It’s not uncommon. In fact, I’m wiling to bet that a very large majority of us grew up hearing and believing the same things about finances. Whether it was from a well-meaning parent or a concerned aunt or uncle, we’ve all heard the same advice. Unfortunately, we BELIEVED it and as a result, it has shaped our financial frameworks and money mindset that I would suspect many of us still have today!
How can this be? Can perhaps a ‘brief exchange’ or a family story told by one of our family members or a relative hold so much weight? How can it have shaped what we still believe today after so many years? Sadly, you know the answer…respect and trust.
The same thing that made you respect and trust your relatives for the advice that they gave you to learn other things that turned out to be important…”look both ways before you cross the road”, “don’t talk to strangers”, “don’t get the warranty for something you’re going to replace in a couple of years”, all came from the same place as the advice your Uncle Louie gave you about finances.
If you trusted them on those other things that turned out to serve you well in your early part of your life, why wouldn’t you trust them about things like finance?
Those who taught us knew nothing about finances
Unfortunately, what we didn’t know as kids inadvertently has hurt us as adults. As kids we didn’t know that our Uncle Louie knew next to nothing about finances and was perhaps even in financial trouble his whole life.
We didn’t know that as well-meaning as our parents were, when it came to the financial advice they gave us that they might have never been financially stable themselves.
Just as we probably wouldn’t take advice from a relationship coach that has been divorced 5 times, we probably wouldn’t have taken financial advice from people…even family members and relatives…that didn’t know a thing about finances…IF only we knew that to begin with. Yet, what they told us is what we believed. To some degree it might even be what we STILL believe.
So what might some of these old financial frameworks be? I can certainly start because I heard a WHOLE LOT of ‘em growing up and put many of them into practice at my own financial peril!:
Buy a single-family house as soon as you can
This was advice that I heard at a VERY early age and acted upon it almost immediately out of college. It’s not to say that owning a single-family doesn’t have a place in someone’s financial framework but I do now take exception that it should be the first dwelling purchase you should make. Here’s why…
For the most part, banks want to ensure that your income is being pledged to paying your mortgage each month. Can’t fault them for that! However, in doing that you are essentially ‘pledging’ whatever that amount is from your monthly net income to the bank. In the totality of all your monthly expenses, it’s highly probable that that is going to be a large percentage of your net monthly income.
In fact, in most of our cases it’s going to stretch our ability to pay for other things. As a result, the bank will not let us take on anymore sizable monthly expenditures. The problem is that we have now ‘bound’ ourselves to serving this mortgage above all else until such a time when our disposable net income is percentages larger than it is now. That could be 10 years or EVEN longer! Why is that important or a problem?
Well, here’s what I learned…the hard way. As soon as I could purchase a single-family house I did. My net income was sufficient to make the mortgage and associated housing payments each month but just enough.
Five years into the mortgage I found a sweetheart of a rental unit for sale. A nice three unit that immediately positively cash-flowed.
The sequence in which you buy real estate is important
I took the paperwork and the cash flow projections over to the banker that financed my single-family house. I showed him the paperwork and all my calculations expecting this to be a slam dunk. To my surprise he told me something VERY interesting.
He told me that all my income was already pledged to servicing my single family house and that I didn’t have any additional income to service this new property.
I responded that I didn’t understand the problem because this new property immediately had a positive cash flow and I didn’t need my job income to cover any of the ongoing payments. He just laughed and told me “that’s not how it works”.
He then proceeded to explain to me that bankers always revert back to someone’s main income as the litmus test as to whether someone can afford real estate or not. They don’t factor in a positive cash flow or not.
They want to make sure that in the event if every tenant left the property that I was still able to cover their mortgage fully with the income that I earned from my job. Of course I couldn’t, because that portion of my income was already almost fully pledged against my single-family house and probably wouldn’t be increasing for several years to come.
Buy a multi-unit property first
Based on that, I was denied by a few banks and didn’t get a chance to purchase that sweetheart real estate deal. Now here’s something that left an even bigger impression on me! When I asked the banker if there was any way that I could have been able to buy that property, I’ll never forget what he said. He told me that if I purchased the multi-unit FIRST then they probably would have financed a single-family unit afterwards.
