Avoiding Common Money Mistakes

Financial problems, like many medical problems, are best detected early (clean living doesn’t hurt, either). Here are the common personal financial problems I’ve seen in my work as a financial counselor:

• Not planning: Human beings were born to procrastinate. That’s why we have deadlines (like April 15) — and deadline extensions (need another six months to get that tax return done?). Unfortunately, you may have no explicit deadlines with your personal finances. You can allow your credit card debt to accumulate, or you can leave your savings sitting in lousy investments for years. You can pay higher taxes, leave gaps in your retirement and insurance coverage, and overpay for financial products. Of course, planning your finances isn’t as much fun as planning a vacation, but doing the former can help you take more of the latter.

• Overspending: Simple arithmetic helps you determine that savings is the difference between what you earn and what you spend (assuming that you’re not spending more than you’re earning!). To increase your savings, you either have to work more, increase your earning power through education or job advancement, get to know a wealthy family who wants to leave its fortune to you, or spend less. For most people, especially over the short-term, the thrifty approach is the key to building savings and wealth. Check out Chapter 3 for a primer on figuring out where your money goes; Chapter 6 gives advice for reducing your spending.

• Buying with consumer credit: Even with the benefit of today’s lower interest rates, carrying a balance month-to-month on your credit card or buying a car on credit means that even more of your future earnings are going to be earmarked for debt repayment. Buying on credit encourages you to spend more than you can really afford. Chapter 5 discusses debt and credit problems.

• Delaying saving for retirement: Most people say that they want to retire by their mid-60s or sooner. But in order to accomplish this goal, most people need to save a reasonable chunk (around 10 percent) of their incomes starting sooner rather than later. The longer you wait to start saving for retirement, the harder reaching your goal will be. And you’ll pay much more in taxes to boot if you don’t take advantage of the tax benefits of investing through particular retirement accounts.

• Falling prey to financial sales pitches: Great deals that can’t wait for a little reflection or a second opinion are often disasters waiting to happen. A sucker may be born every minute, but a slick salesperson is pitching something every second! Steer clear of people who pressure you to make decisions, promise you high investment returns, and lack the proper training and experience to help you.

• Not doing your homework: To get the best deal, shop around, read reviews, and get advice from objective third parties. You also need to check references and track records so that you don’t hire incompetent, self-serving, or fraudulent financial advisors. (For more on hiring financial planners, see Chapter 18.) But with all the different financial products available, making informed financial decisions has become an overwhelming task. I do a lot of the homework for you with the recommendations in this book. I also explain what additional research you need to do and how to do it.

• Making decisions based on emotion: You’re most vulnerable to making the wrong moves financially after a major life change (a job loss or divorce, for example) or when you feel pressure. Maybe your investments plunged in value. Or perhaps a recent divorce has you fearing that you won’t be able to afford to retire when you planned, so you pour thousands of dollars into some newfangled financial product. Take your time and keep your emotions out of the picture.

• Not separating the wheat from the chaff: In any field in which you’re not an expert, you run the danger of following the advice of someone you think is an expert but really isn’t. This book shows you how to separate the financial fluff from the financial facts. You are the person who is best able to manage your personal finances. Educate and trust yourself!

• Exposing yourself to catastrophic risk: You’re vulnerable if you and your family don’t have insurance to pay for financially devastating losses. People without a savings reserve and support network can end up homeless. Many people lack sufficient insurance coverage to replace their income. Don’t wait for a tragedy to strike to find out whether you have the right insurance coverage.

• Focusing too much on money: Placing too much emphasis on making and saving money can warp your perspective on what’s important in life. Money is not the first or even second priority in happy people’s lives. Your health, relationships with family and friends, career satisfaction, and fulfilling interests should be more important.

Remember

Money problems can be fixed over time with changes in your behavior. That’s what the rest of this book is all about.

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Measuring Your Financial Health

How financially healthy are you? When was the last time you took stock of your overall financial situation, including reviewing your spending, savings, future goals, and insurance? If you’re like most people, you’ve either never done this exercise or you did so a long time ago.

