If you’ve been reading Pocketmint for any length of time, you’ve probably noticed that I place a lot of emphasis on food. From a purely economic standpoint, it’s the second or third biggest expense in our lives, after housing and vying with health care/insurance. And for me personally, food is a primary source of satisfaction and pleasure.

If you look over at the keyword cloud in the right sidebar, you’ll see that the only topic larger than ‘groceries’ is ‘frugal living’. In many ways, two of my top directives — save money and eat well — are in direct conflict. I’ve spent years refining my methods for doing both at the same time, with maximum efficiency.

The result is that I feed my family — currently two adults, one half-time teenager, plus two cats and a dog — on just over $10 per day, including predominantly local and/or organic produce, sustainably-caught seafood, and top-quality ingredients (from the perspective of both taste and health), as well as consumable supplies like soap and toilet paper. As I discovered when I recently did the math, that’s way below the federal food stamp budget, in a city with higher-than-average food costs.

So … leaving Mexico aside for a moment, let me describe my usual grocery-shopping system.

Price Tracking

When you’re standing in the grocery store aisle making a purchase decision, the information you need most is not printed on the label, or written on the little shelf sticker, or in fact available anywhere in the store. The single most important thing to know is price over time: what that item has cost each week, at every store you shop at, for the last several months.

Say you’re looking at a display of tuna cans, on sale 4 for $5. Just because it says SALE doesn’t automatically make it a good deal. Even the fact that the posted regular price is $1.69 doesn’t tell you anything useful.

For all you know, that store never sells tuna at $1.69 per can, because it’s perpetually ‘on sale’. That $1.69 is just there to make you think you’re getting a good deal (in behavioral economics, this is called ‘anchoring’). Or maybe it sold for $1.69 last week, but two weeks ago the same tuna was $.99 per can. Puts that $1.25 in a whole different light.

Or what if you knew that a different store down the street regularly uses tuna as a loss leader at 10 for $10, at least once every eight weeks. Or that buying an 8-can pack at Costco costs $1.47 per can, and their cans are two ounces larger.

If you know all of these things, you can make an informed decision about whether to buy tuna at this store, and this price, today.

The best way to go about this when you’re starting out is to keep a ‘price book’. There are many variations on this system, but here’s mine: I take a little pocket-sized notebook and at the top of each page I write the name of an item that I purchase frequently. Then, each time I am in a store, I add a line on that page containing the date, the store, and the price per quantity. So for example (not real numbers, I’m making this up):

In just a few weeks you will start to get a sense for what the best deals are, and you can start setting your ‘buy prices’. In the above case, I would set $1 per 5oz can as my buy price — any higher than that, and you know the Costco price will match or beat it. When you see a sale at or below your buy price, you know it’s time to stock up.

After several months, you may find that you don’t need the actual price book anymore, because you’ve memorized 90% or more of the relevant buy prices. I don’t carry a book with me in Seattle now — though when we move again, and I’m faced with a different selection of neighborhood stores, I may start up again until I’ve internalized the new data.

Weekly Sale Ads

Price history is critical background knowledge, but it doesn’t determine what I put on my shopping list. That would be the weekly sales.

There are five major grocery stores within reasonable driving distance for me. Each puts out a weekly circular advertising their sale prices. Most of the stores run on a Wednesday to Tuesday cycle, and the ads arrive in Tuesday’s mail. Fred Meyer runs Sunday to Saturday, and since I don’t get a local newspaper I check their circular online.

Combing through five circulars of six to eight full newsprint pages each could be time-consuming, but I’ve got it down to a science.

First, I have learned to ignore Albertsons altogether, despite it being the closest store to our house. Albertsons’ sale prices rarely beat the regular prices of other stores in the area. When they do have a good deal, they often have it only in limited supply, which means they run out of stock early and won’t issue a raincheck. After about the fourth or fifth time I came out empty-handed, pissed off, and feeling like I’d wasted my time, I decided I was done. So the Albertsons ad? Goes directly to recycling.

That leaves paper ads for Safeway, QFC, and Top Foods, plus the online Fred Meyer ad. (For the record, I would happily shop at Trader Joe’s, but there isn’t one close enough to make it worthwhile.)

When I first scan the weekly ads I’m looking for just two things: loss leaders and fresh produce.

The best loss leaders are often on the front or back pages, where they get the most exposure. They’re also invariably the largest items on each page. In my initial scan I just note the highlights — anything large — and ignore the rows and rows of smaller items.

Next, I find the produce section of each ad. For the 20 weeks that our CSA is in effect, we’re already getting plenty of produce delivered, so I rarely need to supplement. But for the other 32 weeks, fresh fruits and vegetables are a priority. So I mentally catalog what vegetables are on sale, and start thinking of meals that I can plan around them.

I also briefly check the seafood section, looking for a sale on wild-caught shrimp or a sustainable variety of fish. (I don’t eat, or cook, meat or poultry; if I did I’d pay similar attention to those sales.) Most weeks I don’t buy seafood, but if a great deal comes along I’ll stock up (if frozen) or plan a special meal around it (if fresh).

Note the order of operations in those last two paragraphs, because this is a critical strategy: I don’t decide what I want to eat, and then look for the lowest price — I first see what fresh food is cheap, and then plan meals based on those ingredients.

Once I know what the loss leaders and produce sales are at each store, I can choose which ones I will actually visit. I never want to go to four different stores in the same week — too time-consuming. Usually I pick two, sometimes just one. Fred Meyer makes the cut more often than not; not only do they often have multiple good deals, but from years of comparisons I have learned that Fred Meyer has the best regular prices for a majority of items, if something I need is not on sale anywhere.

Especially with seasonal produce, the same item will sometimes be on sale at multiple stores — though not always for the same price. However, I will sometimes pay a bit more at one store to save the gas and time of driving to a second or third. Asparagus might be $1.69 per pound this week at Safeway, but if Safeway has nothing else to draw me in, I might instead pay $1.99 at QFC, which has three other really great deals as well.

Time and money, as usual, are a tradeoff, and you have to do your own calculations about where to draw the line. When I’m commuting to a 50-hour job, I will spend a little more money to save time; when I’m primarily homemaking and freelancing, I’ll spend a little more time to save money.

Once I’ve chosen the one or two stores that I intend to visit, I will spend another few minutes scanning the interiors of those ads for nonperishables that meet my buy price points, and make a shopping list for each store.

The final money-saving trick is to stick to those lists once I’m actually in the store. Every once in a while I will pick up something I didn’t plan for — an unadvertised special, for example — but most times I’m in and out with exactly what’s on the list and no more.

Storage

Perishable produce has to be restocked once a week or so, but nearly everything else can be bought when cheap and kept until needed. For this, decent storage is necessary. Keeping a stocked pantry means that I’m almost never caught out by having to buy a particular thing right away, regardless of price. Occasionally I do have to buy something not on sale, but at the very least I know that it’s coming up and I can add it to my next trip to Costco or Fred Meyer.

Cabinet space in our current kitchen is minimal, so I repurposed a corner of a tiny closetless bedroom down the hall that we use only for storage. (And currently, as a staging area for Getting Rid of Stuff.) My pantry is two sets of metal shelves, six feet high and about three wide. Everything is organized and clearly visible, so I can see with a quick glance what I have on hand.

