Part 17 (1/2)

Though you can cancel PMI once you have 20% equity in your home (whether because home prices have increased or because you've made payments to the princ.i.p.al), lenders aren't required to automatically cancel PMI until you've repaid 22% of the loan. That means you need to stay on top of things so you don't keep paying for PMI any longer than you have to.

To find out whether you're paying PMI, check your most recent mortgage statement. If you are, do whatever you can to cancel it as soon as possible. Make extra mortgage payments. If home values in your area have risen, have your house re-appraised. (But note that not all lenders will drop PMI based on a new appraisal; some require you to refinance.) When you have at least 20% equity in your house, contact your lender and ask to have the PMI removed. Doing so could save you thousands of dollars.

TipFor more on PMI, check out this article at OmniNerd.com: tinyurl.com/pmi-on.

Should you prepay your mortgage?

You can save tens of thousands of dollars by paying your mortgage off early. But is it a smart move? You won't find a definitive answer in this book or anywhere else. Ask a dozen different financial experts and you'll get a dozen different answers-literally: tinyurl.com/invest-prepay.

Why wouldn't you pay off your mortgage early? There are actually several sensible reasons you might choose to hang onto that debt: - If you prepay in good times, there's no easy way to get that money back during bad times. The only way to ”undo” prepayments is to take out a second mortgage.

- When you have a mortgage, inflation is your friend: In 30 years, your $2,000 monthly payment will seem like a $500 payment.

- No matter how much you prepay, the bank doesn't give you a break-you still have to make payments each month until the mortgage is completely paid off, even if you get sick or lose your job.

- There's an opportunity cost to prepaying your mortgage: When you send in an extra payment, you can't use that money elsewhere-such as investing in the stock market, which might give you a better return.

Despite these compelling arguments, millions of Americans prepay their mortgages. Their reasons make sense, too: - Prepaying gives you a guaranteed return on your investment equal to whatever your mortgage rate is. That's because any time you pay down debt, you earn a return equal to the interest rate you're being charged. So if your home loan has a 6% interest rate, then paying extra on that debt is like earning 6% in a savings account. You'd be hard-pressed to find other places to earn a guaranteed 6% return!

- Prepaying gives you a safety net. While you'll still have a mortgage payment until you've paid off the loan, when you do pay it off, you'll have a huge cus.h.i.+on because your monthly expenses will drop by $1,000, $2,000, or even $3,000. Just think of what you could do with that cash flow!

- People who've paid off their homes feel a huge sense of relief (see tinyurl.com/GRS-nomortgage). It's freeing to not have a mortgage holding you down.

Few people would argue that prepaying your mortgage is a bad move, but there are some who don't think it's the best move. Is prepayment right for you? If you plan to stay in your home for a long time, it may be. The choice depends on your financial goals and what will make you happy.

NoteWhen should you refinance your mortgage? When you can recover the costs in a reasonable amount of time, typically just a few years. The standard advice used to be to consider refinancing if interest rates dropped by 2%. But closing costs are lower now, and it often makes sense to refinance sooner. You'll need to run the numbers based on your own situation using a refinance calculator like the one here: tinyurl.com/refi-calc.

Strategies for prepaying your mortgage If you've weighted the pros and cons of prepaying your mortgage and decide to go for it, there are several ways to approach it. You could: - Make extra payments to your mortgage each month. This will give you a guaranteed rate of return equal to your mortgage interest rate, and will reduce the amount of interest you pay over the life of the loan. But doing this makes it difficult to get at your money if you need it for something else.

- Make lump-sum payments to your mortgage every year. Instead of paying a little bit every month, you could put the money in a savings account during the year and make a single, large payment every 12 months.NoteWhenever you pay extra money toward your mortgage-or any other loan, for that matter-always note that you want the extra applied to princ.i.p.al only, not interest. (Check with your mortgage company to find out exactly how they'd like you to indicate this.) If you don't, some lenders will apply your extra payment to interest, which is lame but legal.

- Send half the monthly amount every 2 weeks. This is perhaps the most common way to accelerate mortgage payments. If your monthly minimum payment is $2,000, for example, you'd send $1,000 every other week. By doing this, you'd pay $26,000 a year instead of $24,000. That may not sound like much of a difference, but this strategy could trim 7 years off your loan! (Use this calculator to see how much you could save: tinyurl.com/BR-biweekly.)If you decide on this strategy, check with your lender to see how they handle bi-weekly payments. Some aren't set up to process them, so you might have to enroll in some sort of program. Search for a free program rather than a paid one-but take the paid program if that's all that's available.

- Put money into some other investment, like an indexed mutual fund (which you'll learn about in Chapter12 Chapter12) until you have enough to pay off your mortgage. This will, in theory, provide the highest rate of return for your money. But as with any stock-market investment, there's an element of risk. If your goal is to pay off your mortgage, a bear market (like the one in 2008) will make you sweat.

