Monday, October 11, 2010

Today, I smack myself

An idea occurred to me after reading Bob Murphy's overpromised book on infinite banking, which carries the wonderful insight that if you save a lot, you can "borrow" from yourself on favorable terms -- oh, and that's also true if you save through a whole-life insurance plan.

But the real insight is in how much of your money (if you're a typical debt-carrying mouth-breather) goes to financing costs that could be avoided if you simply saved before a purchase, which was backed by some surprising examples.

Now, that doesn't do much for my finances because I'm a big saver. But it dawned on me: even if I'm not a big borrower, employers are, including and especially mine. So if I'm not living paycheck-to-paycheck, then they and I could work out a deal whereby they defer my salary payments (effectively taking a loan from me) and pay me interest much greater than I could get on savings (0%), but much lower than they would pay the financial markets (all costs considered, probably 30+%). Everyone wins.

But how many workers actually want to do something like that? No, it's too bizarre, so alas, I suffer again from being the rare saver...

And that's when I smacked myself -- they've had a program that lets me do that the whole time! They call it the employee stock purchase program, and it lets you set aside money so that at pre-defined six-month intervals you can buy company stock at a 15% discount to its current value, and yes, you can sell it immediately. I never bothered because I figured there was some catch to it that I never fully researched, even as those who used it assured me there's not.

Using the program, if you set aside money, buy at a discount, and immediately re-sell, you get an effective annual return of 38%! (Actually, higher, because the money wouldn't all be "invested" at the beginning of the six-month period.) I had just never realized what this was for the whole time! Stupid, stupid, stupid...

Oh, and there's a severe thunderstorm going on right now.

9 comments:

Taylor Conant said...

Hi Silas,

Are you taxed at short-term capital gains on those trades?

If so, then you might be paying more on taxes than if you took the payment as income and paid income taxes on it (depending on your tax bracket).

Silas Barta said...

Your deferred salary would be taxed as earned income; the profit from selling the stock would be taxed as short-term capital gains.

Remember, you get more pre-tax income with this.

jsalvati said...

I am curious where you get your 30% + figure. Is this a firm specific thing or a general thing? For quite a while I was interested in why engineers are given remarkably high hurdle rates (~30%) even though you can get business loans at ~10% from banks (for example http://www.scruzccu.org/rates/business-english.shtml). Am I forgetting some major cost of getting a loan? The answer I was given by a engineer primarily tasked with deciding which engineering projects at his plant would be undertaken was that people are biased and underestimate costs, and a high hurdle rate was a way of compensating for that (presumably a high hurdle rate is less subject to gaming or people tend to be more biased further out in time).

Silas Barta said...

I don't have a real-world example to point to, but I re-located the passage I had in mind. The discussion is in the pdf I linked, book pages 298-301 (or 311-314 by my pdf's numbering), quoting a Nelson Nash example. Sorry, can't seem to copy it out of the pdf for some reason, but the big example has these numbers:

Take out a 30 year fixed mortgage of $93k with fixed interest payments of $619 (7% APR), and it has $2500 in closing costs. In five years he moves. Over that five years he has paid ~$40,000 in interest, but only $5500 to principle -- 86% of every dollar paid goes to financing costs. And yet he's fretting over how to get his savings to return 6% rather than 5%!

Zachary Kurtz said...

I would appreciate such a program for my grad school stipend. The school/hospital I work for is not publicly traded.

Anonymous said...

I confess that I am no mathematical genius, but, how do you get an effective annual rate of 38%?

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Thanks for a great read. I love it, I love it so much that the greedy gnome in me wants more ...

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