Then we have the chest freezer, which is as problematic as it is indispensable. Aside from a couple of wimpy wire drawers, the only available organization method is to pile things on top of other things. If you dig far enough down, you’re bound to uncover some random item from the previous year, freezer-burned and long-forgotten. Worse, because only a fraction of the stash is readily visible, I occasionally purchase a large package of something only to discover later that I already had one. Or two.

I don’t recommend anyone copy the freezer part of my system. I’m trying to both reduce how much frozen food I buy, and cycle through what I do have more frequently. Still, I rely on the freezer space enough that I’m not sure how I’d fare if I were suddenly busted back to only the little fridge freezer.

Coupons

I don’t use many manufacturer’s coupons. I tried the whole hardcore couponing thing for several months a couple of years ago, and in the end I concluded it wasn’t worthwhile for me in particular. Yes, I did save some money. However, it cost quite a bit in extra time and increased logistical stress. Also, it moved me in the direction of buying more packaged, highly-processed items than I would otherwise have purchased or than I could really feel good about. I decided that I would rather, for example, save money by making my own salad dressings, cookies, and soup from scratch, than spend that time hunting down coupons so I could purchase them already made.

Of course, this would not be possible if no one in our house either wanted to cook or was any good at it. Fortunately, my love for eating good food also extends to cooking. My homemade meals are both tastier and healthier than premade packaged foods and much cheaper than restaurant dinners, and most days I’m happy to make them.

My approach to coupons now is: if a manufacturer’s coupon shows up without any effort on my part (we get a Red Plum insert in the mail each week, plus the occasional unexpected Catalina printout at the register) for one of the few packaged items that I regularly buy anyway, I’ll make a point of using it. This happens maybe all of once a month. Otherwise, I don’t worry about it.

Grocery store coupons, though, are another thing entirely. I use Fred Meyer’s ad coupons more weeks than not, and occasionally Top Foods’ as well. Plus, about once a quarter I get a set of QFC coupons in the mail — targeted based on my purchases in the store — and they always include several coupons for completely free items. Plus I make full use of rainchecks if something is sold out.

That’s my weekly routine, more or less. I’ve left out a few alternate options — Costco and the salvage grocer and the ethnic supermarket — that I utilize often but not every week, for specific kinds of things. And of course there are dozens of other minor strategies that help keep the grocery expenses low; I’ll cover those another time.

But this should give you enough of a sense of how I usually shop — with preplanned lists and meals organized around weekly sales at a couple of stores, buttressed by a stockpile of staples — to give you some context for my next post, about how wildly different an experience buying groceries in Mexico has been.

Where Cash is King

At home in Seattle, I almost never use cash. I carry five to ten dollars around in my wallet ‘just in case’ … and it’s the same five or ten dollars for months at a time. Our last ATM withdrawal was in 2010, for the special circumstance of buying a used car. Before that, 2007.

In person, I pay either by credit card or debit card. Twelve debit card purchases a month gets us a great interest rate on our checking account (which doubles as our emergency savings); we use the credit card at Costco and to get cash back on gas and restaurants.

In Mexico – at least outside of major gringo tourist areas – it’s the exact opposite. Credit cards are nearly useless, and debit cards are only good at ATMs. In Mexico, cash is not just king, it’s pretty much the only game in town.

The consensus among expats in Mexico is that the best exchange rate can be had by getting pesos via ATM using your U.S. debit card, so that’s what we’ve done. Turns out the airport ATM wasn’t so great, but the one local ATM we’ve tried here in Ajijic had a much better exchange rate and a smaller fee.

Pockets of Pesos

Once you have the cash there’s the matter of carrying it around. Even at home I don’t bother with a purse, so most of my clothes are well-supplied with pockets. But my stateside habit of carrying a wallet in my back pocket is ill-advised here, where pickpocketing is more common; instead I simply put loose pesos in my front pockets.

Waving a lot of cash around also seemed unwise, so I developed a system where I put larger denominations (500, 200, 100 peso bills and 10 peso coins) in my left pocket and smaller denominations (50 and 20 peso bills and all other coins) in my right pocket. That way I can pay for, say, a 15 peso pineapple without flashing several hundred.

Peso bills are colored, which makes quick identification easy. Peso coins, on the other hand, are sometimes frustratingly similar. $1 and $2 coins are so close in size that I have to flip them to see the number before I know what I’ve got, which means I can be embarrassingly slow counting out change. (Writing that, I think maybe I should put twos in the left pocket and ones in the right. Hmm.)

Accounting for Change

At home, using debit and credit cards almost exclusively means that all of our purchases are picked up automatically by Mint, where two or three times a week I log in and assign each one to a budget category. Only once in a blue moon do I have to enter a cash transaction, and then there’s always a good chance that it will be missed – either Jak fails to mention it, or I forget to record it.

Here in Mexico, it’s all cash all the time, which means a whole new tracking system. Most of our purchases are one- or two-item transactions with individual vendors where there is no receipt – much like going to a farmer’s market. But I came prepared: the former wallet back pocket is now home to a little notebook in which I write all sorts of things, including sometimes a record of checked prices or what I’ve spent.

Ironically, the fact that everything is cash means nothing gets forgotten, as it immediately became clear that I need to do an accounting at the end of each day. I started a simple spreadsheet where I record our cash withdrawals and subtract each day’s expenditures. Then I count our cash pesos and check the total against the spreadsheet.

Then, in order to keep using our budget categories in Mint and square everything with our dollar-denominated bank accounts, I have to sit with a calculator and convert each peso purchase to dollars at the exchange rate of our most recent ATM withdrawal. Because there are so many individual purchases, that’s a lot of line items to manually enter.

For the first couple of days this seemed like a great deal of trouble, but within just a week it’s become a quick little routine. Of course, I can enjoy spreadsheets and data and making the numbers come out right; Jak, on the other hand, was so annoyed the first day when I made him account for every peso that he simply turned over all the money to me. I am now the sole Keeper of Cash, unless he’s going out by himself.

I think if we lived here permanently I would start to compile, say, all the individual grocery purchases from one day’s street market into a single entry: Chapala tianguis, 131 pesos. But right now I am gathering detailed price data, so I want to record that 4 bananas (at 8 pesos per kilo) cost 5.5 pesos and a kilo of dried black beans was 19.5, instead of lumping them together.

The running tally of cash has one other benefit: it keeps me from misplacing money, which is apparently a significant problem otherwise. If my daily count comes up short, I know I’m missing something somewhere, and go hunting for it. So far I’ve found coins stuck inside a folding map, and a crumpled $100 peso note in a shorts pocket in the laundry.

So with a little practice the prospect of change, in either sense of the word, has become less daunting. On to the next challenge!

The Scenario

First, here are Tricia’s original questions:

My husband and I are in a similar situation, only a year behind you in the process. We just stopped making payments this month. We also have Bank of America with a first and second loan (100% financing) from 2007 and we, like you, waited two years in the making homes affordable program and sent and re-sent paperwork with absolutely no progress. We hope to short sale or do a deed in lieu of foreclosure.

Do you have any advice based on your experience? Anything you would do differently?

We have a few loans we would like to pay off with our “extra” cash. Do you know of any downfall to paying off debt while trying to convince the bank that the mortgage is too much?

I corresponded with Tricia a bit and got some additional information.

Family

Tricia’s family lives in California. She is married with two children — a toddler and a baby.

Debt

The Zillow estimate for her home is $403k, but her personal estimate is closer to $350k.

