Sound personal finance is often times not what you DO, but what you DON’T DO. Often times we look for all the right answers, tips, and advice about what we need to be doing to reach our financial goals. If you are able to refrain from doing the following five things, you will be better off than most. Which two have I been guilty of ? Which have you been guilty of? Read on to find out.
The 5 Personal Finance Mistakes you should Avoid
1. Build any sort of non-mortgage or tuition debt (consumer debt)
This one is absolutely killer. I’d estimate that at least half of the personal finance blogs out there these days are focused around the ‘get out of debt’ mantra. Why? Because a whole bunch of people dig themselves deep into debt. Until the recession, the U.S. personal savings rate had dipped into the negatives – meaning that the average person was spending more than they were earning.
Student tuition (within reason) often has a good return on investment. Owning a home can also be advantageous for your personal finances. These are permissible debts, if used wisely. Just about every other type of debt is consumer based. You spent the money because you wanted something. That ‘something’ didn’t bring happiness, so you bought other ‘somethings’. It’s a vicious cycle that never works to your advantage.
2. Wait on saving for retirement
I don’t know how many times I have heard peers say ‘I’m not worried, I have decades to save for retirement’. I personally max out my 401k each year, get a 50% match on it, and I’m still worried. We live in an age without pensions, and the cushy retirements that our grandparents and some of our parents have to look forward to will be extinct when we retire. Start building your own pension RIGHT NOW. You need the compound earnings for decades to outpace inflation and afford yourself a comfortable retirement.
3. Buy vehicles that you can’t truly afford or need
I spent too much on a vehicle. Instead of finding a serviceable $4 or $5k used car, I bought one that was $11k. Even worse, I financed it. A little over a year ago, we sold the car. I felt a little redeemed that I sold it for the same price that I bought it for after two years of use – but still, lesson learned.
In selling the vehicle and taking the bus to work, I have been able to save over $300 per month. I have a friend who now owns two vehicles that were purchased for over $20k – the most recent one because it’s a fast vehicle with a ton of horsepower. He and his wife have a higher income than my wife and I do. They also could bus to work if they chose to. He was absolutely amazed that I was able to max out my 401k. In paying nothing other than maintenance costs for our 2000 Pontiac Grand Am, we are saving roughly $800/month on vehicles – all of which can go towards my 401k.
The bottom line is (and this may hurt) – THAT EXPENSIVE VEHICLE YOU CRAVE FOR IS NOT A RIGHT. If you absolutely need a vehicle, get a serviceable used one that is at least 3-5 years old that you can pay for outright. Anything more is most often a personal finance blunder.
4. Buy more house than you need
The biggest danger in buying more house than you need is that your housing expenses will become disproportionately high in comparison to your other expenses. Experts recommend keeping your housing expenses to less than one-third of your take home income. I’d recommend pushing it lower than that. If you have huge mortgage debt and you or your partner lose their job, you may be in big trouble. Your home is not an investment.
This was a reality for my wife and I earlier in the year when she lost her job. Our expenses were suddenly outpacing our income to the point that I had to cut my 401k contributions to zero. Make your house work for you, not against you.
5. Rush to get an MBA or other graduate degree
I have seen a number of colleagues who are less than two years removed from their undergraduate degree clamor to get their MBA as if it was their pre-scripted destiny. In order for a graduate degree or MBA to make sense, I truly believe a few things need to happen first:
- You have at least 5 years of experience related to the field that you want to advance your career in. Don’t add insane tuition debt if you don’t even know that you’ll like the job that your degree may bring. If you don’t know, don’t do it.
- Do a cost/benefit analysis. Ask yourself how many years and at what salary it would take to pay this degree off. Factor in the income that you’ll be losing for the years that you’ll be back in school. I’ve done this calculation and estimate that it would take me at least 10 years with an additional $20k in salary JUST TO BREAK EVEN. If it doesn’t pay off, don’t do it.
