Brad: It's never a fun feeling to feel like you've failed. It cost me and my wife a tremendous amount of money.
Jamie: Meet Brad, a New Yorker in his 40s who once upon a time dropped everything to pursue a passion project.
Brad: The business itself was focused on high end luxury guitars. I acquired the license to import and exclusively distribute those guitars within the United States. So I left a very secure, very cushy, very well paying professional career and jumped headfirst into running my own business.
Jamie: A business he mostly funded by investing his own savings.
Brad: I knew what the risks were. Unfortunately, a couple of them, which were pretty significant, turned out to come true.
Jamie: One of those risks was the narrow market.
Brad: It's a very niche product and it's very easy to sell through your clientele very quickly. So those people who are attracted to it, buy very quickly and it's a durable luxury good, so they tend not to acquire again or at least not in significant volume.
Jamie: Another risk was the relationship with the manufacturer.
Brad: I didn't control the actual company that manufactured the product. There was just a fundamental disagreement with the company itself, and that became over time less and less tenable to the point where it was fairly impossible to run the business.
Jamie: Brad made the extremely difficult decision to close up shop, which meant that he and his wife's personal finances took a significant hit. They lost most of their savings and took on $150,000 worth of debt.
Brad: We want a bit more of a measure of financial security. I don't have the level of financial freedom that I would've had, but for this. So, that's where we want to get back to.
Jamie: Brad's now got a new job in the same industry, just not self-employed this time and he's focused on how they'll get back on track. And that's where we'll start today.
Intro
I'm Jamie Roo. Welcome to What Should I Do With My Money, an original podcast from Morgan Stanley. We match real people asking real questions about their money with experienced financial advisors. Here at Morgan Stanley, we work with a range of clients. Some are experienced investors. Others are new to working with a financial advisor. On this show, you get a front row seat to hear what these initial conversations are like. And get answers to some of the questions you might have yourself. Brad is not alone as a small business owner picking himself back up after the difficult decision to shut down. Many small business owners or anyone who finds themselves with a large chunk of debt are asking themselves some of these same questions. How do I service my debt without emptying what's left of my savings? Should I focus solely on paying off my debt or should I be thinking about investing at the same time? What about quality of life? How much do I need to cut back and what is a reasonable timeline for becoming debt-free? There are best laid plans for doing this, but how do you actually stick to your plan?
We're going to answer all of this with the help of one of our financial advisors. Sallie joins us from Dallas, Texas, where she's a senior vice president of wealth management here at Morgan Stanley.
Sallie grew up in an entrepreneurial family. She gets the commitment involved, how personal it can be, how much is at stake.
Sallie: There were lots of nights when my dad was disappointed that he couldn't be home at 5:00 or maybe that he had to work on a Saturday and miss our soccer game, but that was all part of it and we all knew that. And when you have a family business and you're growing something, everybody adjusts to that. I saw it growing up with my family and I see it today with a lot of the business owners I work with is everything is about delayed gratification. Your goal is to grow this business. You want to create something. You want to watch it mature into the next stage.
That's definitely something I saw growing up and then you see it pay off. You also see setbacks occur sometimes and you have to be okay with that. But at the end of the day, it's all about what you're creating, something that's really important to you.
Jamie: Sallie's personal experience is what drives her professionally. She's learned a lot watching her dad and has a lot to offer Brad as he manages this transition.
Conversation
Jamie: Hi, Brad. Hi, Sallie. Welcome to the show.
Sallie: Thank you. It's nice to be here.
Brad: Thank you for having me.
Jamie: Brad, I hope that talking with Sallie can help you figure out how to get back to that level of comfort and financial freedom that you're looking for. Sallie knows a little bit about your situation, about some of the debt you have, but she's got some questions for you to get started. Sallie, over to you.
Sallie: Thank you. Brad. It's great to meet you today.
Brad: Likewise.
Sallie: Obviously, there are a couple of things on your mind. I think one of them is you really wanted to talk about the debt that you had to take on from this endeavor and really what the plan is going forward.
Brad: Yep.
Sallie: So-
Brad: Sorry.
Sallie: Talk to me a little bit about that.