Their first mortgage, for $429k, is an interest-only 7-year ARM. Since it’s interest-only, they still owe all $429k. The second mortgage was a variable-rate loan for $107k, of which they still owe $99k.

Total monthly mortgage payments, including escrow: $3010

They also have $23k in car loans at 5.35%:

• $9k on a 2005 Saab sedan
• $14k on a 2008 Suzuki SUV

… plus another $25k of student loans at 4.25%. They did have a substantial (~$20k) loan from family members, but that debt appears to have been forgiven.

On the positive side, they have zero credit-card debt (yay!) and they want to pay everything else off and keep it off. “We plan and hope to never have debt again,” Tricia writes.

Income

Tricia’s husband is a tenured college professor — so his income is stable! — with a gross salary of $83k across ten months. Last year he was able to work extra in the summer for a total of $103k, but that was an unusual situation; usually they live off savings for two months in the summer. Also, she says,

This next year we are taking a 35% cut in pay in order to take a sabbatical so that he can advance his career. (He is writing a textbook and making lab equipment.)

I am a nurse and I work per diem so I get roughly 3 days of work a month. Last year my W2 was just over $5,000. I am mainly a stay at home mom.

(I note that Tricia was pregnant or had a newborn for most of 2011, so I assume she was working less then than the three days per month she cites now — otherwise, her hourly wage would have been only $17 per hour, in a state where the average hourly wage for nurses is $43.) A 35% reduction means that her husband’s expected income for 2012 is about $54k.

Savings

After their first month without paying a mortgage, they have about $23k in non-retirement savings.

Tricia’s husband has been contributing $670 per month to his 403b retirement plan. Neither one contributes to an IRA.

Expenses

We didn’t delve fully into expenses, as Tricia was mainly asking for help with the mortgage walkaway and distributing the resulting money rather than cutting costs, but she did mention:

My budget is so bare bones that we don’t have a clothing fund. I’ve been wearing the same wardrobe for 5 years. I’m not a fashionista but come on! A new dress would be nice. One thing we have not and will not sacrifice is food. It’s expensive to eat healthy. We don’t eat out a lot. We average around $75 between the two of us for restaurants per month. My grocery bill is large, around $900 a month.

Also, her plan for 2013 involves living — presumably rent-free — with relatives:

We want to have this all resolved by December 2012, mainly because we want to go back east for 2013 while my husband does his sabbatical work. Our families are in Indiana and North Carolina so we can live with them for the year.

The System

First, let me correct a few misconceptions about mortgage default.

Recourse and Non-Recourse Loans

You are extremely fortunate that California, like my own state of Washington, is a non-recourse state. In your case that means that you will be able to walk away from your primary mortgage (because it was an original ‘purchase money’ loan, never refinanced) and the lien holder must accept the house as full payment. State law. You don’t need to negotiate with the bank over this at all.

So that $429k, you can stop worrying about it now.

The second mortgage is a little trickier. When the holder of the first mortgage forecloses (or sells short, or whatever), the second becomes a ‘sold-out junior’ loan — an unsecured debt much like a credit card debt.

Without going too far into abstruse legalities (because the recourse status of sold-out juniors in non-recourse states is a little fuzzy), you will still owe $99k on that second loan, and the lienholder might get a judgment against you for it if they went to court. This, you do not want.

Now, the downside for them is that going to court is expensive, as well as risky because of the aforementioned fuzzy status. They will certainly threaten to sue you, but they’re only going to actually do it if they think you have enough money to make it worth their while.

I will give you my best advice for handling this, but you should seriously consider consulting a California real-estate lawyer on the specific matter of the sold-out junior. Or even two lawyers, because they don’t all give the same answers. (As I said, fuzzy.)

Bankruptcy Options

The hole card against being sued for a debt is bankruptcy. Chapter 7 is the one that clears your debts; Chapter 13 puts you on a 3- or 5-year repayment plan. In both cases, any assets beyond specific state or federal exemptions will be used to repay your creditors.

It’s my educated guess, based on the information you gave me, that you and your husband will not qualify for Chapter 7 bankruptcy. However, the only way to know for sure is to run through the lengthy test yourself. You should do this first, as the answer will impact other decisions.

If you do qualify for Chapter 7, you are — well, worse-off financially, but in an excellent negotiating position with regard to the sold-out junior. (This is our own situation, and I’ll go more into those details in a future post.)

Chapter 13 is, as far as I can tell, of limited use to you either. If you wanted to keep your house — and if your primary mortgage weren’t so amazingly awful — you might be able to strip the second lien entirely. But that would still leave you with a primary loan that’s interest-only, turning adjustable, and as much as $80k underwater.

However, I’m personally less familiar with Chapter 13 (since it didn’t apply in our case), so there may be an advantage I’m missing. You should probably do further research on your own. You can also talk with a bankruptcy lawyer, but be careful — the lawyer makes money if you file and nothing if you don’t, so your interests and his are not necessarily aligned.

In your case, assuming you don’t qualify for Chapter 7 bankruptcy, and don’t want to apply for Chapter 13, you should expect that at some point down the line you will be negotiating a settlement with the second lienholder. I’ll come back to that below.

Foreclosure, Short Sale, or Deed-in-Lieu

Now, as to the idea of doing a deed-in-lieu or a short sale: forget it.

First of all, even though Bank of America is your servicer for both loans, they probably don’t own either one of them (despite what some random customer service rep may tell you).

Deed-in-lieu would only be an option if both mortgages are owned by the same entity, which is almost never the case. (Not that you can tell, because there isn’t any way — at least that I could find — for a homeowner to determine who owns a given loan, unless the owning bank decides it wants to contact you directly for some reason.)

Short sales are also notoriously difficult to get approved when there is more than one lender in the mix, because the junior lender is able to indefinitely sabotage the process, and — with no equity in the property — has no incentive to play along.

Furthermore, there is zero benefit to you in pursuing either a DIL or a short sale — at best it will play out much like a foreclosure; at worst it could drag out the whole process by an extra year or two, and cost you thousands of additional dollars.

According to FICO, keeper of the credit score, if you’re underwater on your home a deed-in-lieu, a short sale, and a foreclosure all have the exact same impact on your credit score.

Furthermore, both DILs and short sales require full financial disclosure, which you want to avoid — on general principle, but especially in your case where there’s a chance you might get sued down the line. You don’t want to give them any more ammunition.

You indicated that you thought the bank would be more likely to agree to ‘accept the deficit’ on the house and not take further action against you for the balance if you arranged a deed-in-lieu or a short sale. But in California the first lienholder has no choice and must accept the deficit without recourse. And I can promise you that the second lienholder will not treat you more favorably in a short-sale or DIL situation. They are completely out of the money and will get nothing in any case, except by coming after you.

Foreclosure Timing

Believe me, I know what it’s like to want to just move on, but I’m sorry to say that your hope that this will all be over by December 2012 is wildly unrealistic. The legal minimum length of the process in California is 170 days from first default — just shy of six months. But in reality a) bureaucratic processes rarely move with maximum efficiency even if all parties are motivated to do so, and b) the bank determines the foreclosure start date, and it’s typically in their interest to delay, often a year or even two. Even after the foreclosure is complete, you’ll still have to deal with the second lienholder. Based on a large (albeit unscientifically distributed) sample of prior cases, I’d say it’s likely to be at least 2014 before you can close the books on this, maybe even 2015.