- Ask yourself, better yet – ask potential employers if they would be willing to hire someone with your experience level and an expensive piece of paper at anywhere near the income level you are looking to reach with that expensive piece of paper. If you aren’t getting the answers that you have dreamed about, don’t do it.
Personal Finance Blunder Honorable Mentions:
- Try to keep up with the Joneses with emerging technologies.
- Eat out excessively.
- Wander around for years without finishing your degree or trying to grow your career.
- Save money instead of first paying off consumer debt.
- Neglect paying for the right insurance.
- Choose high fee investments.
Personal Finance Mistakes:
- What personal finance blunders are you guilty of?
- How have you fixed a personal finance mistake?
Point #5 is highly valid because I’ve seen several colleagues commit this mistake. They felt that a MBA from a cheap local school would accelerate their earning power or remove a glass ceiling, when in truth, they were just incompetent or not very good at their job.
Only problem was when they finished, they were stuck in the same job at the same pay since the company paid for some of their tuition. So not only did it make them static for a few years, they had to repay the student loan debt at a relatively similar salary.
A couple of things…
#3. I think you SHOULD finance a vehicle. It’s a great way to build credit. Your points about buying an affordable car are great and perfectly valid. The part about paying cash… not so much.
My alternative proposal is this: Have the money in the bank. Put 15% down on the car and finance the rest. After 6 months of making payments, take the money that you have set aside and pay off the balance. This establishes credit AND minimizes finance charges.
Second… While I agree in principle with your two points on educational financing (1 and 5), I think you need to do a better job differentiating them. Point 1 appears to be speaking to undergraduate degree programs while 5 is clearly speaking about graduate level programs. I think you need to clarify #1 and make it clear you are talking about student loans as they relate to undergraduate programs.
Generally, you have some great points on this list.
I’m definitely guilty of eating out too much. The college town I reside in has too many good places to eat!
As for #5, I have a few friends who automatically enrolled in graduate school after completing their bachelor’s. I’m pretty sure they did this out of fear. Afraid of entering the real world with the current state of the economy.
Buying a car is not the worst option, especially if you need it. Paying for a cheap used car sounds like a better option, but there will be problems that cost money and it will be a pain and expensive to deal with. Before you know it that used $5K car ends up costing closer to 11K.
I’ve managed to avoid all of these pitfalls, except one honorable mention: Eat out excessively.
My boyfriend and I love to eat out, and we alternate paying for meals, but I always end up spending way more than I wanted to. I guess that’s what happens when you’re a foodie in NYC.
I do believe buying a car is the #1 personal finance killer for all you guys in your 20’s. Keep the car purchase to 1/10th your gross income. That’s right. If you only make $60,000 a year, buy a $6,000 beater!
MBA may be a mistake to some, but if you go to a Top 25 school, chances are, you’ll be doing very well for yourself in the future.
@ Chris – Fair point. I don’t dis-agree with you. My point was to highlight that if you don’t have $4 or $5K, maybe you shouldn’t be buying a car. Do you have any idea on how much that move could impact your credit score?
I’m not guilty of any of those things! Not yet, at least. I figured an MBA was a sure thing eventually, but this article made me realize that I have absolutely no clue what direction I’ll be pulled in the next 5 years, so it’s silly thinking about that. Instead I should learn as much as I can and figure out what I love.
#2 is my biggest issue. I work in a business that doesn’t provide me with a 401K or health insurance. I work paycheck to paycheck even though I keep my expenses to the bare minimum. Unfortunately, in this economy, not all of us are paid a livable wage. I would love to be able to max out a retirement account every year, but I can barely manage to pay the basic bills.
One thing about getting my Masters (or at least beginning to work on it) soon after graduating from undergrad is that I was used to being in school and studying. It is so much harder to go back to school after a break than it is to just continue to go to school after graduating. And, if your employer is paying for 100% or a large portion, you are forgoing that benefit if you do not take advantage of it. It is like throwing a bonus away!