More interestingly, he told me that they probably would have even financed additional rental properties going forward had I done it in that sequence. When I asked how could that be, he explained that if I was able to purchase the rental property first and it positively cash flowed I wouldn’t have had to pledge any of my earned income from my job going forward to finance the single family unit.
In that case, they would ‘substitute’ the income from the rental unit for my earned income and if the first property positively cash flowed then they wouldn’t need additional income to secure that deal. It would stand on its own. And in the event I considered additional rental properties to purchase, because I would have had a positive track record with that first property they would probably just look at each deal as standing on its own and if they positively cash flowed they’d be willing to finance them.
One BIG lesson learned! Thank you Uncle Louie!
Buy more house than you can afford
This advice is based on the fact that in past times housing prices ‘never’ went down…they ALWAYS went up. Based on this, the common advice was to always buy more house than you can afford because it’s the ‘ultimate’ investment.
The problem with this is that it presupposes that you ‘always’ buy at the total bottom of the real estate market and ‘always’ sell at the very top of the market.
What would have happened if you bought in 2006 in the United States? Chances are 15 years later you’re just coming back to the point where your property is valued higher in the market. But are you in a position to sell? And if so, where do you go to buy another property at the total bottom of the market?
I tell my friends that one of the BEST complements that I ever received is one that I got from my banker. He told me that I was “way under mortgaged”. What does “way under mortgaged” even mean? Well, in his eyes it meant that I could have afforded to buy a lot more expensive of a house based on my income.
My wife and I didn’t take the bait and as a result of even having been ‘vocationally challenged’ (being in lower paid professional jobs most of our early careers) we paid off our mortgage by the time we were 46 years old.
The better advice of course is “under buy” your housing to the extent that you are buying for what you need for utility out of the house and not thinking of it as this guaranteed investment, which it most certainly is NOT!
Go to the most prestigious college you can get in to
This was THE advice that all my friends received and acted upon. In fact, I went to one of the most expensive out-of-state tuition public universities at the time. Although my parents couldn’t afford to ‘cut the check’ for me to go there and there was really no such thing as financial aid back then compared to how it works today, I took on what was very substantial debt to go to that school.
Now here’s the kicker, I could have gone to my state university and received the very same degree. And I could have done it conservatively at a third of the price. Not only did making that choice to go to that school cost a significant amount of money back then, from an Opportunity Cost perspective of what it denied me for 10 years of having not invested in my retirement, the financial impact is absolutely devasting.
In fact, I had to do the math to see how devastating it really was to my financial future. By having had to service college debt for 10-years and not having been able to put that same amount into a simple Index Fund, it will have cost me approximately $472,820 dollars by the time I turn 65 years old!
Now it may not be millions of dollars but I’d sure like to have that sitting in my retirement fund right now. Especially seeing how the degree I got from that school didn’t calculate into any higher earnings over my career as a result of paying that higher price. Lesson learned!
Save 10% of your paycheck and work for 40 years
This is what I call the ‘oath of poverty’ that almost everyone used to…and in fact…a lot of people still spout off about. This is the age old financial advice of save 10% of your salary every year for retirement. Sure, if you want to luckily be able to retire by age 65.
Now a couple things have to be taken into consideration with this advice. First, you better want to work for at least 40 years or you have no other play with this hand. Secondly, you HAVE to start investing that 10% immediately or the math isn’t going to work.
Don’t believe me? As an example, if you were to make $75,000 annually and saved and invested $7,500 each year over 40 years (with a return of 7% compounded annually) you’d amass a retirement account of $1.7 million. Not bad.
However, if you were not able to start out at 25 years old to start investing but began when you started ‘making more money’, say $100,000 a year, and began to invest $10,000 a year but over 30 years you’d only have a little over $1 million. Not a bad sum of money for sure but you start to see how a flawed plan this is because it relies on us having to ACTUALLY do it when we have the least amount of ability to do it.
You need to look successful before you are successful
Oh, this is such great advice. Not! Even if you don’t have the money why not borrow it on credit cards and purchase the clothes, apartment, furniture, jewelry and luxury car so that other people think you’re successful? If you heard how crazy this really sounds you’d run for the hills. However, when you hear it from someone ‘credible’ you might actually believe them.
Unfortunately, just as the advice to spend more on college is terrible advice this is worse. Not only do you not have anything in the way of the ability to make income with these purchases, their high Opportunity Costs leave a devastating financial impact on your wealth.