This doesn’t mean that you can’t abandon your house and move in with your family back east if that’s what you really want, but it does mean that you risk being on the hook for income tax on the deficiency — the difference between the eventual sale price of your home and the value of your loans — as the current tax break expires in December 2012. If your house sells for the expected $350k, that could be as much as $178k in ‘income’ that you have to pay tax on. (Ouch!)

I think the odds are good that come December, Congress will extend the tax break another couple of years … but you should be prepared for that to not happen, which means having access to enough money to pay the tax in the year following your actual foreclosure. Plus, California will still be levying state income tax on the deficiency, regardless. Since we’re probably talking over $40k in income tax here, that could be a huge burden, wiping out more than an entire year’s saved mortgage payments.

Settlement Negotiation

There is no benefit to, and much potential harm in, dealing with the junior loan before foreclosure proceedings are final. Just ignore them and wait.

By that point — probably at least two years from now — you will not be dealing with BoA anymore but with a debt buyer which has purchased the now-unsecured junior loan for pennies on the dollar.

Assume that this company will be ruthless, even cruel, in harassing you for payment. You will have to remain firm. Do not trust anything a debt collector says. Do not give them any financial documents. Get a quit-claim in writing, contingent upon an agreed payment amount, before sending any money at all.

This is where past actions in good faith may unfortunately hurt you now, because the bank has your full financial information as of your last HAMP application in February 2011. You have to assume this will be passed on to the debt buyer. Even if you never give them another scrap of data (which you should not), they may be able to tell (for example) that you aren’t eligible for Chapter 7, or to infer that a tenured professor has a guaranteed income which could be garnished. In short, they might have enough information to suspect — correctly or not — that they could recoup a big chunk of that $99k if they try for it.

In your situation, I would expect to pay around 10%-12% — enough of a profit carrot to make a lawsuit look unattractive by comparison. (Hard-line negotiators have settled for as little as 5%; less-skilled negotiators sometimes pay 20% or more.) Remember that the creditor probably paid 3%-4% for the loan, so 10% would be a 250% to 300% profit.

Standard negotiating tactics apply — let them name the first number, then counter with a number much lower than where you are prepared to end up.

Mind you, we aren’t even in foreclosure (after 14 months!) so I haven’t personally been through these negotiations yet; this is just based on the best advice I’ve read from people who have.

The Strategy

Upsides and Downsides

The walkaway will free up $3k per month, or $36k per year, until you need to start renting again (presumably fall 2013). But it also adds the following future expenses:

• Extra income tax due to lack of mortgage interest deduction
• State and potential federal income tax on discharged debt (estimated $40-50k)
• Settlement of the second loan (estimated $10-12k)
• Moving — in your case, across the country (and back!)
• Extra rental security deposit when you return to California

Plus, you’ll need to keep enough savings to get you through the two summer months each year where your husband doesn’t draw a salary, as well as a solid emergency fund to cover random acts of life.

Further complicating matters is that you’ve been living paycheck-to-paycheck at full employment, so you’re going to have to cut back on your monthly spending — over and above the dropped mortgage payment — in order to see any savings at all during the sabbatical year. If you don’t make any other changes, most of that $36k will be eaten up by ‘normal’ spending.

Also, you’ve been saving only about $8000 per year for retirement for two people, which isn’t nearly enough.

Moving Ahead, a Step by Step Plan

Frankly, strategic default is not a clear win in your family’s situation; if you had come to me with the question ‘should we walk away?’, I would be cautioning you against the many downsides, and exploring some other options.

However, I’m going to assume here that you’re set in that decision, as well as your intention to move cross-country for a year. Also, I’m assuming that (after doing further research) you decide to try to avoid Chapter 13 bankruptcy. (If you were filing for Chapter 13, I’d create an entirely different plan — for example, leaving the car loans alone and paying off the student loans with your existing cash.) Here, then, is what I would recommend:

Step 1: Immediately open up two Roth IRA accounts — one for yourself and one for your husband. Take $10k of your existing cash and deposit $5000 in each for 2011. You have until April 17 to do this for last year. Don’t get stuck on picking investments up front, just get the money in an account before the deadline.

Step 2: Recalculate withholding for the rest of 2012, given your husband’s upcoming drop in salary and the loss of around $30k in mortgage interest deductions.

Step 3: Sell the SUV. It gets lower gas mileage, costs more in insurance, and you owe more on it. Pay off the remainder of that loan. You should have a loss of under $2000 there, and might even break even.

Step 4: Pay off the loan on the Saab. (I’m hoping here by the way that your auto loans are non-predatory, with no prepayment penalty.) It’s now your highest-rate debt, and you need to save yourselves the extra interest and get rid of that monthly payment.

Step 4, Advanced: Sell the Saab also and buy a better used car. I realize this may be a big leap for someone in your position, but objectively it’s the best course. The Saab gets mediocre gas mileage and has a poor track record on repairs. Pick a compact sedan with excellent gas mileage and repair history, then find a car in above-average condition that’s at least ten years old. This will cost you around $4000 now but will save you much more in gas, repairs, and annual insurance across the next few years. You might want to sell the Saab in California and buy the replacement once you get to Indiana or North Carolina, where prices are probably cheaper. Bonus: this would be a car that you could actually keep if you are forced into Chapter 13, whereas the two expensive ones you have now would be sold to pay your debts.

Step 5: Set aside $500 per person per month toward your 2012 Roth IRAs. Have it withdrawn directly from your husband’s paycheck into your respective accounts, so you don’t even see it. Retirement savings, incidentally, aren’t touched in bankruptcy … and until you’ve settled the junior loan and dealt with the tax consequences of foreclosure, there’s still a chance that you will be forced down that road.

Step 6: Make a monthly budget. Start with the new monthly take-home amount, after both taxes and the Roth contributions. Include your student loan payments, plus at least 30% of your total expenses each month in additional savings. (You need to save 20% of your average monthly expenses for each of ten months just to cover your two salary-free summer months; the other 10% will go to rebuild a non-Roth emergency fund and to cover moving expenses, settlement money, and so forth.) So for example, if your husband’s monthly take-home totals $2800, you have a maximum of $2150 to actually spend.

Step 7: Find ways to reduce your spending. Though we didn’t go into much detail on expenses, it’s clear that even aside from the mortgage payment, your family has been spending more than it makes. And even though you might have as much as a year and a half without mortgage or rent coming up, it won’t be a cakewalk, because at the same time your income will be considerably reduced and you are accruing tens of thousands of dollars in new expenses as a result of the default and move. So if you can’t substantially reduce your daily expenditures, you’ll be headed right back down the hole.

Step 8: Increase your income. For this next year, between your at-home husband and your extended family, hopefully you have access to occasional free childcare. If possible, you should take the opportunity to pick up some extra nursing shifts. Unfortunately wages won’t be as high in Indiana or North Carolina as you’re accustomed to in California, but if you’re serious about becoming debt-free (and it sounds like you are) it will still be worth it. Shovel any extra earnings into savings until you have at least $4000 in your emergency fund and another $10k in a settlement fund for the junior loan, and then …

Step 9: Accelerate student loan repayments. Student loans survive a bankruptcy, so it’s worth throwing cash at those even before you know whether you’re going to end up owing a pile of income tax on the loan deficiencies. Hopefully, Congress will give the millions of us with negative equity a tax break for a little bit longer.

I hope this information is helpful. Good luck!