This chapter guides you through a financial physical to help you detect problems with your current financial health. But don’t dwell on your “problems.” View them for what they are — opportunities for improving your financial situation. In fact, the more areas for improvement you can identify, the greater the potential you may have to build real wealth and accomplish your financial and personal goals.

In This Chapter

• Determining assets, liabilities, and your (financial) net worth
• Requesting (and fixing) your credit reports
• Making sense of your credit score
• Understanding bad debt, good debt, and too much debt
• Calculating your rate of savings
• Assessing your investment and insurance know-how

Avoiding Common Money Mistakes
Determining Your Financial Net Worth
Examining Your Credit Score and Reports
Knowing the Difference between Bad Debt and Good Debt
Analyzing Your Savings
Evaluating Your Investment Knowledge
Assessing Your Insurance Savvy

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Developing good financial habits

After you understand the basic concepts and know where to buy the best financial products when you need them, you’ll soon see that managing personal finances well is not much more difficult than other things you do regularly, like tying your shoelaces and getting to work each day.

Regardless of your income, you can make your dollars stretch further if you practice good financial habits and avoid mistakes. In fact, the lower your income, the more important it is that you make the most of your income and savings (because you don’t have the luxury of falling back on your next fat paycheck to bail you out).

More and more industries are subject to global competition, so you need to be on your financial toes now more than ever. Job security is waning; layoffs and retraining for new jobs are increasing. Putting in 30 years for one company and retiring with the gold watch and lifetime pension are becoming as rare as never having problems with your computer.

Speaking of company pensions, odds are increasing that you work for an employer that has you save toward your own retirement instead of providing a pension for you. Not only do you need to save the money, you must also decide how to invest it. Later some posts can help you get a handle on investing in retirement accounts.

Personal finance involves much more than managing and investing money. It also includes making all the pieces of your financial life fit together; it means lifting yourself out of financial illiteracy. Like planning a vacation, managing your personal finances means forming a plan for making the best use of your limited time and dollars.

Intelligent personal financial strategies have little to do with your gender, ethnicity, or marital status. All people need to manage their finances wisely. Some aspects of financial management become more or less important at different points in your life, but for the most part, the principles remain the same for everyone.

Knowing the right answers isn’t enough. You have to practice good financial habits just as you practice other good habits, such as brushing your teeth. Don’t be overwhelmed. As you read this blog, make a short list of your financial marching orders and then start working away. Throughout this blog, I highlight ways you can overcome temptations and keep control of your money rather than let your emotions and money rule you. (I discuss common financial problems in later post.)

What you do with your money is a quite personal and confidential matter. In this blog, I try to provide guidance that can keep you in sound financial health. You don’t have to take it all — pick what works best for you and understand the pros and cons of your options. But from this day forward, please don’t make the easily avoidable mistakes or overlook the sound strategies that I discuss throughout this blog.

If you’re young, congratulations for being so forward thinking in realizing the immense value of investing in your personal financial education. You’ll reap the rewards for decades to come. But even if you’re not so young, you surely have many years to make the most of the money you currently have, the money you’re going to earn, and even the money you may inherit!

Throughout your journey, I hope to challenge and even change the way you think about money and about making important personal financial decisions — and sometimes even about the meaning of life. No, I’m not a philosopher, but I do know that money — for better but more often for worse — is connected to many other parts of our lives.

In the next post I'll write about How to - Measuring Your Financial Health

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Jumping over Real and Imaginary Hurdles to Financial Success

Perhaps you know that you should live within your means, buy and hold sound investments for the long term, and secure proper insurance coverage; however, you can’t bring yourself to do these things. Everyone knows how difficult it is to break habits that have been practiced for many years. The temptation to spend money lurks everywhere you turn. Ads show attractive and popular people enjoying the fruits of their labors — a new car, an exotic vacation, and a lavish home.

Maybe you felt deprived by your tightwad parents as a youngster, or maybe you’re bored with life and you like the adventure of buying new things. If only you could hit it big on one or two investments, you think, you could get rich quick and do what you really want with your life. As for disasters and catastrophes, well, those things happen to other people, not to you. Besides, you’ll probably have advance warning of pending problems, so you can prepare accordingly, right?