You can accelerate your mortgage payment in other ways. My wife and I chose to make a flat $2,000 monthly payment, which was $582.10 more than the minimum payment. This gave us flexibility-if we had an emergency we could drop down to a regular payment. You can read more about our plan here: tinyurl.com/GRS-prepay.

If you decide to accelerate your mortgage payments, try to do it on your own. Banks often charge a fee to add this as a service, but you can usually do it yourself for free.

Chapter11.Death and Taxes.

”In this world nothing can be said to be certain, except death and taxes.”-Benjamin Franklin Taxes and insurance are topics so dull that even the keenest reader feels her eyes glaze over. But they're important-very important. With a basic understanding of taxes and insurance, you can make better decisions about other parts of your financial life and avoid costly mistakes.

This chapter won't give you all the answers-for that you should consult a professional financial adviser. But it will give you the basic info you need to deal with taxes and insurance effectively. It also provides a very brief overview of estate planning. Ignore this info at your peril!

An Introduction to Insurance Insurance is a way to manage risk. As you go about your life, there's always a chance that you'll be in a car accident, twist your knee, or that your house will burn down. The risk of these accidents is small, but if one of them were to happen, the effects could be catastrophic. Without insurance, you'd have to come up with the money on your own to repair your car, have knee surgery, or rebuild your home.

Although these things happen to some people, they don't happen to everyone. With enough data, it's possible to know roughly how many people are likely to experience these events-and how much recovering from them will cost. Using this info, an insurance company can spread the risk among all its customers.

Here's an example: Imagine a school with 100 students. Every year for the past 25 years, one student has broken an arm in the schoolyard, resulting in about $5,000 in medical expenses. Without insurance, every family would have to save $5,000 to cope with the odds that their child would be the one with the broken arm. At the end of the year, 99 families would have paid nothing (and have $5,000 in savings), but one family would have paid $5,000 (and have nothing left).

With insurance, the families could join together to spread out the risk. If they created an insurance fund, all 100 families would pay $50 at the start of the school year. This $5,000 would then go to the family of the child with the broken arm.

By spreading the risk, each family only has to save $50 instead of $5,000. Yes, that $50 is gone if it's not your child who breaks an arm, but for most people, that's an acceptable trade. Instead of having to sc.r.a.pe together the full $5,000, they'd rather risk losing $50 for a chance to avoid $5,000 in medical bills.

But is it really fair to have every family pay $50 into the insurance fund? Some kids go to the library at lunch and read books while their cla.s.smates are climbing around on the jungle gym. The bookworms are much less likely to break an arm. And maybe the 25 years of data show that girls break their arms less often than boys. With enough info, the playground insurance fund could charge each family a different rate depending on how likely their child is to break an arm.

Insurance is a bit like gambling: You're betting a little money now because you think odds are good that you'll need a larger payout in the future. But there's one huge difference between gambling and insurance: Gamblers seek risk in an attempt to get more money; when you buy insurance, your goal is to reduce risk so you don't lose money.

In fact, gambling casinos and insurance companies make use of the same statistical laws, especially the Law of Large Numbers, which says that the more you have of something, the more likely the characteristics of that something will tend toward average. The more people who roll the dice, for instance, the better the casino can predict its earnings. And the more people in an insurance fund, the more accurately the insurance company can predict its losses.

Most of the time, using insurance to spread risk is a good thing. That's why most states require car insurance, and why smart folks keep homeowners insurance even after their mortgage is paid off. But insurance can be expensive, especially if you have too much or the wrong kinds. Let's look at some ways to keep your insurance costs down.

NoteWikipedia has a great article about insurance and how it works: tinyurl.com/ins-wiki. The history section is especially interesting.

General Insurance Tips All insurance works pretty much the same way: You pay a premium (a set amount of money) to the insurance company, usually on some sort of schedule (monthly or yearly, for instance). In return, they issue you a policy, which is a contract that gives you certain coverage, or financial protection. When you suffer an insured loss, you file a claim and the company pays you a benefit.

Insurance is meant to protect against catastrophes, not day-to-day annoyances. You use insurance to protect yourself from things that aren't likely, but which would cause financial hards.h.i.+p if they did happen.

Your goal should be to have just the right amount of insurance. If you have too much, you're wasting money. For example, if you have a $50 deductible on your car insurance, you'll probably end up paying the insurance company more in monthly premiums than they'll ever pay you in benefits. (The following list explains deductibles.) Or if you're young, unmarried, and have tons of credit-card debt, life insurance usually isn't a good place to put your money.

On the other hand, if you're a 40-year-old small-business owner and father of three, life insurance could be an excellent way to hedge against the risk that you'll die tomorrow. Or if you're a millionaire who likes to drive fast, increasing the limits on your automobile liability coverage could save your fortune if you get sued for damage you cause.

