I’ve used the Mythbusters picture in a previous post, so allow me to present a picture of Kari Byron this time around, the sexiest of all the Mythbusters. Sorry Adam Savage.
There are all sorts of financial myths out there. Unfortunately for us, there isn’t an entertaining show to debunk them all while showing gratuitous explosions. You’ll just have to make due with my half-hearted jokes and full-hearted farting. The smells that come from my ass have been known to kill flowers.
On that awkward note, let’s move to the subject du jour. (Ooh, French.) That subject is the lack of understanding of certain financial concepts, even though they’re relatively simple and the underlying topic is relatively understood. This lack of understanding stems from a few things, including not understanding finance of business, letting emotions get in the way of logic, and just being kind of a dumb-dumb. Bonus points to the first person who retorts with “no, you’re a dumb-dumb” in the comments.
Don’t sweat it if you’ve bought into some of these financial myths. Like I said, they’re common, and the important part is to never make them again. Let’s see what they are.
1. Saving For Something While You Still Have Debt
If I had a nickel for every person who has made a version of the following statement, I’d have enough to buy the Pittsburgh Pirates.
“I didn’t take out any additional debt to pay for my vacation, so it’s responsible.”
Allow me to present a very simple net worth statement of most people who make that statement.
Assets: $5,000 – cash
Liabilities $15,000 – student loans
On the surface, they look like they’re in good shape. They’ve got the cash to pay for the vacation (oh lord, it’s always a vacation) and they’re not taking on additional debt to do so. What’s the problem?
The problem is that cash should really be used to pay down the student loans. If it was used responsibly, our imaginary person’s net worth would be down to -$10,000. Instead, the $5,000 gets spent and the student loans are still at -$15,000. In essence, all you’re doing is borrowing to go on vacation.
Pretty much any debt besides a mortgage can be paid off early with only benefits to the borrower. By not paying down the debt with the available cash, you’re paying extra interest. And borrowing to consume is going to destroy wealth every time, no matter how cultured your trip to Southeast Asia makes you.
And then, in a delightful twist, the same people who do stuff like that will loudly proclaim their disapproval of people financing their vacations. The irony amuses me. I know my opinion on this is more unpopular than herpes at an orgy, but you shouldn’t be going on vacation when you have a negative net worth.
2. I’m Debt Free Except…
How often do you hear people proclaim “I’m debt free?! Well, except my student loans/car loan/mortgage/that loan I took to finance my personality transplant.”
This one is more of a pet peeve of mine and not so much a myth, but screw it. Let’s go with it.
Yes, rates are low, and yes, you might have gotten a smokin’ deal on your car loan, but that still represents money you have to pay back. And in most cases, it represents a crapload of money you have to pay back. People basically exclude big loans like that because they’re huge commitments, and thinking about being in debt for another decade or so is the origination of the frowny face emoticon.
But by constantly excluding it in your mental accounting, you’re minimizing the loan’s impact on your finances. And chances are, a big loan has the biggest impact on your finances. I pay $1,500 a month on my mortgage. Don’t you think I’d rather spend that $1,500 on Spice Girls memorabilia? I’m busting my ass paying that bad boy down.
3. I’m in no hurry to repay debt. My interest rate is only ‘x’.
There are two things wrong with this financial myth:
a) Pissing away money that would normally go towards paying down debt is dumb, no matter what the interest rate is.
b) Generally, the rate you’re paying on cheap debt is (AAA rated company debt rate) + (1-2%). It doesn’t matter if your mortgage is at 3% or 7%, all you’re paying is a small premium over what you can get as an investor on the other side of that transaction. You will always pay that because there are 1.8 million banks competing for your business. (Or you’re a dumbass who doesn’t take time to shop around.)
Rather than looking at the interest rate, look at the difference between the interest rate and the risk free return. You will always get a premium return paying down your debt over investing in a risk free asset.
Yeah, I realize leverage exists, and fell free to ignore some of this if you’re being smart with your leverage. And no, buying a Toronto condo is not being smart with leverage.
4. 0% Financing
Interest free financing doesn’t exist for cars. You get either 0% financing or a unspecified amount of cash back. And these days, it’s more likely to be 0.9 or 1.9% financing.
If you buy a $30,000 car and have the option of $1,500 cash back or 0% financing, it’s pretty obvious it’s not being financed at 0%. It’s just being added onto the price of the car.
As for those “don’t pay for a year” store sales, those can sometimes offer actual true 0% financing. Providing you pay it off in the year provided and there’s no application fee, you’re off to enjoy your 0%, thanks to some credit card taking the risk that you’ll take forever to pay the thing off. Considering how I wouldn’t spend that much money on crap at a store anyway, I’d probably just hand over the cash and be done with it. Collecting the interest spread on a couple thousand bucks for a year just doesn’t excite me, especially considering the rewards points I’d get on a credit card if I just used it.
There are probably more financial myths out there, but my Mommy is taking away my laptop because I spread chocolate chip cookie dough all over my naked body and then invited the cat over to eat it. Feel free to add some in the comments.