Full disclosure: I’m the friend in #3.
I’m certainly guilty of your #3 blunder, but I think you’re missing one very important element of buying a car that’s more than a 5k beater: pure enjoyment. If you look at owning a car as just another service or investment you make for transportation alone, then sure. Get the beater. On the other hand, if driving fun cars is a hobby and passion you have, then it makes sense to spend a little more on that expense of life, and cut a little more elsewhere.
I don’t see how this expensive is different than any other that one indulges in without a need. Does one need a huge flat screen tv? 200 cable television channels? High-speed internet? Tickets to Europe with x many nights in a swanky hotel? Unlimited talk & data phone plans? Fancy kitchen appliances? New and/or expensive clothes? 3-digit bar tabs every weekend? Boats? Jet-Skis? The list goes on obviously.
Everyone picks and chooses where to spend their “fun money”. Just because a large chunk may go to something like a fancy car doesn’t make it any more of a blunder than one who chooses to spend it elsewhere.
I want to make it clear that I am still discussing responsible spending. I’m not referring to taking many-year loans and throwing money away through interest just to get that out-of-reach purchase. As you know, I paid cash for the car, so I’m assuming it is not this irresponsible type of behavior you’re discussing when using my purchase as the example.
In regards to my amazement that you can max out your 401K, I think this post uses this example out of context. It’s painted in such a way that makes me look like I bought an expensive car, then can’t figure out why I can’t save as much for retirement as you. This is not the case.
The reason for my amazed feelings is because we have different saving methods. I think you’re stockpiling a lot of money in your retirement fund, while I’m putting less in, but putting more money away in a reachable savings account. When we bought our house, I put 20% down immediately. When my wife and I had new high-quality windows put in, we paid for it in full. If one of us were to lose our jobs, we have plenty of money to hold us over until we can both be employed again. I may not be getting the absolute maximum amount of matching money possible, but I am willing to forfeit that for the peace of mind of having plenty of money available to me at all times.
According to my financial planner/advisor, I am putting enough money towards retirement to have “a very comfortable retirement”, so I’m not worried about putting more. I think we have different saving methods with unique advantages and disadvantages. You thrive on knowing you will have a very comfortable retirement (and getting the most match money possible), and I thrive on knowing I have enough “right-now” money to tackle anything that comes my way.
Bottom line on this – my amazement at your 401k maxing has nothing to do with being able to afford a lifestyle or buy fancy cars. I was simply intrigued at the different approaches we use for long-term savings. I was amazed at your approach because I wouldn’t be comfortable doing it.
Lastly, I want to touch on one of your ending sentences: “get a serviceable used one that is at least 3-5 years old that you can pay for outright.” That may be what one should do if you see a car as simply transportation. However, in my case as a car enthusiast, buying a 7-year-old car for $20k that retails for over 50k new, and paying cash for it, doesn’t feel like a blunder to me.
Agree to disagree :)
@ Jon – all great points. You are paying a premium for an expensive lifestyle privilege (“pure enjoyment”). For you, the value is well justified. I would have a hard time justifying it, but that’s just a difference in what we value, like you say. I’d probably have a hard time convincing ANY vehicle enthusiast that it’s not a good financial decision to spend that much on a depreciating asset, but I’d be doing a disservice to not at least bring it up on a personal finance blog.
The reason I highlight the vehicle scenario (vs. other discretionary ‘want’ spending) is that vehicle expenses are often the second highest expense that most people have next to home expenses (which I also highlight in the post). I have seen a number of people get completely burned on excessive vehicle spending, so I had to bring it up. Since you have smartly paid off your vehicles without finance, perhaps your scenario wasn’t the best scenario to highlight – just the first that came to mind.
So many people buy cars they can’t afford – typical example – young male drivers and sports, high performance cars, completely not needed!