The better play is you ‘need’ only what is essential to assist you to earn income and create wealth. Everything else is a ‘want’ and you only need it or if you have it, it should be ‘under bought’ on a price basis (used, discount, etc.)
When buying life insurance make sure it works for you, like a variable appreciable life or whole life policy
Another age old piece of financial advice passed down from family member to family member. The thought process here, which was born out of the propaganda from the insurance industry, was that it was better if you gave them your money so that they could invest it on your behalf. After all, they know more about money than you do!
Unfortunately, in so many cases those individuals who made monthly payments for a ‘investment’ life insurance policy got two things; a much more expensive life insurance policy and a less than optimal investment vehicle. Sounds like the ‘worst of both worlds’. Yeah.
Sadly so many individuals who are not accredited investors or able to receive wealth management advice from individuals certified to give such advice, like Certified Financial Planners, tend to get financial advice from salespeople working for retail operations selling insurance products.
That’s why the advice being provided throughout so many middle to low income households tends to track the perspective of the marketing material which of course favors the insurance company.
Take a job that has a good pension above all else
Looking back at my own career, this might have been decent financial advice in the day and age when jobs such as these existed and held up to their promises. More specifically, it was well within reason to find a job back in the early 80’s that came with nice Defined Pensions (DP) that had built in Cost of Living Adjustments (COLAs) in retirement.
Many of them also came with either all of the retirees medical insurance premiums paid or a large share of them paid. Today a job like that would be a Unicorn because they really don’t exist! In fact, of all my friends I’m one of the only ones that still has a DP as part of one of my early jobs.
In fact, it was my first job and I was told by all of my older work mates that I ‘hit the lottery’ when I got it. It was one of those fabled ‘secure’ government jobs that you used to hear about. This is the job that had a comfortable salary, which paid a lot lower than my peers in the private sector, but it was ‘secure’.
It also had the promise of a portion of my medical insurance, 50%, being paid in retirement. In addition, it also had a substantial portion of my retirement paid by my employer. Wow! This WAS like hitting the lottery!
Promises aren’t the same as money in your hand
Then something remarkable began to happen at the job. Soon after starting I had to participate in government shutdowns. Not only did I start out getting paid a lower salary than my counterparts in the private sector for this ‘security’ but I now was giving up another 5% of my salary to help balance my employers budget.
Soon thereafter the bargaining unit that oversaw my position ‘gave up’ medical insurance retirement benefits for those employees who had served less than the vesting period of 5 years. How convenient.
So there I stood. The job that was sold to me as ‘hitting the lottery’ and which paid less as a trade off for landing a completely ‘safe’ and ‘secure’ job was now paying a lot less than it originally did, was on the chopping block each and every month for the entire 8 years that I worked there and they since had rolled back any chance of having medical insurance in retirement.
Don’t take a job because it’s ‘safe’ because no job is safe
So what did I learn from this experience? The obvious thing was that you should never take a job just because it’s ‘safe’. And the reason for this is that one person’s definition of ‘safe’ may not be your definition of safe.
In fact, what was defined as a ‘safe’ job for me meant lower pay than what I could have received in the open market and being in a situation that had very little upside going into the future with a much lower prospect for haing a robust retirement. That doesn’t sound safe to me now.
Conclusion
I’ve learned a lot of lessons about employment in my days. The one thing that I can assuredly stand by is that in the world of employment nowadays ‘safe’ is the new ‘risky’. What I mean by this is that if you lock yourself into a job now that pays less just for an unfilled promise of potentially having something in the future I fear that you’re not ultimately going to get what you think that you’re going to get.
Why put your fate into someone else’s hands when you can take advantage of your own ability now and take charge of your retirement prospects today? In other words, why wouldn’t you choose to go for the ‘given’ today where you are in charge versus putting your future into someone else’s hands in hope that something happens in the future?
This really isn’t a blog post meant to criticize our relatives or family members. We know that they mean the best. We also know that they want us to be successful. However, it’s these old financial frameworks that have to be dismantled because many of them, in fact most of them, are dangerous to us financially because they are either gravely out of date based on the new financial reality we live in, or they were completely wrong to begin with!
Either way, WE shape and determine what we want to believe as it relates to the financial framework we create. So with that said, why not create a financial framework that best serves you and not one that will keep you broke?