Your emotions and temptations can get the better of you. Certainly, part of successfully managing your finances involves coming to terms with your shortcomings and the consequences of your behaviors. If you don’t, you may end up enslaved to a dead-end job so you can keep feeding your spending addiction. Or you may spend more time with your investments than you do with your family and friends. Or unexpected events may leave you reeling financially; disasters and catastrophes can happen to anyone at any time.

Discovering what (or who) is holding you back

A variety of personal and emotional hurdles can get in the way of making the best financial moves. As I discuss earlier in this chapter, a lack of financial knowledge (which stems from a lack of personal financial education) can stand in the way of making good decisions.

But I’ve seen some people caught in the psychological trap of blaming something else for their financial problems. For example, some people believe that all adults’ problems can be traced back to childhood and how they were raised. Behaviors ranging from substance abuse and credit card addiction to sexual infidelity are supposedly caused by their roots.

I don’t want to disregard the negative impact particular backgrounds can have on some people’s tendency to make the wrong choices during their lives. Exploring your personal history can certainly yield clues to what makes you tick. That said, adults make choices and engage in behaviors that affect themselves as well as others. They shouldn’t blame their parents for their own inability to plan for their financial futures, live within their means, and make sound investments.

Some people also tend to blame their financial shortcomings on not earning more income. Such people believe that if only they earned more, their financial (and personal) problems would melt away.

My experience working and speaking with people from diverse economic backgrounds has taught me that achieving financial success — and more importantly, personal happiness — has virtually nothing to do with how much income a person makes but rather with what she makes of what she has. I know financially wealthy people who are emotionally poor even though they have all the material goods they want. Likewise, I know people who are quite happy, content, and emotionally wealthy even though they’re struggling financially.

Americans — even those who have not had an “easy” life — should be able to come up with numerous things to be happy about and grateful for: a family who loves them; friends who laugh at their stupid jokes; the freedom to catch a movie or play or to read a good book; a great singing voice, sense of humor, or a full head of hair.

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Understanding how undeserving investment gurus become popular

You may be wondering how Wade Cook became so popular despite the obvious flaws in his advice (see the preceding post for the goods on Cook). He promoted his seminars through infomercials and other advertising, including radio ads on respected news stations. The high stock market returns of the 1990s brought greed back into fashion. (My experience has been that you see more of this greed near market tops than you do near market bottoms.)

The attorneys general of numerous states sued Cook’s company and sought millions of dollars in consumer refunds. The suits alleged that the company lied about its investment track record (not a big surprise — this company claimed that you’d make 300 percent per year in stocks!).

Cook’s company settled the blizzard of state and Federal Trade Commission (FTC) lawsuits against his firm by agreeing to accurately disclose its trading record in future promotions and give refunds to customers who were misled by past inflated return claims. (That didn’t stop Cook, however, from getting into more legal hot water — he’s currently serving a seven-year prison term for failing to pay millions in personal income taxes.)

According to a news report by Bloomberg News, Cook’s firm disclosed that it lost a whopping 89 percent of its own money trading during 2000, a year in which the stock market fared well. As Deb Bortner, director of the Washington State Securities Division and president of the North American Securities Administrators Association, observed, “Either Wade is unable to follow his own system, which he claims is simple to follow, or the system doesn’t work.”

Remember

Don’t assume that someone with something to sell, who is getting good press and running lots of ads, will take care of you. That “guru” may just be good at press relations and self-promotion. Certainly, talk shows and the media at large can and do provide useful information on a variety of topics, but bad eggs sometimes turn up. These bad eggs may not always smell bad upfront. In fact, they may hoodwink people for years before finally being exposed. Please review Part V for the details on resources you can trust and those that could cause you to go bust!

Pandering to advertisers

Thousands of publications and media outlets — newspapers, magazines, Web sites, radio, TV, and so on — dole out personal financial advice and perspectives. Although many of these “service providers” collect revenue from subscribers, virtually all are dependent — in some cases, fully dependent (especially the Internet, radio, and TV) — on advertising dollars. Although advertising is a necessary part of capitalism, advertisers can taint and, in some cases, dictate the content of what you read, listen to, and view.