Very topical post… I always ask myself, do I NEED or do I WANT?!
I just want to make a short comment on,
“5. Rush to get an MBA or other graduate degree”
Most MBA schools require 60 months of work experience before you can even apply to their MBA program. There are a couple of reasons for this, 1. They want work experience so you can contribute real world experience to the classroom and 2. An MBA is to advanced degree, many graduates don’t even know where they post-grad job is going to be much less a career to advance. Lastly, I have also talked to many executives who have told me that if you don’t attend a tier one MBA program you’re wasting your time. Is this true? Knoweledge wise, probably not, but from a networking perspective it’s possible. My thoughts are, don’t spend $150k on a top MBA school if you aren’t absolutely sure it’ll help your career. If your company is telling you need it, it’s probably a good idea.
If you think rushing to get an MBA is expensive try throwing down $150 -$200K for medical school or veterinary school. I kick myself every day for making that mistake straight out of college. Obviously, I didn’t enjoy med school AT ALL and am no longer practicing. Every time I over-hear undergrads in my city saying:
“Well, I’m just going to take the MCATs and see how I do. I’ll probably go to medical school. I mean, I don’t know what else I’d do and my parents want me to go….”
I’m tempted to yell “DON’T DO IT!!! Unless you’re really, really sure you want to be an doctor DO NOT DO IT. Go work for a while and figure out what you want to do first!”
Professional schools are an investment that only pay out if you’re sure you’re going to use your degree for a substantial number of years after graduation. This is not a decision you should commit to because you don’t have any better ideas.
You mention that starting to save early pays great dividends, but in the same breath you mention that you should pay off your student loans before trying to save. Comments?
What if the ROI on your investments is greater than the interest rate on your student loans?
@Bogie I contribute just enough to my SIMPLE IRA to get my company’s match, then put the rest towards paying down my student loans. I probably shouldn’t, but I just can’t throw away the free money! We have two paid-for cars and no credit cards.
As for the ROI on your investments outpacing the interest on your student loans, having debt is a much bigger risk than missing out on a few percentage points in interest. The probability of something happening to you that reduces your income is high (a car accident, layoff, work injury, etc.), and weathering that storm is much easier when you don’t have a debt payment to worry about.
I see number 3 every day. People buying cars that are way, way more than they need and these people seem to be getting younger.
Then when the 18year old in casual employment gets knocked back for car finance, they can’t believe it – the should realise it’s probabkly saved them heaps in the long run.
I’m giving alot of thought to #3. I am guilty of going out and financing a car that was more than I could very comfortably afford. My car payment is roughly 17% of my take-home pay and that can really hurt sometimes when you factor in insurance and gas.
I will attempt to defend my decision though… I bought an inexpensive new vehicle (Base Chevy Cobalt) and I did so for the warranty and to have a car that I knew would last for a while.I also had no savings at the time like I do now. The goal is to pay it off within the first two years of ownership and continue to drive it till the wheels fall off.
Now, would you say that doing something like that is the exception or still a pretty big blunder? I will say that I can’t wait to have it paid off. I hate making a car payment and it’s motivation to pay it off faster so then I can begin saving to pay cash for the next vehicle.
The eating out part is where my fiance and I are guilty. I have heard of families with more than 2 people getting their bill down to 250-300 per month. We are between 400-600, which is a large range. I want to get better to know there is only a 50 dollar variable in the monthly food bill, but we go out to eat. We probably go out 8 to 10 times (any meal included). Gosh but you’re not just paying for the food, you’re also paying for the restaurant’s kitchen, staff, insurance, etc. It’s crazy! But we would also go stir crazy not going out since I work from home and he’s looking for work.
AH! any suggestions?
We have made none of those mistakes so far.
I did rush through my graduate program. I already have one Master’s, and I’m about to finish my MBA. But I had a full scholarship that covered 95% of the program, and the other 5% was paid for by my company.