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Just the other day the Federal Reserve decided to drop interest rates by 75 basis points. This surprise rate cut came as a response to the large dip in world markets while the US markets were closed for Martin Luther King Day. The rate cut also comes at a convenient time for banks trying to sort out their subprime situation. Many subprime borrowers were enticed into taking out loans with low initial monthly payments. When their rates adjusted their loan payments doubled in some cases. This has caused many financial institutions to write off millions and billions of dollars of bad debts. The rate cut was intended to help out many of those institutions that are in dire need of assistance.

There has been such a big deal made of this rate cut because it was unexpected. Typically rate changes are announced during one of the Fed’s planned meetings. This one occurred out of the blue. The Fed will be meeting again on January 29th and 30th. Many analysts expect that the Fed will cut rates once again to help out our struggling economy.

These rate cuts should help to stimulate our economy because they appear to help out more people than they hurt. With lower rates, subprime borrowers should see the monthly payments on their adjustable loans drop. This should help to slow down the number of foreclosures. With these rate cuts loan refinancing should become big again. Lower rates will also make the cost of owning a home less for buyers, so the housing market should start to turn around as well.

Rate cuts do have a negative impact on some people. Many retired people rely mainly on fixed income securities like CDs to provide them money to live off of. As rates decrease, their interest earned on these CDs decreases as well.

Many people these days are trying to scrape by from paycheck to paycheck and have no idea of how they can start to save for the future. Well I am here to tell you the best way to accomplish this. This is not a new groundbreaking idea. In fact, you have most likely already heard this strategy mentioned time and time again by many different financial advisors. The crazy thing though is that people are still not practicing this foolproof financial strategy.

So you want to know what this foolproof strategy is huh? Well I kind of ruined the surprise by the title of this post, but here it is anyway…PAY YOURSELF FIRST!!! For those of you who have never heard of this strategy, this is how it works. It is very simple, and anyone who can do it NEEDS to do it. What you need to do is designate a certain amount of money each week, month or paycheck to go into a designated account that you have agreed not to touch unless it is an absolute emergency. Whatever money you have left over you can use for bills, rent, food or whatever else you would like to spend your money on. When you have less money to spend, you will be forced to find ways to spend your money more wisely. You will start to think twice about whether or not you need that $4 cup of coffee each day, and for those keeping score at home that adds up to ($4 x 5 days/week x 52 weeks/year) = $1,040 per year. Imagine what you could do with an extra $1,040 per year. That is the equivalent of giving yourself a 50 cent per hour raise without having to beg your boss!

Now you are probably wondering how it is that I manage my money. The way I am about to describe to you is the way that I have been doing it for the past 3 years. First of all, I have my paycheck direct deposited to my bank account. This removes the temptation to exchange my paycheck for straight cash like so many people love to do. Secondly, I have set up a bank account at an Internet-only bank. For those of you who are untrusting of Internet-only banks, choose a bank that doesn’t have many branches, which will make it difficult to access your money for impulse purchases. I currently bank at Virtualbank.com. I have been using them for over three years now, and I have never had a problem with them. This bank is a division of Lydian Private Bank, which caters to high net worth individuals in the Florida area. Knowing this should remove any doubts of the legitimacy of this bank. Every Thursday I have Virtualbank.com transfer $50 out of the checking account that I have my direct deposit go to. If I keep this up for an entire year I will have saved ($50 x 52 weeks/year = $2600). Since Virtualbank.com is online only, I can’t access my money immediately either. If I want to transfer money from Virtualbank.com to my main checking account, it will take about 3-4 business days for the transfer to be complete. Therefore, if I have any impulse purchases that may cost a decent chunk of change, I will have 3-4 business days to think it over and decide if it is really worth the money. Anything that I have left over after I transfer my money to this savings account I can use as spending money for bills.

So you don’t think that you can do this huh? Well I am doing this while making $12/hour and working a regular 40 hour week. Here’s another little tidbit just to top it off to inspire you a little bit more to save…I am also making my maximum IRA contributions ($5000/year) each year. This comes out to ($5000/12 mos = $416.67/month). So there you have it…I am saving $2600 + $5000 = $7600 per year on a $12/hour paycheck.

If I can do it, so can you!

For those of you who need a little more convincing, if you sign up for an account at Virtualbank.com right now, you will get $20 for free. If you decide after a few months that you don’t like them you can close out your account and keep the $20. To get this offer, you need to access the site through this link. As another added bonus, their money market account is paying 3.95% as of the writing of this article. Although this is not extremely high, it it a lot higher than the national average for a money market account.

