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Define "Affordable"

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PEERless

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af·ford \ə-ˈfȯrd\ (transitive verb) 14th century Middle English​

  1. To manage to bear without serious detriment (you can't afford to neglect your health)
  2. To be able to bear the cost of (able to afford a new car)
What do you consider an affordable expense? Most middle class Americans might say they can afford something at a cost less than, or equal to, their bank balance. Others might call something affordable if it can be purchased with a loan whose payments are affordable.

Is a latte affordable? How about a latte every day? Is a new car affordable? Is going without health insurance?

What is affordable to a fastlaner? I'd love to hear your personal definitions.
 

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SteveO

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This is a simple concept that will have different meanings as you have already stated.

I feel I can afford something if it does not affect my capital for investements. In some circumstances, cashflow can be considered needed capital.

If you are making 60K/year and have no savings. Your living expenses absorb 50K. Can you afford to spend 10K/year on toys? Absolutely not. But, some people may think they can afford this.

This discussion can be all over the map.
 

jaytrader43

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You can afford something if after you purchase it, your finances are not greatly impacted, meaning that you won't be in crazy debt, you can still save about as much as you did before, it won't leave you vulnerable to unexpected shocks such as loss of job, etc. It also depends on what you'll use the good for, because if you purchase a $5000 computer for daily home use on a $60k/yr salary, you just spend a month's earnings on something you don't gain any extra benefit from over a $1000 computer, but if you use that computer to host websites for people and it brings in $3000/mo in cashflow, then it is affordable because you spent one month's earnings to bring in $36,000 extra per year.
 
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PEERless

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I realize the responses will be relative, but I'm liking what I'm hearing so far.

I agree with SteveO and Yankee338 that an affordable expense should not negatively impact investments or income.

I also like jaytrader43's point that the initial cost of a purchase may be offset by usefulness or ROI.

Does anyone here use a formula or spreadsheet to determine affordability? We all probably have what we consider discretionary money like savings or the remainder of your budget. If a purchase uses 5% of your savings, is it more "affordable" than one that uses 95% of your savings? Neither puts you in debt.
 

jaytrader43

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I realize the responses will be relative, but I'm liking what I'm hearing so far.

I agree with SteveO and Yankee338 that an affordable expense should not negatively impact investments or income.

I also like jaytrader43's point that the initial cost of a purchase may be offset by usefulness or ROI.

Does anyone here use a formula or spreadsheet to determine affordability? We all probably have what we consider discretionary money like savings or the remainder of your budget. If a purchase uses 5% of your savings, is it more "affordable" than one that uses 95% of your savings? Neither puts you in debt.
But one significantly impacts your finances. The 95% of savings leaves you with only 5% left for an emergency cushion. If the good produces no cashflow, you just left yourself vulnerable to unexpected shocks, therefore the 95% savings isn't affordable.
 

SteveO

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SteveO, you use mostly OPM for investments, correct? Does that change what is "affordable" to you?
No. I mostly have my own investments. I started using OPM because I felt like I had a knowledge base that was underutilized.

I don't make much now on the investments with OPM. They are weighted heavily for the payoff at the end. I can only do this because I am not relying on that income to live.

So, the answer is no. It does not change what I view as affordable.
 

SteveO

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To many people, I could not afford to purchase my 1st 4-plex. I also could not afford the property with a negative cashflow of 20K/month. I did find a way though.

How would you be able to put this into a spreadsheet? A business plan maybe.
 

yveskleinsky

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This is a great thread and a great question. ++rep Peerless

I would think that what is affordable would be based mainly on where a person is in their financial life compared to where they want to be, with a focus of bridging the divide. For example, if a person makes $150k/year and has 1 small apartment building, but wants to grow that income to $450k/year and own 5 mid-sized apartment buildings, depending on how motivated they are and the time frame they have set to achieve the goal, will determine how much of their "disposable" income they want to shovel toward their goal--which in turn would impact their definition of what is affordable. If this person has determined that they are wanting to move toward their goal at break-neck speed, then potentially anything over a basic need wouldn't be affordable, as their disposable income is already spoken for.

(Added this after reading SteveO's comments) In responding to this thread, I keep finding myself wanting to discuss perceived value, viability, financial stability/risk, time, energy and emotion. Without going on a tangent, maybe I should simply add that I think affordablity is only part of a financial/personal equation. Often times (for me) the affordability of an item is in direct correlation to its perceived value and overall risk.

