Book Review: Your Money Ratios

Don’t lapse into a high school math class coma; this is easy to grasp . . . If you know how old you are and how much you make, you can master your retirement planning.

~ Charles Farrell, Your Money Ratios

If you’re not a math fan, you might be turned off by the very title of this book: Your Money Ratios: 8 Simple Tools for Financial Security. Ratios? Simple? You’re kidding, right? This book is probably full of the charts and mathematical formulae that I happily put aside after graduation. It’s for all those propeller heads who are turned on by calculators, computers and endless numerical analysis.

I had some of the same apprehensions when the publisher of this book offered to send me a copy for review. Many of my concerns were put to rest once I began reading. Although I received a complimentary copy of this book from the publisher, I was not encouraged at all to do a complimentary review. As always, I promise to give you the straight goods in this review. If you think you might be interested in your own complimentary copy, just leave a comment on this post and you will be entered in a draw to win a copy of Your Money Ratios from the publisher.

A Few Caveats

At the risk of mineral metaphor overdose, I’m going to tell you that these ratios should not be seen as set in stone and should be taken with a grain of salt for a number of reasons:

1. Life Is Unpredictable: Your income, family, and health situation will probably fluctuate quite a bit over the course of your lifetime, so these ratios can only provide a guide based on what you currently know. You will most definitely need to make regular adjustments.

2. Markets Are Unpredictable: Mr. Farrell freely admits that his calculations are based on historical stock market returns, which may or may not continue into the future.

3. Interest Rates & Economic Conditions Are Unpredictable: Stuff happens. Yes, markets, interest rates, and economic conditions tend to be cyclical, but those cycles are not always smooth and predictable. After the past couple of years, I don’t think I need to waste any more pixels trying to convince you of that.

4. Note to Canadians: This book is written mainly for an American audience, with a whole chapter devoted to Social Security, and lots of information on financial instruments like 401Ks and IRAs that are unique to our neighbours to the south. Having said that, the ratios and personal financial advice included are valuable for everyone.

Why Should I Read Your Money Ratios?

So if retirement planning is so full of variables that we can’t predict outcomes very accurately, why should you bother to read this book? Actually, this book is useful because it can help  you organize some of these variables and provide some useful guideposts as you plan your life. Here’s a review of some of the information this book provides that I found useful:

Answers to Basic Personal Finance Questions

The book and the ratios can help you answer some of the most common money management questions:

1. How much money should I be saving each year?

2. How much should I have saved at my age?

3. How much debt should I carry?

4. How do I invest my savings?

5. What insurance do I need?

Solid Advice on Basic Personal Finance Topics

In addition to providing mathematical answers to the questions above, the book provides some great advice on practical personal finance issues like:

• Budgeting: Mr. Farrell almost didn’t include a section on budgeting, but I’m so glad that he did. He reviews a lot of the budgeting ideas that you’ve read about here and elsewhere. You really can’t hear this stuff too often.
• Saving: Make savings a habit: another great personal finance mantra.
• Debt: Handle with care. The book also provides some guidelines for buying a home and how much mortgage debt is appropriate at various ages.
• Investing: There is a lot of information on how and where to invest, but as mentioned above, much of it is focused on American products.
• Insurance: Like wills and estate planning, this is often overlooked but is a key component of any good financial plan.

8 Ratios to Gauge Your Progress

1. Capital to Income Ratio: How much capital you should have accumulated at various ages from 25 to 65.

2. Savings Ratio: How much of your income you should be saving each year to help you reach your capital to income ratio.

3. Mortgage to Income Ratio: Maximum amount of mortgage debt relative to your income from ages 25 to 65.

4. Education Debt to Average Earnings Ratio: Ratio of education debt to projected average earnings at 1, 5, and 10 years after graduation.

5. Investment Ratio: The percentage of stocks and bonds that you should own from ages 25 to 65. (I’m not a fan of this ratio as it encourages a one size fits all approach to investing that, in my opinion, is too simplistic and just not practical.)

6. Disability Insurance to Income Ratio: According to Mr. Farrell long term disability insurance is the most important insurance to have.

7. Life Insurance to Income Ratio: This ratio tell you how many times your current income your insurance should cover at various ages.

8. Long-Term Care Ratio: This ratio is based on the ability of your investment income to cover the expenses of long-term care based on your projected retirement income.

Win a Copy of Your Money Ratios

Mr. Farrell’s Unifying Theory of Personal Finance states that “All decisions you make should help move you from being a laborer to being a capitalist.” He doesn’t mean that in any political sense. Rather, he means the following: “As a capitalist, you are not paid for the value of your labor, but for the use of your money.” In simpler terms, each of your financial decisions should move your forward in your quest to become financially independent by the time you retire – or sooner!

For another take on this book, check out Frugal Trader’s review at Million Dollar Journey. If you would like to enter the draw to win a copy of Your Money Ratios, just leave a comment below by Friday, April 30th. I’ll draw the winner on Saturday and announce the results on Sunday, May 2nd, 2010. Good luck to everyone!

Does it sound like you might like to read this book? If you’ve already read it, what did you think?