $8,000 credit.  It’s possible that Congress and the Obama administration may extend the time period for buying a home to take the credit, of course, but as of right now it disappears entirely on December 1. If you buy an existing home, the key date is when you close on the home.  If you are building a new home, you must physically move into the home prior to December 1.

You must purchase a home for the first time.

But the definition of “first-time” is an IRS-speak definition. Say, for example, you purchased a home 10 years ago and sold it five years ago. Then you went off to graduate school. Now you’re thinking about purchasing a home.  Believe it or not, for purposes of the credit, you’re a first time home buyer! As long as you haven’t owned a home within three years of the date you purchase a home, you can qualify for this credit.

If you make “too much,” you won’t get as much.

If you’re single and earn more than $75,000 or are married and, together with your spouse, have an income exceeding $150,000, you won’t qualify for the full credit.  However, if you make just a little more than these amounts (less than $95,000 and $170,000 respectively), you’ll still qualify for a partial credit.

The maximum credit is $8,000 – sort of.

The maximum credit is $8,000 or 10% of the purchase price, whichever is less. So a $60,000 home, for example, qualifies for only a $6,000 credit.

You don’t have to pay the money back.

Those who took advantage of the 2008 version of the first time home buyer tax credit must pay back the amount they receive over 15 years. However, the 2009 credit does not need to be repaid. Furthermore, the credit is a refundable credit. That’s the IRS’s way of saying that you receive the $8,000 regardless of your total income tax liability for the year. Even if you only made a few grand and your total tax liability was, say $500 for the year, your refund will increase by the full $8,000 credit.  Most other credits are not so generous and are limited to your total tax liability.

Well, you might have to pay the credit back.

There’s one key exception to the whole “You don’t have to pay it back” concept: if you sell your home within three years.  You might wonder how to avoid this payback requirement.  Fortunately, it’s easy: don’t sell your house for three years after you buy it. Flipping houses is so 2005 anyway, no

You can party like it’s nineteen ninety-nine.  Not really. But you can pretend it’s still 2008.

If you buy a home between January 1, 2009 and December 1, 2009, you are permitted to consider the home purchased as of December 31, 2008. By doing so, you can claim the credit now. Simply amend your 2008 tax return (by filing Form 1040X) and claim the credit upon closing. You don’t have to wait until April of 2010 to get your refund.

The first time home buyer tax credit doesn’t mean that it’s a no-brainer to buy a home. There are many other considerations. But $8,000 of tax-free income is a pretty big deal. Think about how long you have to work to net eight grand. If you qualify, this first time home buyer tax credit ought to at least get you thinking.

Michael has a post on his that has morphed into a giant Q & A on the first time home buyer tax credit.

Michael B. Rubin is the author of Beyond Paycheck to Paycheck and the blog of the same name. He is the President of Total Candor, a financial planning education company.