The point of saving money so many forget about

If you’ve been around here over the past four years, you know we talk a lot about saving money. It’s because it’s a tenant of good financial habits. We should all focus on saving our money for more important things. We show you how to save money on mortgages, buying cars, shopping online, insurance, and much more. If you haven’t been able to tell, we love to save some money. Doesn’t matter if it’s coupons, rebates, cash back, using credit cards, asking for it, or negotiating. We want more people to save more money each and every day to better their finances.

Unfortunately, we have done wrong in one aspect of saving and it’s a big one.

Though we may preach that taking the time to look for other services can save a lot of money, we never talk about the break-even point.  I figured this would be a good time to discuss this invisible point, but also make sure everyone takes this point in consideration before taking the plunge to save more money.  There can be some cases where switching will cost you more than it will save you. This can also be the case when you buy something to replace an older item.

We all usually get really excited about the opportunity to save money.  I know that when I have a chance to save money on my monthly services, I will jump at it.  I get that “saving money” feeling and can sometimes get too far ahead of myself in the switching process.  With my son being born in about a month, I have been working very hard on saving money on our monthly bills.  I have cut cable, moved to prepaid, along with reworking our programmable thermostat to save even more money.  We all want to save money, but at what cost?  This is where the break-even point comes into play.

The break even point has many meanings depending on what reference you are using.  In regards to personal finance and saving money, it is the point where the initial cost are met by the cumulative savings.  In business, it is where the expenses and revenue are equal.  Here is a simple example dealing with cell phone service.

Original Monthly Bill: $140

Termination Fee: $0

New Provider Bill: $90

Initial Equipment Cost: $400

Monthly Savings: $50

Break Even Point: 8 Months

In this simple example, you notice that is takes you 8 months to break even.  The reason for this is due to the initial equipment cost.  With the move to a new provider, you have to pay for the cell phone outright, but you are saving $50 per month.  With the savings, you will break even in 8 months.  Every month after the 8th, you are saving a true $50 a month.  Anytime before the 9th month, you have not paid for your original incurred cost.  This is one aspect that many forget, especially when given the opportunity to get something for free or at a reduced rate.  If we take the first example, but add a wrench into the equation, then you can see how making a decision can be difficult.

Original Monthly Bill: $140

Termination Fee: $300

New Provider Bill: $90

Initial Equipment Cost: $400

Monthly Savings: $50

Break Even Point: 14 Months

With this example, you are responsible for a termination fee.  With this fee added on, you are now responsible for $700 of upfront costs before you switch providers.  While still only saving $50 per month, it will take 14 months to break even before you start to actually save each month.  For this reason, you would want to wait until you didn’t have a termination fee before you made the switch.  Switching providers wouldn’t be advantageous for you until you didn’t have to pay the termination fee.

Breaking Even When Refinancing

I have been mulling over the option of refinancing my mortgage.  Rates are extremely low and I could possibly save up to 1% on my interest rate.  This would be a good savings per month, about $200.  While that savings makes my mouth water some, I looked into the process of refinancing more and realized that it wasn’t for me.

First, I’m now self-employed. I quit my job back in November of last year about two years after we bought our house. While this is incredibly freeing, it causes problems when you need to qualify for something like a refinance. I have a good amount of cash saved up and good profits, but when you don’t have a lot of paper work or a paper trail to show how well you’ve done over the past few years, it can be a struggle to qualify for a refinance. This is very real for us.

Second, the closing costs for refinancing can be bothersome.  We all know of the closing costs to get a mortgage, but many forget about closing costs to refinance.  Depending on how much your owe and how your home appraisal is, you might even need to put a nice down payment to get the refinance rate.  After adding these costs into the equation, I realized that it would take a little over 2 years to break even on the refinance.  This time was the leading factor in my decision not to refinance our mortgage.  While the savings would have been nice, it would not have made financial sense.  Though we would be saving money every month, we still would have lost a good chunk right up front.

The one thing that I want everyone to get out of this post, is that the break-even point should always be considered when you are thinking about changing services, refinancing, or any other financial decision that involves “breaking even”.  I talk to many people every day about finances and very few even think about the break-even point.  Once I explain the simple math to calculate the break-even point, many have a different opinion on their choice.

Many Americans have the mindset that saving up front is better than saving in the long term.  We want our reward immediately and don’t want to wait for it.  The biggest example of this were the  subsidized cell phones from carriers like Verizon and AT&T.  They would “subsidize” your cell phone purchase in order to get you in a contract for 2 years.  I’m glad to see contracts finally dropping out of style, but now people are paying more per month to “finance” the phone because they can’t afford it upfront. In the end, they just pay more for the phone than buying it outright.

We all have to make difficult financial decisions throughout our lives.  We should always think about “saving now versus saving later”.  While we might not get the “instant” savings we are accustomed to, we will most likely save more over time and that is what we are all trying to do.  Keep more money in your pocket and start thinking about your break-even point.

Have you thought about “breaking even” when thinking about switching providers or large financial decisions?

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  1. So true. I am always surprised when I am talking to people and they think they’re getting a great deal because they’re saving money now on a good or service, but overall it ends up costing much more in the long-term. You really should lay out any “deal” you find to see if it is cost-effective in the long run. Great post!

  2. sometimes with financing, it makes sense to take the financing over purchase, even though it is “tying you down” to a carrier. T-mobile was offering a killer deal for the iPhone 6S before it was released, saying they’d give $7 back a month for a lease if you signed up for one. After 18 months of lease payments, we’ll pay $342 overall for the phone (64 gb) after the $126 deductions on our phone plan from T-Mobile. We can buy out the lease at 18 months for $182 which makes the phone cost $524 overall. For a brand-new, just released phone, that price was great, as the phone was selling for $649 new off-contract, a nearly 17% off purchase price. T-Mobile is still selling the 64GB 6S phone for $649, so it’s still a great deal now, a year later.

    Now some people might argue you shouldn’t spend that much for a phone period, and I understand. But for my husband who only uses the iOS phone system, and as we are firm believers in buying quality new and keeping it for years, for us this purchase made sense. I waited to upgrade my phone to the Nexus 6P, when Best Buy was selling the 64 gb for $469, a significant savings off of the current $529 price. But I paid for my phone in full and am not tethered to a contract. And we both plan on keeping our phones until they die out.

  3. I always look at the big picture to confirm if savings are really worth it. My husband, the spender of the family, is amused at how I’m never taken in by his attempts to sell me on a sale price of X% off. I don’t care about the discount, I care about how much we’re paying overall!

    Since our current cash flow is good, and we have a solid pile of cash savings, I used both the break even point and the total savings over time to decide on our refinance. In the end, the fact that it took 6 months for the company to complete the process was far more painful than the cash we spent on the upfront costs, but we cut our monthly mortgage in half and will slice several years off the time to payoff as well. Well worth it for our long term picture.

  4. I am always reminded of my financial goals so that I never lose track of where I am in terms of budgeting and to keep myself out of debt. Sometimes, it is about willingness and determination that take us to reaching our goals.