That early programming sits there, largely unexamined, in the back of everyone’s head. Even if you make a conscious choice to route yourself around some part of the preordained path — maybe you skip the church wedding, or resolve not to have kids — the rest of the success script is still influencing every major life decision.

Which is to a large extent how I found myself in my mid-thirties with a de facto husband, two stepkids, a house full of ‘nice’ possessions, and a corporate career. And why, when I had all of those things, I felt like I could finally call myself a success.

But although I felt accomplished, I certainly wasn’t happy. The truth is that the career part has never really worked out for me, or for Jak. Despite repeated attempts, neither of us have ever thrived in a corporate environment. The best I’ve managed is ‘temporarily bearable’, and my condition has more often been ‘full-on miserable’. The day in October 2008 that I was fired from my job? I had spent that morning at my doctor’s office, getting a prescription for anti-anxiety medication so I could make it through the panic attacks I was suffering almost every morning before work.

For his part, Jak has only ever really wanted to do one thing, and that’s write novels. My enthusiasms are broader, and include design, illustration, and non-fiction writing as well … but not in the ways and for the reasons that corporations want to pay for.

In short, we both want to be self-employed artists.

There’s one good way to be a self-employed artist, and that’s to have a working spouse who is happy to fully support you. Clearly that’s not going to happen for us.

We know a lot of writers, and even the fantastically successful ones still have other jobs, by and large. The ones who are making a living writing fiction now didn’t just jump in; they spent fifteen or twenty years cramming writing around their day jobs and family life, until the trickle of royalties from dozens of prior publications finally added up to something substantial.

Jak is more of a dreamer; I’m more of a pragmatist. So every time Jak broaches the subject of quitting his job to write novels, my brain calls up a mental model of the economic realities. For quite a few years now, it’s looked something like this:

In this graph, purple is our approximate annual expenses — given our best efforts at thrift, in our current location — and green is the amount of reliable income from self-directed work.

As you can see, there’s at minimum a $60,000 gap between what we absolutely needed and what we could reasonably count on making from our artistic pursuits. Which is why every time Jak would mention his desire to write for a living, I would respond with — well, a sympathetic shrug at best, and irritated grousing at worst. It just wasn’t even close to realistic, so yearning after it did no one any good.

Last winter, the picture started to change. Once we decided to jettison the house and go back to renting, our future situation looked something like this:

Now the disparity was down to maybe as little as $35,000. Something that a part-time job might bridge, if the idea of a part-time job in either of our careers weren’t completely ludicrous. (Of course the kind of jobs that do come in part-time flavors pay much, much less.)

But that wasn’t the end of it. In the past few years, some economically interesting things have been happening in the world of publishing, what with ebooks and all. My conservative estimate of income from writing and other creative pursuits ticked upward. Also, with a larger pool of savings, we’d have the option of withdrawing perhaps as much as a few thousand dollars per year, even before official retirement age.

So then my mental graph started to look more like this:

Still a gap of at least $15k per year — but now we were out of the realm of ‘laughably absurd’ and into ‘merely impossible’.

And there, about a year ago, is where we made a sharp left turn. We decided to consciously set aside society’s idea of success, and look for a way to succeed on our own terms.

We didn’t quite wake up one day and decide to chuck our entire life plan out the window. But we did change course surprisingly fast, over a span of just a few weeks.

We had already — in part out of necessity, but also out of a pointed ethical reconsideration — become increasingly comfortable with eschewing the possession-centric, consumer-driven lifestyle that’s part of the price of admission to the upper-middle class.

Now, in choosing to abandon both our house and the entire idea of owning property, we had put ourselves firmly and irrevocably off the accepted path. Having gone that far, we started to seriously discuss — to stretch the metaphor just a little bit farther — the possibility of driving right off the game board altogether.

Going back to the graph: expenses are generally easier for us to control than income. But we’d already tightened those belts about as far as they could go. Rent accounts for well over half our total budget. Because of shared custody, we don’t have the option of moving more than a few miles in any direction.

As long as we were both supporting a child and tied to Seattle, that gap wasn’t going to get appreciably smaller. But in just a few years, our final fledgling would be leaving the nest. At that point we could conceivably move … anywhere.

So the question became: is there anyplace we could go — that wouldn’t be intolerable for other reasons — that would allow us to bridge the income-expense gap and do work that didn’t make us miserable?

I set about finding out.

To make a long story … um, slightly less long, I found one place that looked particularly promising: the Lake Chapala area of central Mexico — a series of small towns along the north shore of Mexico’s largest lake, about 45 minutes from Guadalajara.

Based on my best research, if we moved to Chapala, we could realistically expect our graph to look something like this:

Not a guarantee of success, but at least a reasonable probability. This could be our path to a happier way of life.

Of course, I was trying to evaluate the feasibility of living in an area I’d never even visited, in a country with which I had only passing familiarity. Lots of room for error there.

Which is why next week Jak and I will be heading down to Mexico to test-drive the expense side of the plan. We’re going to live in the Chapala area for a full month — not as tourists, but as much like residents as possible. We’ll take the local buses and shop in the local markets and see if the two of us really can live there, happily, on less than $2000 per month.

What this means for Pocketmint is a month of personal finance, Mexican-style. It should be pretty different from anything you’ll be reading anywhere else. I hope you’ll come along for the ride!

April 17th is also the deadline for maxing out your tax-advantaged retirement contributions for 2011.

Yes, that’s right. I know this is April 1, but it’s not a joke: the government actually gives you three and a half extra months to get your retirement-saving act together.

More specifically, there are two main kinds of retirement accounts that give you a tax break: employer-sponsored and independent. You can only contribute to employer-sponsored plans — 401(k)s and 403(b)s — through paycheck deductions, so that ship has sailed, at least for 2011.

But independent accounts — IRAs and Roth IRAs — allow prior-year contributions right up until Tax Day. In fact, you don’t even have to have an account already set up — you can start a new one and contribute up to the 2011 limit all at once, right up through April 17, 2012.

I’m going to focus on Roth IRAs here, because I think they’re the better choice for most people, especially here at the last minute. (The only way a traditional IRA is better is if you both need, and are eligible for, the tax deduction right now, and if that’s the case you’re probably already on top of it.)

There are just three requirements:

• You must be a legal adult. You can contribute to a Roth IRA at any time from age 18 on — there is no upper limit. You have an annual contribution limit of $5000 if you’re 18 to 49, and $6000 if you’re 50 or older.
• You must have earned income. You — or your married spouse — must have earned the amount you wish to contribute to your IRA(s) from employment, including self-employment, in 2011. (Unfortunately, that’s married under federal law, so same-sex spouses, even if legally married in your state, must have each individually earned the income they want to contribute.) Other kinds of income — interest, dividends, capital gains, rental payments — don’t qualify.
• You must not have earned too much income. If you’re single, or married but separated (including a separate residence), your Adjusted Gross Income must be less than $107k to contribute the full amount, and less than $122k to contribute at all. If you’re married and file your taxes jointly, your AGI must be less than $169k to contribute in full, and less than $179k to contribute at all.

If those three things describe you, and you can scare up even just a few hundred dollars, open up a Roth account right now and designate that money as a 2011 contribution. If you can afford the whole $5000 (or $6000) per person, do it.

Why? Because almost no one in the United States today is adequately prepared for retirement, and that probably includes you. Because there isn’t a downside. Because your older self will thank you.

Yeah, those dollars have to come from somewhere, and if you weren’t planning for it, that might be a problem. If you got, or will be getting, a tax refund this year, this is a great place to put it.