I'm looking forward to some more responses, as I'm curious to hear what others think.
 

Jonleehacker

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If you are making 60K/year and have no savings. Your living expenses absorb 50K. Can you afford to spend 10K/year on toys? Absolutely not. But, some people may think they can afford this.
Unfortunately the typical person believes they can afford to spend $13,000 on toys in this circumstance.
 

jaytrader43

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I realize the responses will be relative, but I'm liking what I'm hearing so far.

I agree with SteveO and Yankee338 that an affordable expense should not negatively impact investments or income.

I also like jaytrader43's point that the initial cost of a purchase may be offset by usefulness or ROI.

Does anyone here use a formula or spreadsheet to determine affordability? We all probably have what we consider discretionary money like savings or the remainder of your budget. If a purchase uses 5% of your savings, is it more "affordable" than one that uses 95% of your savings? Neither puts you in debt.
Well for formula, I guess you could determine the amount of benefit you get from that good. For example:

n = x-y+z

where n is Net Income after transaction, x is yearly income and z is cashflow/ROI

So using my example of the computer:
If you were not using the computer to generate cashflow:
n=$60,000-$5,000+$0, so n is $55,000

If you were using it to generate cashflow
n=$60,000-$5,000+$36,000, so n is $91,000

That would be the basic thing, but if you include overhead expenses, it would be like this:

n = x - (y+q) + z where q represents overheads such as depreciation, maintenance, software, etc.

So if you are shopping for that computer for daily home usage and have three choices, one that costs $500, one that costs $1200 and the $6000 one, you would have to include overheads.

If the $500 computer comes without Microsoft Office, which you need, you'd have to factor in the $400 cost of purchasing it, and if it only has 512 MB of RAM, but you want 1GB to play games, you'd need to factor in the $50 cost to get the extra 512 MB RAM. Also, the $500 computer comes without a webcam, and you want a webcam with it, so you'd have to spend $40 to get a webcam. The $500 computer also only has a 80 GB hard drive, but you want a 120GB hard drive, which will run you $75, and it comes with Vista Basic, even though you want Home Premium, costing $90. Factor in $200 for repairs and the overheads of the $500 computer come to:

$400+50+40+75 +90= $655

So the formula here would be n=$60,000-(500-755)+0, meaning you end up with $58,845 at the end. Also note that the $500 computer cost $1355 in all to bring you up to the specs you wanted, and it took more effort to get what you wanted.

Now the $1200 computer. The $1200 computer has 1GB of RAM, a 160GB Hard Drive, a webcam and Vista Home Premium. It comes bundled with MS Office for a discount price of $150, so overall, it would cost you $1350. Factoring in $200 for repairs, The formula here is: $60,000-(1,200+350)+0, meaning n would be $58,450, only $195 more than the $500 laptop but with less effort to bring it up to your specs.

And finally, the $5,000 computer. This computer has 8GB of RAM, 500GB of hard drive a webcam, MS Office, everything you could possibly want. Factoring in $200 for repairs The forumula would now spit out:

n=$60,000-($5000+200)+0
Putting you at $54,800, with no extra effort. But you only need what you can get out of the $1200 computer, so this would be a bit of a waste of money, and its about 8% of your yearly salary.

But suppose this thing would make you $3,000 per month.

n=$60,000-($5000+200)+36,000

So n is $90,800, a whopping $30,800 over your base salary, so instead of losing money on this computer, you gained $30,800 per year extra on it.

But that model only works for showing net income after a purchase and can be used for your full net income. If you want to show your savings and income, then include a new variable, 's' to represent savings and add it to 'x'.

So: n=s or x -(y+q) + z + s or x

You can also use 'x' to mean cashflow or net income.
(Using either s or x depending on whether savings or income purchased the assets)

So yeah, it involves qualitative analysis (the money) and quantitative (effort). It is up to you to decide if the effort is worth saving the amount of money. It is obviously not practical to sit down and use this every time you go to the shop though, but might be useful when investing.

Disclaimer: This is a formula made up by a 12th grader, use at your own risk. I am not responsible for any losses caused by the use of this formula.
 