It is now the time to demystify the perplexing world of money market accounts. Many people who are not familiar with different types of investment vehicles may become confused when they hear the term money market used. That is easy to understand if you break down the name of the investment. The term “money market” sounds like one is investing money in the market. When people think of the market they naturally assume the stock market. They know that in the stock market it is possible to lose your money. So why on earth being the conservative investor that they are, would they want to invest in some stock market fund that could lose them money?

The truth is that a money market account has absolutely nothing to do with the stock market, mutual funds, index funds or anything else similar. The money market account is a special type of savings account. Typically a financial institution will require a minimum amount of funds to open a money market account. At Washington Mutual (WM) for example you will need $2,500 to open a money market account. Typically as your money market balances increase, your interest earned will increase as well.

Here is an example of the current money market rates at Washington Mutual. You will notice that as the balances increase, the interest earned will increase as well.

The banks and credit unions will take the money that is invested in the money market accounts and invest in Treasury Bills, CDs, Commercial Paper, and other very safe investment instruments. Obviously a Treasury Bill is earning more that 1.60% APY, but one must also consider that the financial institution is the one making the investments. The spread between the actual rate and the rate the depositor receives could be considered a “hidden” convenience fee levied by the financial institution (hey, they need to make money too!).

So in short, a money market account is a glorified savings account in which the depositor can earn a higher interest rate. Another great thing about a money market account is that it is FDIC insured up to $100,000. This means that if your financial institution goes under you will get all of your money (up to $100,00) back, including those funds that you have in the money market account.

Pros of the money market account: 1.) You can earn a higher interest rate. 2.) Your funds are FDIC insured up to $100,000 3.) Does not require the funds to be in the account for a certain amount of time.

Cons of the money market account: 1.) Typically does not have as high of returns as a Certificate of Deposit. 2.) The account is typically limited to 6 transactions per month in accordance with Regulation D. 3.) Generally requires a larger minimum balance than a savings account.

So there you have it. A money market account can be a great way to start accumulating some extra savings. This type of account is especially useful for someone who wants to earn a higher return than a savings account, but does not want to have their funds locked up in a CD.

As a final note, the author currently has a July 2008 $10 put on Washington Mutual.

Every day at work I come across a new situation that needs to be handled a bit differently. Today was no exception. I had a mom come in who had for this example about $5,000 in a 14 month CD paying approximately 4.75%. The maturity of the CD was in August, so she was about halfway through the term of the CD. She also had about $1,800 saved up in a money market account. For the purpose of this example, let us assume that the trip costs a flat $5,000. Let us also assume that the funds in the money market are needed for every day household expenditures, so they could not be used to pay for the trip. She told me that her daughter was going to be traveling abroad for a few months this summer, so she was going to need some extra money to finance it and was thinking about making an early withdrawl from her CD to cover the costs. At my financial institution, as well as the large majority of others, fees are charged for early withdrawls on CD accounts. Here, we charge 180 days of interest for withdrawls no matter when they are taken out.

I told the member that if she were to make an early withdrawl, then we would have to assess a 180 day interest penalty. She wasn’t too keen on that idea, so we started searching for ways around this. Initially I thought that she could take out a personal loan to finance the trip, but even at the lowest rates they are still in the 7 - 8% range for a good credit borrower. If she took out a loan at that rate she would be paying more in interest on the loan than she would be receiving on the funds that are still in the CD. In this situation, it would make more sense to just liquidate the CD, pay the early withdrawl fee, and then use those funds to pay for the trip. Although she would lose out on 180 days of interest, she would be able to pay off the trip in full and not have to worry about any debt. She would also save money by not having to pay that higher interest rate.

After talking to her a little more, I came to find out that she had a promotional rate credit card where the rate was only 2 - 3% through the end of 2008. Since the rate she is paying on this card is less than what she is earning, it would make sense for her to keep the CD open and finance the trip through the credit card. What worked out even better for this member was that the trip did not have to be paid for until April. This means that she could put the entire trip on the card, make the minimum payments for the next few months, and then pay the card off with the funds from the matured CD. At this point, the card will be entirely paid off before that high interest rate kicks in.

This example is a great way to take advantage of a low introductory rate on a credit card. Just be sure you know when those high rates start up and have your card fully paid off by then!