Here’s another solution: use part of your emergency fund to fund your Roth. Because with a Roth IRA you can always withdraw any amount that you put in, without taxes or penalties. The only part that’s locked down is the earnings — such as interest, dividends, or gains from stock sales.

Now the idea, of course, is to leave your contributions in the Roth until after you retire, and taking them out again to pay for an emergency isn’t going to help with that. But what you can do is pull from your emergency fund now, make the contribution before the deadline, and then adjust your budget so that — barring calamity — over the next few months you build your emergency fund back up again. Meanwhile, you know that if things get really bad, that money is still available to you.

Where to open your first Roth IRA

If you’re pulling from your emergency savings, you probably want to keep your Roth in something stable for a while — that is, not the stock market. A CD is also not ideal, because of early-withdrawal penalties. So you’d want either a money-market or savings account.

• Do you already have a credit union account somewhere? Check to see if their Roth IRAs have a savings account option. If not, I can recommend Alliant Credit Union: I have an account there, and they offer a no-fee Roth IRA savings account currently earning 1.00% APR — an excellent rate in today’s environment. If you belong to a local PTA, you’re eligible for membership.
• No kids? Well, anyone can open a Roth IRA savings account at Ally Bank. Their rates fluctuate minutely but tend to be reasonably high — as of this writing, 0.84% APR. They are a for-profit corporation, but in my experience — I’ve had accounts there for several years now — their business model is much more customer-friendly than, say, Chase or Bank of America.
• If you have at least $3000 to contribute right now and would like to make investing easy later, I suggest opening an account with Vanguard. Like credit unions, Vanguard is non-profit and shareholder-owned — in other words, ‘not out to screw you’. Their IRA is free if you accept electronic statements. You can leave your contribution in the base money-market fund until you’re ready to invest in something more volatile.

If you have an account with some other institution that you like, by all means use that — I just don’t want anyone to get bogged down trying to choose among dozens of banking and brokerage options.

Opening a Roth IRA is easy — it usually takes about ten minutes online. You’ve got seventeen days; don’t miss the boat!

But there’s one thing that I think cannot be said often enough, and that’s “Becoming debt-free is worth the effort.”

My partner Jak wrote last week on his personal blog about his (successful) attempt this past year to lose 35 pounds. This was after several years of exercise regimens and category-based diets (low-fat, low-carb) had failed to produce the desired results.

What made this effort different was simply that he started counting calories every day and staying, mostly, under a predefined limit. He became minutely aware of what he was putting into his mouth every day, and then he started to control what he ate.

In our conversations around the subject I’ve been struck by how attached Jak has become to both that awareness and that control. Now when he talks about tracking his food he becomes intensely animated. The very action that he most resisted is now a central source of both security and pride.

I’m exactly the same way about our personal finances.

The knowledge of debt hangs over you like a stygian storm cloud that threatens to break and soak you to the bone at any moment. It’s gigantic and looming and entirely beyond your control. You might try to put your head down and focus only on the ground in front of you, but you can’t see much because somewhere above, that ink-black umbra is eating up your light.

When I was carrying debt, I avoided thinking about money as much as possible. I didn’t keep track of how much was coming in or going out. I dreaded paying bills and often put them off until the very last minute. Occasionally I put them out of my mind so effectively that I missed the due date and incurred a late fee.

Would you believe that now not only do I pay bills the day they come in the door (or the email inbox), but I enjoy doing it? It’s true. I haven’t been charged a late fee for anything in years. I keep a spreadsheet of our total financial picture and update it once a week — not because I need to, but because I like it.

Emotionally, paying off your debt is almost magical — like pulling that storm cloud out of the sky and holding it, tiny and damp, in the palm of your hand. You feel powerful, and safe, and free. Everything in your life becomes brighter and easier once it’s gone.

First, awareness. Then, control.

Getting started can be hard. But I promise you it’s worth it.

So what did we do with all that ‘extra’ money?

Well, first of all, about $6000 went to pay additional income tax, now that we no longer qualified for the mortgage deduction. (If you’re drawing wages when you decide to default, one of the first things you should do is recalculate your withholding to avoid a nasty tax surprise later.)

We also spent $1875 to take the kids to the Smithsonian in Washington DC for our first family vacation in four years.

But mostly? We saved. And saved, and saved:

• we set aside extra money for moving: truck rental expense, first and last month’s rent, plus a generous security deposit;
• we bolstered our emergency fund, which had seen attrition over the preceding low-income years due to a car accident, a death in the family, and (ironically) major house expenses;
• and we contributed to tax-advantaged retirement and health savings accounts.

That’s it. No major new purchases. No minor new purchases.

Anytime you experience a sharp increase in available dollars — whether from increased income or a drop in expenses — the biggest danger is lifestyle inflation. You know, where you start thinking ‘Hey, now that we’ve got more money, I can afford to buy that …’

The problem with a mortgage payment that ate two-thirds of our income wasn’t the reduced lifestyle; we’d found ways to cut back on spending that actually increased our overall happiness. What was slowly destroying us was the need to gut our emergency fund and retirement savings. We were trading our house and our good credit scores to get them back. If we started spending more, it would defeat the whole purpose.

Money? What money?

Alert readers will have noticed that our budget contains a line item for ‘Rent or Mortgage’. That’s because I calculated our future rent right into our monthly expenses from the beginning, even though we aren’t actually paying it yet. As far as our spending was concerned, that money didn’t even exist.

And yes, that means that for more than a year, we have been saving around 65% of our income.

If you’ve been paying your mortgage but have determined that default is your best option (and it won’t be, for everyone), find out what you will need to pay in rent post-foreclosure. Craigslist is good for this. I recommend estimating a little on the high side, as rents are generally rising.

Then sock that money away. Hide it from yourself if you have to. Do a little Jedi hand wave: These aren’t the dollars you are looking for.

Whatever you do, do not succumb to lifestyle creep. You need a sustainable way of life that does not depend on the inherently temporary condition of free housing.

Going through a foreclosure and a move will be chaotic and difficult, no matter how thoroughly we’ve prepared. But I won’t have to worry about whether we can make ends meet — because we’ve already been doing it.

But there are also habits that occur much more rarely — patterns of unquestioning behavior that we engage in only under specific, occasional circumstances. I had a facepalm moment recently when I realized that I’d been spending money unnecessarily every year for most of a decade, all because I’d developed a habit.

I’m a big believer in comparison shopping. I compare prices every week when I shop for groceries, and whenever I want to make a one-time purchase. But purchases that repeat every six months or a year? I find it much more difficult to remember to question those.

Tax preparation software is something you only have to worry about once a year. I comparison-shopped for tax software at one point, probably, oh, eight or ten years ago. At that point, I determined that our best and cheapest option was purchasing TurboTax from Costco.

And every year since, I’ve picked up a copy of TurboTax at Costco. Some years I did some thinking about which version of TurboTax to buy from Costco, but otherwise I was pretty much running on automatic.

This past January my friend Stacy was visiting, and at one point she asked me what I used for tax software. (Because yes, we personal finance geeks do sit around idly chatting about taxes.) “I always buy TurboTax from Costco,” I replied … and suddenly realized how robotic I had been.

In addition, our new budget was giving me an incentive to reconsider every expense. Tax preparation software does not qualify as a Need, so it comes out of our personal allotment, about which Jak and I are both a little hoardish. Rather than spend my personal stash, I was ready to consider doing my taxes the old fashioned way, with paper forms, a pen, and a calculator.