Brad: Sure. So, there's a lot of startup costs associated with the company, a lot of which I personally funded, and then there was some debt that was taken on. Once it became clear the company was going to wind up, I was kind of faced with two options. One was putting the company into bankruptcy. Some of the debt probably wouldn't have been dischargeable, which is an issue. Two, I didn't necessarily want to go through the bankruptcy process and all of the things that entails and the impact it might have going forward. So I decided to take the debt and restructure it on my own. And I personally had guaranteed it anyway, so I was fairly on the hook for it.
Sallie: Right.
Brad: So it's been restructured into a term note and then there's still some residual credit card ... I shouldn't say still. There's a lot of residual credit card-based debt. Some of which was rolled into a term note and some of which has not yet been…..
Jamie: Term note is a legal agreement for a loan that includes the payment schedule for the principal amount borrowed plus interest payments.
Brad: That in addition to the loss of obviously the operating capital that I put in, those are the big challenges at this point.
Sallie: Debt on its own isn't bad.
Brad: Right.
Sallie: It's really the cost or the expense of it that we need to really plan around. Walk me through what the rates are on your debt. The term note, what's the rate on that?
Brad: I think the rate on that is in the range of seven to 8%.
Sallie: Okay. Got it. And then obviously the credit cards. We all know that those are astronomical. When you're thinking and I don't need dollar amounts, but would you think it's about a 50-50 split between the term note and the credit card-
Brad: It's probably-
Sallie: For your overall debt?
Brad: It's probably 60-40 credit versus term.
Sallie: So we need to plan on looking at your budget and your current lifestyle, how much extra do you have every month that we can put towards paying yourself first? Whether that's going to be applying it to the debt or applying it to a new investment account that can grow over time and meet these goals as well.
Brad: From our perspective, we have a fairly good handle on our budget in terms of inflow and expenses and that sort of thing. For us, given that we have a fairly fixed number to kind of throw at this problem and obviously ideally invest at the same time, I think the question for us is given the interest expense, the actual caring cost of the debt itself, what is the split? Would you normally start with the investment goals or would you normally start with the debt goals?
Sallie: I mean, you determine. We're partners here. You tell me, though, this is my goal. I'm going to show you a couple scenarios and I'm going to show you what I think makes the most sense. But at the end of the day, you'll make the decision.
Jamie: Before Sallie can offer scenarios, she continues in discovery mode, capturing the numbers she needs to answer Brad's questions and make a plan. Brad and his wife's combined income is 380,000 a year, sometimes a little higher depending on bonuses. They're fixed expenses come in at around 10,000 a month. They live in an expensive city and work a lot, so part of their lifestyle includes grabbing food on the go and maintaining a car. Brad also pays 5,000 a month towards his debts. They don't have anything in their investment account right now and not a lot of savings. Add this all together and given their tax bracket, they've got around 60,000 a year left to work with.
Sallie: Well, I think the good news here, Brad, is that you make quite a bit in income that we get to pay yourself with first. So the question is should you put those in investments? Should you pay down the debt? Should we do some of each? Most likely, we're going to recommend doing some of each. We're going to make sure that we pay off the highest debt first. And so the credit cards would be the first place we'd want to go. And we want to pay that down. And the question is whether you pay down the credit card debt or do we restructure it into debt that might be more advantageous for you.
Is there a way to restructure the credit card debt to bring down that interest rate, to bring down the expense? Because that's what we really need to manage in the short term is the expense of this debt for you and how do we do that. And then with this extra income, every month annually, we are going to make sure that we are paying off some of the debt and probably also doing a little bit in investments so that you're able to build up, rebuild your nest egg, but at the same time get rid of the debt and we can do that in one of two ways.
We can, as we talked about, look for ways to restructure it or two, is to pay it down. And the good news is you have extra monthly cash flow to do that. The bad news is that just to be frank we're in a rising interest rate environment. So the idea of being able to restructure this down at a very low rate, the rates have moved up quite a bit.
Brad: Yep. Yeah. And I don't anticipate them getting any better anytime soon.
Sallie: I think you're right.
Brad: It all makes perfect sense to me. I think a lot of it is obviously stuff I've kind of already known in a general sense.
Sallie: You know so much of this is things that intuitively make sense to you and you know you should do it but are you actually doing it? Do you have the structure in place to make sure this actually happens?
Brad: Sure.
Sallie: And that's where I think we all fall down and that's why you have these plans.