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SteveO

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Unfortunately the typical person believes they can afford to spend $13,000 on toys in this circumstance.
I don't really find this to be unfortunate. Renters are vital to my business. :hurray:
 
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PEERless

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How would you be able to put this into a spreadsheet?
Check this baby out. It's basic, but I think it works. Open the spreadsheet, then:

  1. Fill in initial conditions: Cash Reserves, Monthly Income, and Monthly Expenses
  2. Adjust your assumptions (%Δ): Annual interest earned, annual income-change, and annual expenses-change, respectively.
  3. Test your purchase: Put a lump sum in the Outright Purchase field or a payment in the Monthly Payment field. The rest of the fields will adjust based upon the PEERless Proprietary Affordability Formula. Numbers that look like (this) mean the purchase is unaffordable.
What do you think?

EDIT: Spreadsheet Improved. See Post #18.
 
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jaytrader43

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Check this baby out. It's basic, but I think it works. Open the spreadsheet, then:

  1. Fill in initial conditions: Cash Reserves, Monthly Income, and Monthly Expenses
  2. Adjust your assumptions (%Δ): Annual interest earned, annual income-change, and annual expenses-change, respectively.
  3. Test your purchase: Put a lump sum in the Outright Purchase field or a payment in the Monthly Payment field. The rest of the fields will adjust based upon the PEERless Proprietary Affordability Formula. Numbers that look like (this) mean the purchase is unaffordable.
What do you think?
I like it...but you should also include the benefit you get from it and subtract from price, for example you purchase an apartment for $20,000 and rent it for $1500/mo and mortgage payments are $800 /mo, taxes $120/mo, your net cashflow from it is $580/mo, so even if your current budget doesn't allow an extra $920/mo, the extra cash you gain will allow that and will increase your monthly income by $580.
 
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PEERless

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^OK. For now, you can adjust the income and expenses fields manually. Let me try writing that in, though... back in a sec.
 

Kung Fu Steve

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So maybe "affordability" isn't necessarily a hard numbers thing but a gut feeling? A "hunch" on what WILL happen?

A negative cash flowing property of 20k/month seems extremely un-affordable... to anyone! ... except if you have a "hunch" it will improve... ?
 
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PEERless

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UPDATE!

New sheet includes income produced by the purchase AND goes out 30 years instead of the initial five.
 
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PEERless

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Things I've noticed from playing around with my sheet:
  1. Cashing out your entire savings is not as detrimental as it sounds.
  2. An affordable monthly payment is surprisingly low. Most middle class people would look at a $1,000 monthly surplus as the green light to take on up to $1,000 in new monthly payments. Suckers!
 

jaytrader43

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UPDATE!

New sheet includes income produced by the purchase AND goes out 30 years instead of the initial five.
I like it...It is basically my model except on a spreadsheet and allows for showing your position in the future. Good job
 

SteveO

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So maybe "affordability" isn't necessarily a hard numbers thing but a gut feeling? A "hunch" on what WILL happen?

A negative cash flowing property of 20k/month seems extremely un-affordable... to anyone! ... except if you have a "hunch" it will improve... ?
Not a hunch.... a plan!
 

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jaytrader43

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Also, PEERLess, you should change Monthly Payments to Overheads. I did it on mine.

Also, SteveO, how would you fix 20k/mo negative cashflow...seems pretty impossible to me.
 

SteveO

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Sorry for the thread hijack. If it was stated that you needed to increase income by 15%, would it still sound impossible?
 

jaytrader43

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Updated my model to have more intuitive variable names.

n=s-t+b+c

n is net financial position after purchase, s is savings, t is total cost of good (cost + overheads), b is total benefit (cashflow) of good and c is cashflow (income - expenses).

The model can be used with yearly or monthly earnings but the same standard (yearly or monthly) must be used throughout. PEERLess's spreadsheet does the same thing and it is easier, but in case you were wondering how it all works or want to do it yourself, this is it.

So worked:

The same $5,000 computer on $60,000/yr income with $200/yr in overheads and $3000/mo in cashflow, but this time with $10,000 savings and $50,000/yr expenses. The savings are used to purchase the computer.

n=$10,000-($5,000+200)+$36,000+($60,000-50,000)
n=$10,000-5,200+36,000+10,000
n=$50,800

So you now end up with a net financial position (savings + net cashflow) of $50,800, up from $20,000 before the purchase. Now if you want to find the individual figures, it's simple transposition.