Happily, I was not reduced to such antiquated extremes, because it turned out that there’s a perfectly good piece of free software that would do everything I wanted.

TaxACT works on a ‘freemium’ model, which means that you get the base product for free, and then they try to upsell you on extra bells and whistles. If you don’t like web apps there’s a downloadable option, also free.

All of the Free File companies except TaxACT limit their free software to people below a certain income limit, and some require you to live in a state that levies income tax, presumably so they can try to upsell you on state tax prep. I tested several of the other Free File options, including TurboTax and H&R Block, but TaxACT remained my favorite.

Apparently TaxACT has been around for years now, and both Jak and I could have been calculating our personal taxes for free all that time, which is where the facepalm comes in. It’s a good lesson that I need to keep checking those once- or twice-a-year habitual purchases to make sure that a better deal hasn’t come along in the meantime. Even when something’s free, there might be a new alternative with more features or better design.

With that in mind, I did just price-check our car insurance when it came up for renewal. Didn’t find any savings there this time, but I’ll compare again in six months anyway. Maybe I can even make a habit of it.

For background, you should read my earlier post about buying our current house in 2006, around a year before the Seattle housing market peaked and began dropping.

By January 2011, the numbers were much worse:

• We’d spent $179k on regular mortgage payments
• We’d paid approximately $18k additional against principal on our second loan
• We’d spent about $51k on house repairs and remodeling

Total cost to date: $248k

Amount still owed on our two original mortgages: $363k

Value of house (Zillow estimate): $316k

So after putting nearly a quarter of a million dollars into this house, we were still $47k underwater on the loans.

And still sinking.

As of January 2011, it had been a little over two years since I’d lost my last full-time job, and another had not been forthcoming. I’d tried to bootstrap a software company, but had lost both my partners to economic necesssity. I’d gotten a little freelance work, but nothing long-term or steady.

Meanwhile, Jak had been employed more often than not, but with fluctuating wages and occasional months between contracts.

For the last 27 months, our income averaged roughly half what it had been when we bought the house. For those 27 months, our mortgage payments ate 65% of our after-tax income, or 56% of our gross income.

If you look at those numbers and think, ‘Hey, wouldn’t they qualify for that federal Making Home Affordable program?’ then yes, you would be correct.

The MHA program was supposed to help distressed homeowners stay in their homes by lowering interest rates and reducing monthly payments. Anyone who had bought a house before 2009, who was in financial hardship (including unemployment), and whose mortgage payment exceeded 31% of their monthly gross income was supposed to be eligible. But despite it being a government-created program, execution was voluntary and left entirely in the hands of the big-bank servicers. In our case, this meant Bank of America.

I spent a couple of weeks in 2009 putting together the considerable paperwork to apply. After a few months of radio silence, I started calling Bank of America. I spent hours upon hours on hold and being shuffled from person to person, each of whom told me something different. After months of trying to get someone to move us forward, we finally received a notice by mail that they didn’t have current paperwork (um, maybe because you’ve sat on it for a solid year?!?) and therefore our application was denied.

Swallowing my frustration, I started the application all over again. And once again, we got nowhere.

We were far from alone. ‘Lost documents’ and other avoidance tactics have been the servicers’ primary response to modification requests from day one.

The problem appears to be that the monetary incentive the government offers servicers pales in comparison to the fee payments those servicers get from the actual mortgage holders once a loan goes into default.

Bank of America didn’t want to modify our loans; they wanted us to default. Because they make more money that way.

I was starting to feel like the world’s biggest sucker.

I had been unemployed for most of the last two years, but I had not been idle. Among other things, I was on a rampant self-education crusade.

I had realized that, like most Americans, we had been making major life decisions based on information and advice that was simplistic at best and fallacious at worst. You know, pearls of wisdom like ‘mortgage debt is good debt’.

Looking at the state of our jobs, investments, and housing in early 2009, it was clear we’d paid an enormous price. I was determined that I would never be so naive again.

So I started studying. I devoured several nonfiction books a week, most weeks. (Let me say once again how much I love my public library.) Many of them were on economics and economic history. I learned — and am still learning — a lot of truly surprising things.

Eventually I had done enough research on the origin of the real estate bubble and the nature of the crash to have developed a sort of slow bitter rage at the financial industry. The unfettered greed of a relatively small number of people had devastated millions of lives.

On a more personal front, it was clear that the banks had no incentive to make any changes that would help us at all. ‘Squeeze until there’s nothing left, then toss ’em away and move on to the next poor sucker’ seemed to be the plan.

Although our emergency fund — once as high as $40,000 — was sorely depleted, it was not yet completely empty. The problem was that some major house repairs were overdue, and the only way we could pay for them was to drain what savings we had left.

In January 2011 I sat down with a spreadsheet and ran some complicated projections. I came to the sickening conclusion that even if the real estate market improved much faster than the data suggested it would, by the time our youngest graduated high school in six years we would still be deeply underwater on the house.

We’d be 52 and 47 years old, stuck in a totally inappropriate house that we didn’t want, unable to sell or move. We’d have almost nothing in savings, because we’d been using our retirement money to make payments on the house. We’d have 19 years left on one crippling mortgage and — worse — the balloon payment on our 15-year second mortgage would be just four years away.

And that was the optimistic path, assuming that at least one of us could remain fully employed at all times and that we didn’t incur any major unforeseen expenses. Having spent the last of our emergency savings just to keep the house from falling apart, we’d be one calamity away from total bankruptcy.

Even then, if I had believed that we were in a ‘typical recession’ — a couple of tight years followed by an employment resurgence — we might have just kept on as we were, hoping that things would get better before we sank completely. But the more historical perspective I achieved, the more convinced I became that something fundamental had broken, and that our national economy would never again be the same.

It’s difficult to conceive that all twenty-plus years of my personal economic experience — from the time as a teenager that I first started paying vague attention to the outside world, through my entire adult life to date — might be part of a bizarre thirty-year aberration. But everything I’ve learned about macroeconomics and history suggests exactly that.

I no longer believed we — as a nation, or as individuals — would ever be ‘bouncing back’ to the way things were pre-2008.

So, after two and a quarter years of holding it together on half our original income, we stopped paying our mortgages.

I know a lot of people struggle with the ethics of mortgage default. It’s been considered a Very Bad Thing in our culture for longer than most people have been alive.

And it’s something that just a few years earlier I could not have imagined doing. If we’d been generally inclined to run up a bunch of debt and walk away from it, we would have taken the bankruptcy option on our forty thousand dollars of credit card debt back in 2005. Instead we sucked it up, made the necessary sacrifices, and paid it all off.

But by January 2011, I had an entirely different perspective. First of all, this wasn’t just going to handicap us for a few years; this was going to cripple us for decades at least, and probably the rest of our lives. We had done absolutely nothing to deserve that fate.

Second, although we’d played by the rules, the banks had not even pretended to act in good faith. Corporations do not operate under a moral code, and will relentlessly pursue maximum profit at the expense of individuals who do.

No one was going to look out for us … except us.

And the idea that corporations are allowed to act exclusively in their own self-interest, but individuals who do the same are morally reprehensible? Just doesn’t hold water.

Before we missed that first payment in February 2011, I spent perhaps a hundred hours researching every aspect of mortgage default. I double- and triple-checked every legality to make sure that this would in fact be our best financial path, and could not leave us in an even worse situation.