Be sure to consider how dependent a publication or media outlet is on advertising. I find that “free” publications, radio, and TV are the ones that most often create conflicts of interest by pandering to advertisers. (All three derive all their revenue from advertising.)

Much of what’s on the Internet is advertiser-driven, as well. Many of the investing sites on the Internet offer advice about individual stocks. Interestingly, such sites derive much of their revenue from online brokerage firms seeking to recruit customers who are foolish enough to believe that selecting their own stocks is the best way to invest.

As you read various publications, watch TV, or listen to the radio, note how consumer-oriented these media are. Do you get the feeling that they’re looking out for your interests? For example, if lots of auto manufacturers advertise, does the media outlet ever tell you how to save money when shopping for a car or the importance of buying a car within your means? Or are they primarily creating an advertiser-friendly broadcast or publication?

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Identifying Unreliable Sources of Information

Suze Orman

Most people are smart enough to realize that they’re not financial geniuses. So they set out to take control of their money matters by reading about personal finance or consulting a financial advisor. Because the pitfalls are numerous and the challenges significant when choosing an advisor, I will write later in this blog about the financial planning business and tell you what you need to know to avoid being fooled.

Reading is good. Reading is fundamental. But reading to find out how to manage your money can be dangerous if you’re a novice. Misinformation can come from popular and seemingly reliable information sources, as I explain in the following sections.

Recognizing fake financial gurus

Before you take financial advice from anyone, examine her background, including professional work experience and education credentials. This is true whether you’re getting advice from an advisor, writer, talk show host, or TV financial reporter.

If you can’t easily find such information, that’s usually a red flag. People with something to hide or a lack of something redeeming to say about themselves usually don’t promote their background.

Of course, just because someone seems to have a relatively impressive sounding background doesn’t mean that she has your best interests in mind or has honestly presented her qualifications. Forbes magazine journalist William P. Barrett presented a sobering review of financial author Suze Orman’s stated credentials and qualifications:

“Besides books and other royalties, Orman’s earned income has come mainly from selling insurance — which gets much more attention in her book than do stocks or bonds. . . . The jacket of her video says she has ‘18 years of experience at major Wall Street institutions.’ In fact, she has 7.”

When the Forbes piece came out, Orman’s publicist tried to discredit it and made it sound as if the magazine had falsely criticized Orman. In response, the San Francisco Chronicle, which is the nearest major newspaper to Orman’s hometown, picked up on the Forbes piece and ran a story of its own — written by Mark Veverka in his “Street Smarts” column — which substantiated the Forbes story.

Veverka went through the Forbes piece point by point and gave Orman’s company and the public relations firm numerous opportunities to provide information contrary to the piece, but they did not. Here’s some of what Veverka recounts from his contact with them:

“If you want your side told, you have to return reporters’ telephone calls. But alas, no callback.

“. . . Orman’s publicist said a written response to the Forbes piece and the ‘Street Smarts’ column would be sent by facsimile to the Chronicle. . . . However, no fax was ever sent. They blew me off. Twice.

“In what was becoming an extraordinary effort to be fair, I placed more telephone calls over several days to Orman Financial and the publicist, asking for either an interview with Orman or an official response. If Orman didn’t fudge about her years on Wall Street or didn’t let her commodity-trading adviser license lapse, surely we could straighten all of this out, right?

“Still, no answer. Nada . . . I called yet again. Finally, literally on deadline, a woman who identified herself as Orman’s ‘consultant’ called me to talk ‘off the record’ about the column. What she ended up doing was bashing the Forbes piece and my column but not for publication. More importantly, she offered no official retort to allegations made by veteran Forbes writer William Barrett. I have to say, it was an incredibly unprofessional attempt at spinning. And I’ve been spun by the worst of them.”

You can’t always accept stated credentials and qualifications at face value, because some people lie (witness the billions lost to hedge fund Ponzi scheme man Bernie Madoff, who was brought down in 2008). You can’t sniff out liars by the way they look, their resume, their gender, or their age. You can, however, increase your chances of being tipped off by being skeptical.