For new cashflow:

$50,800 - (10,000 (savings) + 5000 (cost) + 200 (overheads)) = $34,600.
So each month, you now have $30,600 in surplus instead of a $10,000 surplus. This is your new savings amount.

Now to use this model for prediction is where it gets tricky. You have to assume a percentage that everything will increase at. For example, you assume that your web hosting business's revenues will increase at 5% pa for the next 5 years, your income will increase 3%, and your expenses will increase by 3%. You would have to apply each of those figures to the variable they affect and then re-do the equation. This is for the next year. For the year after, take the new figures and apply the same changes, and after calculating the . Keep doing this until you reach where you want to be...or just use PEERLess's spreadsheet and save yourself the headache of doing the math yourself. If you want to, you can even adjust the figures for inflation.

Limitations:
This model does not allow for appreciation because it measures your cash position and not net worth.
This model assumes that you will make no major purchases in the coming years (when used for predictions)
 

TaxGuy

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I think the biggest question to answer is- affordability for investments? necessities? or toys?

I remember MJ posted about his Lambo saying that he waited until his monthly cashflow was 2x the cost of the car, which for a luxury purchase such as that is a good way to go about it instead of the guy making $60k/yr driving a new M3($60k+ sticker) who forgets to realize all the other costs involved(insurance + depreciation + maintenance + repairs + fuel + etc) :smilielol:

As far as the computer example it is apples to oranges b/c it is much easier to create cash-flow from a computer than it is from an exotic car(although there still are ways, there's a business in town called "Exotic Car Share" which is similar to a time-share for exotics and there is also a sister company, "Curvy Road" that sells fractional ownership and allows for a purchase option in the end for the 1 of 10 "shareholders")

So I think there should be categories- investments, necessities and luxuries.

For investments this can be something like a computer or web app for a business or of course hard assets like RE or stock.

For necessities start with the basics- food, shelter, clothing(optional if you live in a nudist colony :p) and add to it others such as utilities(gas, water, electric), transportation and any others?

For luxuries it would be anything that doesn't fall into the other categories or that costs more than what the average price for a basic need(i.e. t-shirts cost about $8-10, a "luxury" t-shirt is anything more than this, not necessarily a $150+ designer Italian shirt OR average transportation costs for public transportation such as bus or train is about $100-200/mo, anything more than this is technically a "luxury" but doesn't necessarily need to be a $375k LP640). In fact it might be better to find another name for this category- extras? desires? toys?
 

fanocks2003

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Affordable is what you can pay. It does not have to be money you have in your bank account. Rather what others have in theirs.

Make a deal and let others (instead of paying you directly) pay for your luxurius things. Be it either on a lump sum deal or on an installment deal. I have done it before, it works OK. I still do this.

When it comes down to it, someone else have to be indebted to you in order for you to be indebted to others. That is capitalism, that is what money symbolizes and is there for.

If you want to be a fastlaner I think you need to think outside your own bank account a lot.

For example if I want a luxurius house that will cost me say $10 Million and I don't have that kind of money, not even the down-payment for it (say the down-payment is 30%). But say I am doing a deal with someone worth $10 Million. Instead of this someone having to pay you $10 Million in a lump sum payment, maybe they will pay the down-payment ($3 Million) for you and take out a loan for the rest that they pay for. This way you will get your house, the other party does not need to pay you a lump sum (which means they can use that lump sum to invest further in order to pay for the amortization of your house. Poor example perhaps, but anyway).

Think outside your bank account and everything is affordable. Even without needing to borrow on your credit cards.

RK said it best: The name of the game is to have as many people indebted to you not the other way around. If someone with good credit owe you money, then you can use that owed money + his/her good credit to compensate for your poor one (for example). Hence getting what you otherwise wouldn't be near of reaching.
 

MJ DeMarco

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To me "affordable" is really simple ... if I buy something, will it have a negative impact on my lifestyle or my ability to continually grow wealth? If the answer is NO, it is affordable.

For example, if you walk into the store and buy a pack of gum, is it affordable? Sure, it doesn't impact your lifestyle one way or the other. That is how I look at affordability. As you make more, more things become "affordable".
 
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PEERless

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JayTrader and I are still tweaking the spreadsheet. Feel free to unlock it and make it your own. This could be a really great tool we could all include as free give-aways on our sites.
 

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