It’s not entirely without risk. But then, neither was the path we were on.

Over a year later, my economic expectations are still proving accurate. Zillow’s estimate of our property value has dropped another $35k in the last 13 months. Unemployment figures are still high, and our personal job situation hasn’t improved.

More than ever, I believe we’re doing the right thing.

In future posts, I intend to detail my research into the legal and practical aspects of mortgage default. I’ll talk about the emotional repercussions, and the way that rethinking this one basic concept has led us to make even more radical, but positive, changes in our lives. I’ll talk about our experiences over the last year of default, and — when we get there — describe the process of foreclosure.

In the meantime, if you have questions, I’d love to hear them.

When I did start saving, I followed these four standard pieces of personal finance advice:

• For long-term growth, put most of your money into stocks, balanced by a small percentage of bonds
• Keep costs down with ETFs when available, and the lowest-cost mutual funds when ETFs are not an option
• Diversify by owning broad swaths of the stock market, such as a total stock market fund or a S&P 500 index fund
• Buy and hold rather than trying to time the market; rebalance to percentage allocations

Now, in the aftermath of the second-worst stock market crash in American history, I still subscribe to the last three principles. However, I’ve completely rejected the first one. I no longer keep a majority of my investments in the stock market.

In fact, I no longer keep even half of our joint retirement savings in stocks.

Sacrilege, right?

Almost everyone loves stocks for long-term investing. Robert Brokamp, writer at the Motley Fool and Get Rich Slowly, goes so far as to say, “There’s really only one place your retirement savings should go”:

The inexorable pressure on the stock market is upward. The biggest bang for our buck will be found in stocks. … Stocks beat bonds for 90% of the rolling 10-year periods, and essentially 100% of the rolling 30-year periods.

He admits, but downplays, the fact that “from 2000 to 2002 many people lost more than half their life savings in the market”.

Well, in 2000 times were tough all right, but I didn’t have any investments. I had credit card debt instead. So 2008 was really the point at which I discovered that I was not okay with losing half — or even a third or a fifth — of my hard-won savings.

The truly difficult part, however, was finding an alternative. Bonds, as pretty much everyone points out, do worse on average than stocks. Cash is a losing proposition at this point, as even top-rate 5-year CDs can’t keep up with inflation.

What’s a risk-averse girl to do?

Eventually, I ran across an option that made sense to me. It’s called the ‘Permanent Portfolio’ and mercifully, it also happens to be simple.

Take one-fourth of your savings and put it into each of the following:

• total stock market
• long-term Treasury bonds
• gold bullion
• cash

The basic idea is that no matter what’s going on with the economy — prosperity, recession, inflation, deflation — some portion of your money is going to be doing well enough to offset the losses in the other part.

In fact, out of the last forty years, the PP has lost money only twice, with the largest loss being less than 4%. (The PP has only been a viable strategy since 1972, after the US went off the gold standard.) By contrast, the stock market has had ten out of forty losing years, including six years of losses in the double digits.

The compound annual growth rate of the PP hovers around 9.7% year-over-year. That’s very close to the historical average return of the stock market. (For a detailed breakdown, see Craig Rowland’s post on the PP’s historical returns.)

I’ll come back to the mechanics of the PP another time, but for now let me point you to JD Roth’s excellent write-up from April of 2009. He liked the Permanent Portfolio for most of the same reasons I do.

Investopedia offers this on the subject:

“Today, many analysts agree that Browne’s permanent portfolio relied too heavily on metals and T-bills and underestimated the growth potential of equities and bonds.”

To which I say: if so, ‘many analysts’ are missing the point.

The point is not to outperform the stock market every year. In fact, if the stock market is doing spectacularly well, the PP is guaranteed to significantly underperform it.

But here’s the flip side: when the total stock market is doing spectacularly poorly, the PP will chug right along, hardly missing a beat. Next to the PP, any variation of the standard stock-bond dichotomy looks about as stable as a two-legged cow.

At the end of 2008, when our household suddenly lost 80% of our income, our already-insufficient pool of retirement savings was also hemorrhaging tens of thousands of dollars. If we’d been allocated into the PP at that time, our retirement fund would have remained steady, even seen incremental growth of 1% or so.

That kind of stability and controlled growth is worth a lot to me. It’s worth missing a chunk of the upside of a bull market sprint.

Is it worth it to you? Let’s find out.

Scenario A

You have $100,000 invested. Your gains for the year were modest $7,500. But everyone else you know is flying high with a 31% return. You thought you were being smart to play it safe, but now you’re kicking yourself for having missed out on a $23,500 gain.

Scenario B

You have $100,000 invested — or you did, before the nosedive which cost you $36,700 in a single year. You have a lot of company, as almost everyone else suffered huge losses too. But not your best friend, whose portfolio had a tiny uptick of 1.9% for the same period. If you’d only listened to him last year you wouldn’t have lost a thing.

Which of those two situations is more stomach-clenching for you?

Scenario A is the downside to the Permanent Portfolio — that’s what actually happened to PP investors in 1997, as compared to the Total Stock Market.

For me personally, Scenario B is worse. That’s what a Total Stock Market investor experienced in 2008.

If you’d happily take A to avoid B, you should consider moving into the Permanent Portfolio.

My educated suspicion is that most people would choose A over B, because of the psychological phenomenon known to behavioral economists as loss aversion. In a nutshell, the prospect of losing something is much more painful than the prospect of failing to gain the exact same thing.

On the other hand, sticking with the PP means actively avoiding herd behavior, which is not an easy task for most humans. We’re wired to feel better when we do the same things other people are doing.

And most investors are not limiting their stock market exposure to 25%.

Here’s the other factor: I no longer believe in the inevitability of stock market growth, at least not over periods corresponding to a single human lifetime.

That one’s life savings should be invested primarily in stocks, with a small percentage of bonds for ballast, is one of those bits of common financial wisdom, like ‘mortgage debt is good debt’, which at first I just accepted as given.

Even in the midst of contradicting evidence, I didn’t question the precept. Events like the crash of 2000-2002 were always characterized as minor speed bumps on the highway to certain riches.

But I now believe that the idea of the ‘inexorable upward pressure’ of the stock market will eventually be considered as naive and foolish as the idea that ‘housing prices always rise’.

The details are for another time, but over the last three years I’ve studied enough of both history and global economics to have concluded that the growth period in the United States from 1975 to 2000 was both artificial and unsustainable, and that even the larger run-up going back to the end of World War II was a generally unrepeatable one-time historical event. In the words of Yale economist Robert Shiller, “This was the most economically successful century for the most economically successful nation of all time. It will not necessarily repeat itself.”

Worse, I have become convinced that much of the value supposedly created in the last quarter of the twentieth century was actually borrowed from the future, and that what we’ve seen over the last few years is, in a way, the very first of those debts coming due.

There will be more losses ahead. A lot more, probably spread out over decades.

Along the way, though, US stocks will still have some banner years. After a bumpy and ultimately lackadaisical 2011, the market has leapt out of the gate in early 2012. It’s entirely possible that this will be one of the years in which a simple total-market index fund leaves my portfolio in the dust.

I’m okay with that.

As PP enthusiast Craig Rowland has said, “Everyone thinks their horse is the one that’s going to win the race. I don’t want to win the race. I just want to finish without having my horse break a leg and need to be put down for good.”