Beware

You can see a number of hucksters for what they are by using common sense in reviewing some of their outrageous claims. Some sources of advice, such as Wade Cook’s investment seminars, lure you in by promising outrageous returns. The stock market has generated average annual returns of about 10 percent over the long term. However, Cook, a former taxi driver, promoted his seminars as an “alive, hands on, do the deals, two day intense course in making huge returns in the stock market. If you aren’t getting 20 percent per month, or 300 percent annualized returns on your investments, you need to be there.” (I guess I do, as does every investment manager and individual investor I know!)

Cook’s get rich quick seminars, which cost more than $6,000, were so successful at attracting people that his company went public in the late 1990s and generated annual revenues of more than $100 million.

Cook’s “techniques” included trading in and out of stocks and options on stocks after short holding periods of weeks, days, or even hours. His trading strategies can best be described as techniques that are based upon technical analysis — that is, charting a stock’s price movements and volume history, and then making predictions based on those charts.

Remember

The perils of following an approach that advocates short-term trading with the allure of high profits are numerous:

• You’ll rack up enormous brokerage commissions.
• On occasions where your short-term trades produce a profit, you’ll pay high ordinary income tax rates rather than the far lower capital gains rate for investments held more than 12 months.
• You won’t make big profits — quite the reverse. If you stick with this approach, you’ll underperform the market averages.
• You’ll make yourself a nervous wreck. This type of trading is gambling, not investing. Get sucked up in it, and you’ll lose more than money — you may also lose the love and respect of your family and friends.

If Cook’s followers were able to indeed earn the 300-percent annual returns his seminars claimed to help you achieve, any investor starting with just $10,000 would vault to the top of the list of the world’s wealthiest people (ahead of Bill Gates and Warren Buffett) in just 11 years!

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Talking Money at Home

I was fortunate — my parents instilled in me the importance of personal financial management. Mom and Dad taught me a lot of things that have been invaluable throughout my life, and among those things were sound principles for earning, spending, and saving money. My parents had to know how to do these things, because they were raising a family of three children on (usually) one modest income. They knew the importance of making the most of what you have and of passing that vital skill on to your kids.

However, my parents’ financial knowledge did have some gaps. I observed firsthand the struggles my father endured handling some retirement money he was forced to deal with after being laid off from a job when I was in middle school. In subsequent years, this situation propelled me to learn about investing to help myself, my family, and others.

In many families money is a taboo subject — parents don’t level with their kids about the limitations, realities, and details of their budgets. Some parents I talk with believe that dealing with money is an adult issue and that kids should be insulated from it so that they can enjoy being kids. In many families, kids may hear about money only when disagreements and financial crises bubble to the surface. Thus begins the harmful cycle of children having negative associations with money and financial management.

In other cases, parents with the best of intentions pass on their bad money management habits. You may have learned from a parent, for example, to buy things to cheer yourself up. Or you may have witnessed a family member maniacally chasing get rich quick business and investment ideas. Now I’m not saying that you shouldn’t listen to your parents. But in the area of personal finance, as in any other area, poor family advice and modeling can be problematic.

Think about where your parents learned about money management, and then consider whether they had the time, energy, or inclination to research choices before making their decisions. For example, if they didn’t do enough research or had faulty information, your parents may mistakenly think that banks are the best places for investing money or that buying stocks is like going to Las Vegas.

In still other cases, the parents have the right approach, but the kids go to the other extreme out of rebellion. For example, if your parents spent money carefully and thoughtfully and at times made you feel denied, you may tend to do the opposite, buying yourself gifts the moment any extra money comes your way.

Although you can’t change what the educational system and your parents did or didn’t teach you about personal finances, you now have the ability to find out what you need to know to manage your finances.

Tip

If you have children of your own, I’m sure you agree that kids really are amazing. Don’t underestimate their potential or send them out into the world without the skills they need to be productive and happy adults. Buy them some good financial books when they head off to college or begin their first job.

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