One of the fun things about the personal finance community is we all have different life experiences and unique ways of dealing with money. This means people can look at seemingly identical problems in very different ways.
Look at me. I didn’t go to college, choosing to work instead. Even though I started–and potentially stayed–at a lower salary than many of my peers, I got ahead because I used my income to buy income producing assets.
I borrowed heavily to buy those assets, a move that worked out pretty well for me in the long run. This led me to have the attitude that for many young people, going off to university isn’t some magic formula that’ll lead to riches. I secured a decent future by taking a different path.
And yet, somebody can have a life experience very similar to mine and draw very different conclusions. Maybe they weren’t able to get promoted or get a non-terrible job without going to school. Maybe they borrowed to buy an overvalued Las Vegas house in 2005. Even though they did the same thing I did, life may not have worked out so well for them.
In other words, people can have success in life even if they do things many of us would think are wrong.
But at the same time, I don’t doubt some of these decisions are making us poorer. Just because my life turned out okay after getting a grocery store job when I was 18 doesn’t mean that decision was necessarily smart. Maybe I did well despite doing that, not because of it.
This logic is a big reason why I think college grads do better financially, by the way. College doesn’t make them earn more. Ambition and intelligence make them earn more. People who are intelligent and ambitious end up going to college.
This has all been a long segue for a list of the worst financial decisions you can make. Again, making these decisions won’t necessarily put you in the poorhouse, but that doesn’t make them smart.
Understand? Good. Now let’s make fun of some dumb financial decisions.
Quitting your job (especially to travel)
But Nelson. Didn’t you quit your job and move to South Korea for a year?
Well, yeah. But I was smart about it, securing a job that let me earn far more than what I spent. I also did other cost-saving moves like eating a metric ass-load of ramen and squatting somewhat illegally in Vanessa’s apartment. It was a little cramped, in hindsight, but hey. That’s all part of the experience or something.
Compare that to the average person who has $20,000 saved up and dreams to travel the world. They spend every dime they have on this adventure, ignoring massive factors like opportunity costs and compound interest.
Say instead of taking that trip, the $20k was invested for 40 years at 8%. Instead of costing $20,000, this vacation now comes at a cost of $434,490. Even after inflation, that’s a lot more than $20,000.
There’s also the opportunity cost of missing work. That vacation doesn’t just cost $20,000. It costs $20,000 PLUS what someone would have earned.
There’s merit to quitting your job to try a new, potentially more lucrative career. There’s even merit in quitting a job for a mental health break. There’s very little merit in quitting a job to travel.
Financing said trip
Borrowing to buy assets is a good idea. Borrowing to increase your earnings potential (i.e. student loans) is usually a good idea. Borrowing to buy stuff is a terrible idea.
As a private lender, I see this a lot. Many of the mortgages I do exist because people are trying to consolidate credit card bills into something much more manageable. Wrapping $20,000 of credit card debt into an 8% mortgage makes more sense than continuing to pay 18.9%.
But even at 8%, it’s still silly to buy stuff. Say you financed a vacation (I harp on this because it happens far more than you’d think) for $5,000 paying off $200 per month. It’s still going to cost you $488 in interest at that pretty reasonable rate.
At 18%? Glad you asked. The cumulative interest paid on that loan would be $1,313.97.
Compound interest is incredibly powerful. When you finance stupid stuff, somebody is getting rich off your hard work. Don’t let them do that. I don’t care how unforgettable this “experience” might be.
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Buying a house (without doing your homework first)
Many folks are choosing to rent today, citing advantages of it costing less than buying, and it’s much easier to move if you’re renting.
Mortgage payout penalties are huge. I’ve heard of people paying $10,000 to get out of their mortgages early. That’s insane. I don’t care if you did make money on the place, having $10,000 is better than not having $10,000. This formula proves it.
Giving up $10,000 = A moronic move
I’ve met so many people who do this. “Oh, we’ll buy and hold for a few years, and then move onto something big.” NO! THAT’S DUMB!
Even if you’re smart about it and time the sale to minimize mortgage penalties, it still costs like 5% of the value of your house to sell it. Sure, real estate is stupid for charging that much, but you’re still probably going to have to pay.
There’s definitely cases to be made for buying real estate, like I said the other day. It tends to be a good long-term move. It is not a short-term asset. Yet so many people treat it as such.
Speaking of real estate
If you really think your best investment is your house, you’re doing life wrong.
That doesn’t mean someone can’t get rich buying real estate. There’s a lot to like buying rental properties, assuming you actually live in a place with decent cap rates. The ability to borrow to buy these properties is a huge plus as well.
That’s vastly different than buying a house and living in it, no matter what the market does. You have to pay to own that thing while not collecting a nickel of income. Buying a house to live in is consuming. It can be a valuable form of consuming, but that’s still what it is at the end of the day.
And trust me. Buying a house in most Canadian markets isn’t going to be as sweet in the next decade as it was for the last decade.
Okay, let’s wrap it up
Avoiding a lot of these pitfalls comes down to one thing–controlling our emotions. I’m convinced the people who do the most with the least when it comes to finance are those who treat their finances like a business. They buy the things they need and don’t bother with many wants.
Ultimately, that’s what it comes down to. Master your emotions and make the logical decision. Once you’ve got that under control, I’d say 95% of the work is done. Implementing is the easy part.