5 Popular (and stupid) financial moves
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Here’s a few financial decisions people make all of the time that seem smart in the beginning but end up looking stupid in the end.
1. Borrow from your retirement fund
This is stupid move number one. When finances get tight, we should be looking for ways to cut spending instead of cashing out a 401K.
Think of it like this. You have 2 buckets full of water. One of them (your monthly finances) gets a hole in it. Instead of trying to patch up the hole, you pour water from the other bucket (retirement fund) to make sure the first bucket stays full. That would be an obvious example of a person who is unintelligent, but yet we often do the same thing with our finances.
2. Buy 10 and get 1 free
Have you ever gone into a store with intention of buying one item. You see a sale which convinces you to buy more than you originally intended. Sometimes this can actually save you money if you know for sure you will use all of them, but if you don’t, then you are just wasting money. This also goes for stores like Sam’s Club, Costco, etc. You can save by buying some items in bulk but if it goes bad after a set time and you are single with no kids, you are probably just wasting your money.
3. Use a home equity loan to pay off debt.
Sure, 6% looks better than 15% and over 30 years your payments will be less, but unless you get rid of the credit cards entirely, you are just asking to be right back in the same place. Most people end up racking up the credit card debt within a few years. It sounded like a nice plan though.
4. Buy the most expensive house you can afford
I know… it’s an “investment” but if you can’t afford the investment, it’s a liability. And everyone is out to get you to make this mistake. Your real estate agent wants a bigger commission. Your lender wants you to be more in debt to make the most off of you in interest. Even your friends and family may suggest the nicer home. Besides, it’s a tax write-off. In the end, they won’t be the one left with the bill.
My suggestion is to buy the cheapest house that you feel you can survive in. My wife and I are looking to downsizing from a highly upgraded 3 bedroom house to a 2 bedroom condo. We have no kids yet and don’t really need 3 bedrooms. Technically, we’d be OK in a 1 bedroom, but 1 bedroom houses are almost impossible to find in this town. Eventually, when we have kids, we will need a bigger house. When we do, we will buy it. Don’t live at a level you expect to be at in 5 years. Live at (or rather below) the level you are at now. Then when the economy tanks, you won’t be facing foreclosure like so many people are right now.
5. My brother invested in it
Just because your friend or family member wants to invest in something doesn’t mean you need to. Look at the fruit of their life. Are they usually struggling or do they consistently have their finances together? You need to get financial advice from people that have proven themselves with finances. This applies to all areas of life. I’ve seen people get marriage counseling from someone who was going through a divorce. If they aren’t walking the walk, don’t listen to their talk.
4 Comments on this post
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traineeinvestor said:
Not sure if I totally agree with you on the house. Given the very high transaction costs associated with buying and selling a house, my preference would be to buy the house I think I will need in the longer term now rather than buy a smaller house in the expectation of trading up later.
It ended up costing us quite a lot in stamp duty, fit out expenses, agency and moving costs when we had to trade up to accomodate our second child - more than the difference in interest on the bigger mortgage.
Also, in a rising market, the bigger house will appreciate more than the smaller house meaning that buying the smaller house now will result in the purchase price (and associated mortgage) on the future purchase of the larger house being higher than would otherwise be the case.
Of course, in a declining market the reverse holds true.
The above comes with the caveat that the outgoings should be comfortably affordable.
August 9th, 2008 at 3:51 am -
Walt said:
Using a home equity loan to pay off debt is NOT a stupid financial move.
Getting the debt in the first place is stupid, and if you re-accumulate debt after using a home equity loan, that’s also pretty dumb.
But lowering your interest rate (and getting a tax write-off) on debt that you’ve already accumulated is the exact opposite of stupid.
August 9th, 2008 at 3:59 am -
CJ said:
Traineeinvestor,
I understand what you are saying here, however, when you look at the current state of foreclosures in the United States, this totally backs up my theory. When people buy exactly up unto the point that they can afford, it’s just asking for trouble. Sure you can handle it when things are great, but when things are down, you may be over your head in mortgage payments and are forced to sell (which is tough to do right now).If you instead, took the excess money and invested it, it’s likely that you will get a better return in the long run anyways. If the economy tanks, you can usually handle the low house payment and survive. Sure you would lose money in the stock market, but you wouldn’t need that money to survive. You do need to pay your house payment to survive (or at least have a roof over your head).
And I think the tax write-off excuse is a cop out. You are either paying the money to the bank or to Uncle Sam. Either way it goes out of your wallet. At least with a smaller house, you have a safer out in case of bad times.
I suggest you read the book “The Millionaire Next Door”, It talks a lot about people with medium to high incomes in very modest houses with extremely high net worth. They could survive for many years without pay if they needed to. I’d much rather be in that state if I lost my job than facing possible foreclosure or a forced sale. It also talks about how they usually have their mortgage paid off as soon as possible and yet still pay less in taxes than most people with big houses and who spend a lot of money. It’s a great book. I’m on my second time through it right now.
Walt,
I do agree completely that the math is good. The point I’m trying to make is that it’s a “quick fix” which doesn’t actually solve a problem. If you think that rolling over a higher interest credit card into a mortgage is going to fix anything, it’s a very dumb move. Now if you completely change your lifestyle, rip up your credit cards and focus on paying off debt, then I could see the advantage. Unfortunately most people don’t do that, and they end up with a higher mortgage AND credit card debt a few years down the road.But you also need to consider closing costs if you are rolling it over into a 30 year refinance. If you are looking at a $200,000 mortgage, it’s going to be around $2700 for closing costs according to the National Average. You may want to calculate how much in interest you will be paying before automatically going through a refinance.
If you have $30,000 in credit card debt and do not have the income to make extremely high payments to pay it down quickly, rolling it over into a mortgage may be a good idea. If you have $5000 in credit card debt, then it’s just a stupid move regardless.
A HELOC may be advantageous for lower interest and lower closing costs in either situation, but people often make the mistake here of paying the minimum interest only payment and therefore not gaining any ground on paying off debt. When you can take a $300 payment and turn it into a $150 payment, are you still going to try and pay $300? If not, then it’s a stupid move.
So, you need to make sure you make a lifestyle change before trying something like this or you end up worse off than you already are.
August 9th, 2008 at 1:02 pm
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