Brad: And then going forward, let's assume we tackle the debt problem fairly quickly as theoretically the plan would be. When you're building financial plans for, let's say, someone in our respective circumstance, I'm sure you've dealt with someone who's in a similar situation.
Sallie: Of course.
Brad: Once that debt load is to a point where we're all comfortable with it and we focus on rebuilding the investment accounts, do you usually maintain the same sort of discretionary expenditure towards the investment account at that point or are we being more aggressive in what we're putting out just to get the debt down and then we pare the investment back or do we even increase it at that point? How do you normally handle that?
Sallie: Pay yourself first. We want to make sure that we are allocating as much as possible to your investments, at the same time getting the debt to a manageable amount, specifically from an expense point on the interest. We have to see where rates are and if we're able to reorganize your debt at all. If we can restructure it with a lower interest rate or an interest rate at least that stays at the seven to 8% going forward, then that will help us put more into investments and give us more choices.
Brad: Got it. So Sallie, given what we've discussed thus far, and I think what you understand to be kind of our collective goal of getting out from under the debt as quickly as we can with the idea towards growing the investment account, what do you see as a realistic timeline vis-a-vis paying off the debt, and then maybe even slowly transitioning the distribution of what I would call our discretionary expenditure in that respect towards rebuilding the investment account?
Sallie: From a timeline perspective, it's going to come down to some decisions, the give and take of this. So this first year, we have 60,000 that we can use to pay down debt. So, that would be the first year. So you're down to 90,000 plus because we've already accounted for the interest. So then you do that another year and we get that down to a very manageable number. And then for the third year, it may or may not be a case where instead of paying it off completely, we're really aggressively trying to replenish the investment account.
Brad: That makes perfect sense to me. I think that would track pretty well with our collective goals in terms of, I think it would certainly make my wife feel a lot more comfortable to get out from under the majority of the debt sooner rather than later.
Sallie: She might be willing to give up a little bit on the lifestyle in order to pay down some of the debt more quickly. And that's definitely something we can model out and make a decision on.
Brad: I think she is more likely to give up some of the lifestyle than I am. How do you normally approach that with people in our situation?
Sallie: That's what I see a lot of times is where one wants to more aggressively pare down the debt. What is the consequence of doing that or how much is it going to hurt? And so we could put that on paper and show this is where you could pare back your expenses a little bit more just for the next six months or the next 12 months. And what does that look like then at the end of the year in terms of debt levels? Is it worth the pain for the gain? And we're really talking about a short period of time in which that's going to be the number one goal or recommendation is to pare back your lifestyle.
Brad: Sure.
Wrap and Recap
Jamie: Sallie, thank you so much for joining us today.
Sallie: It was my pleasure. Thank you both. I really enjoyed getting to know you, Brad.
Brad: Likewise. Thank you.
Jamie: Brad, I've just got a few questions left for you. Was there anything surprising in the guidance that Sallie gave you?
Brad: I think a lot of it is confirmation of things that my wife and I have collectively discussed or we have on our minds, but it's always good to hear and reinforce.
Jamie: What do you think it'll mean for you and your wife to get that plan in place and actually start following it?
Brad: I've run a business. We know how to budget. We know profit and loss. We know balance sheets. We know all these things. But like many things in life, and like Sallie mentioned, it's more difficult when it's yours and when you've got to own it. And so if there's someone else who can take that burden off of your shoulders and say, here, here are your options. You make the choice. But based on my experience and my expertise, these are what I think are your best options here and then to have a plan that we can literally just follow makes a huge difference.
Jamie: So what are next steps for you, Brad?
Brad: I think I'll reach out to Sallie separately and hopefully get the ball rolling in that respect and see if we can put some pen to paper and actually sort of put our money where our mouth is, no pun intended.
Jamie: That's great. Thank you so much for taking the time to share your story with us today.
Brad: Yeah. I found it incredibly helpful and I appreciate the opportunity.
Jamie: Our pleasure. Thanks so much, Brad.
Brad: Thank you.
Jamie: That's it for this episode of What Should I Do With My Money, an original podcast from Morgan Stanley. If you enjoyed this episode, please leave us a review on Apple Podcasts and follow us wherever you listen to your favorite shows. If you would like a deeper dive on what was discussed today, come see us at morganstanley.com/mymoney.
I'm Jamie Roo. Talk to you soon.
Disclosures
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