The number one thing you can do to save on insurance is to self-insure as much as you can afford (see box on General Insurance Tips General Insurance Tips). You can also save by reviewing your coverage from time to time, and following these suggestions: - Shop around. To find better rates, harness the power of the Web. Visit the National a.s.sociation of Insurance Commissioners (, Insurance.com, and Insure.com.

- Buy only what you need. Insurance agents are happy to sell you more coverage than your situation calls for. So do some research before you buy. Figure out how much and what kind of insurance you need, and don't let the agent talk you into more.

- Raise your deductible. The deductible is the amount you pay on a loss before the insurance company kicks in money. For instance, if your car suffers $400 in damage and you have a $250 deductible, you pay the first $250 and your insurance company pays the rest. It's up to you where to set the deductible, but the lower your deductible, the higher your monthly premiums. Ask yourself how much you can afford to pay if something goes wrong; more specifically, how much is too much? Set your deductible just below ”too much.”

- Consolidate. Insurance companies often give a discount if you have multiple policies with them. Plus, this saves you the ha.s.sle of having to pay more than one company.

- Read your policy. As with all legal contracts, it's important that you read your policy so you know what's covered and what isn't. Pay attention to policy changes that come in the mail. If you have questions, ask. And make it a habit to review your policies every so often to be sure you understand them (and to check whether anything has changed).

- Don't duplicate coverage. Know which policies provide which benefits. If you have a AAA members.h.i.+p, for example, you don't need towing insurance on your auto policy. And if your credit card doubles the warranties on the things you buy, don't pay for extended warranties.

- File fewer claims. Don't nickel-and-dime your insurance company. If you file claims for every little thing, they'll raise your rates. Insurance is meant to cover unexpected big losses, not every ding your car gets from shopping carts.TipTo increase the odds of a satisfactory settlement when you file a claim, be sure to doc.u.ment your losses well. And it's perfectly acceptable-good even!-to negotiate if you think the insurance company's settlement offer isn't fair (and their first offer almost never is). Be persistent.

- Take care of the things you insure. One of the best forms of insurance is routine maintenance. A well-maintained car is less likely to have an accident due to mechanical failure. If you take care of your house, it'll weather the ravages of time. And if you exercise and eat right, you'll get cheaper life and health insurance.

These tips can help you save on most types of insurance. Still, not all insurance advice can be generalized; each type of insurance has its quirks. Let's look at specific ways to save on three common types of insurance: auto, home, and life.

Your Money And Your Life: The Best Insurance Is Self-InsuranceWarranties are a form of insurance: When something is under a warranty, the store or company you bought it from will fix or replace the item if it breaks or malfunctions during a specific period of time.Warranties may seem like a good deal, but according to the Was.h.i.+ngton Post Was.h.i.+ngton Post ( (tinyurl.com/WP-unwarranted), Americans paid $15 billion for warranties in 2004. Of every $100 spent on extended warranties, only $20 was paid out in claims. So when you buy an extended warranty, you're basically throwing away 80% of your money.Fortunately, there's a better way to protect yourself-and lower your overall insurance costs: Instead of paying somebody else to insure your new TV, computer, or digital camera, pay yourself! Open a named savings account (see Targeted Savings Accounts Targeted Savings Accounts) and call it something like Personal Insurance. Then funnel money into the account whenever you find a way to save on insurance elsewhere.For example, use self-insurance to replace service contracts and extended warranties. Take the amount you would have paid the store and put it into this savings account instead. The best part of this plan is that if you don't end up needing the money you've set away for self-insurance to fix stuff, you can use it for other things; if you'd paid for an extended warranty, that money would be long gone.Self-insurance isn't just a good strategy for appliances. Try raising the deductibles on your auto and home insurance policies. Then take the difference between your old premiums and your new premiums and put it into your self-insurance account every month. It won't take long for you to have more than enough to cover the deductible.It's worth paying for insurance to protect against life's catastrophes. But for smaller stuff like appliances and minor car accidents, self-insurance is usually the way to go.

Car Insurance You've had car insurance since you were old enough to drive, but how much do you really know about it? At its heart, your policy probably contains a few basic types of coverage: - In most states, you at least need to have liability insurance, which covers the cost of any damage you do to other people or things with your car. (But note that liability insurance doesn't cover injuries to you or other people on your policy; for that, you need PIP insurance, which we'll cover in a moment.)Insurance companies quote liability coverage as a series of three numbers, like 50/200/25. The first number is how much, in thousands of dollars, the policy will pay for each person (besides you) injured in an accident ($50,000 in this example). The second number is the total that the policy covers for each accident ($200,000 here). And the last number tells how much property damage will be reimbursed ($25,000 in this case).TipMany experts recommend carrying liability coverage equal to your net worth-the total value of everything you own. This can be expensive to do on individual policies. Instead, it may be more cost effective to buy an umbrella policy, which gives you extra liability coverage above what your home and auto policies provide.