Thursday, March 17, 2011

10 Worst Financial Mistakes

In my previous posting about Horribly Bad Financial Decisions, I was harping on a particularly bad decision some folks were making here on our island, out of ignorance or fear.

But I noticed a lot of people were searching on the terms "10 horrible financial mistakes" and finding the page and probably being disappointed.  And I noticed there are a lot of 10, 11, or 12 "worst financial mistakes you can make" kind of lists.

So here is my list of "10 worst" decisions - things can can cost you $100,000 or more, bankrupt you, leave you in penury in retirement, or worse.  And as a bonus, I have an 11th "bonus" worst thing to do that we ALL do, to some extent.

And by the way, these are in no particular order...

1.  Leasing Cars:  The only thing worse than leasing a car is to lease multiple cars in a row, for years on end.  You pay, and and pay, and pay, and end up walking when it is all said and done.  And the amount you pay is more than quadruple what you would pay to buy some late-model secondhand cars.  Over the years, this can add up to tens of thousands of dollars in payments (above and beyond what it would cost to actually purchase a late model used car and keep it) and insurance.  Invested at even a modest interest rate, this means a loss of over $100,000 at retirement.

And the only thing worse than leasing cars, are people who rationalize such a decision by saying they "can afford it" when they have less than $100,000 in retirement savings.

2.  Buying "as much house as you can afford":  This was the mantra of the last decade.  But in the light of a new decade, we wake up and find out that owning a lot of house means you own a lot of house. It costs you a lot of money to buy, heat, cool, tax, insure, and the payoff is - you get to live in it.  There is no huge payback for owning a huge house, only expenses.

In terms of an investment it is a sucky one.  Buy an additional $100,000 in house, and over the years, it will pay you back $100,000 plus inflation.  You break even.  That money, invested at even a modest rate of return, could be worth a quarter to half-million by the time you retire.

3.  Credit Card Fiascoes:  People get 25% interest rate credit cards on the premise that they get free airline miles or money-back bonuses.  And they kid themselves they will "pay off the balance every month" - which they do, for a while.  But all it takes is one month of missed payments, and bad things snowball in a hurry.

While the average American household with credit card debt has over $14,000 in credit card debts.  This alone is a staggering number.  But it also means that some folks have far more than that, as many have much, much less.  We are talking $50,000 in credit card debt, here folks.  And yea, I've been there - fortunately at a low rate, and for a brief period of time.

But others are not so lucky, and carry these staggering balances for years - even decades.  The opportunity cost at retirement - easily over $100,000.  All so they can charge a cheeseburger on their VISA.

4.  Toxic ARM Loans:  Tied into #2 above are variable rate ARMs, toxic ARMS, adjustable or payment-optional ARM.  These all end up backfiring, unless the victim can refinance almost right away - and if they could, why take an ARM?  The problem with the ARM is that when rates rise, prices drop, and phantom equity evaporates.  So it is a sure thing that if "rates go up" you WON'T be able to "re-fi" like the Agent promised you could when you bought the house.

Potential loss?  Bankruptcy, Foreclosure, loss of down payment, credit rating, etc.

5.  Refinancing House to Pay off Credit Cards:  Tied to #3 above.  Run up the credit cards to 50 grand, then refinance your house to pay it off.  Brilliant move!  Now that cheeseburger is amortized over 30 years!  Congratulate yourself by running up new credit card debt.  Repeat Ad Infinitium.

The Damage?  Perpetual Mortgage debt, retiring with a mortgage on your home, loss of equity in home - $100,000 or more at retirement, easily.

6.  Upside Down loans for Boats, RVs, and other unnecessary toys: I wrote on this before. You buy an expensive "toy" for $50,000 to $100,000 or more and finance it over time such that it depreciates faster than the loan balance is paid off.  You are "stuck" paying off the loan while the boat rots in your back yard.

Cost:  $100,000 or more at retirement, easily.  Far more if the toy was expensive.

7.  Failing to fund 401(k) or IRA:  $50 a week invested from age 20 onward will equal a million dollars at retirement. Most people have less than $100,000 socked away, even by age 60.  Not saving is a sure-fire way to disaster down the road, if you have to rely on a self-funded plan to retire.

Damage?  Having to retire on Social Security and Not Much Else!

8.  Leaving a Job one year shy of vesting in pension:  I've seen this a few times - people quit a job a year shy of a fully vested retirement, because they have a fit of pique or they are mad at their employer.  Retirement seems like a long way off, so what's the big deal?  Besides, they'll hire me back, right?

Damage:  In some instances, walking away from a fully-vested pension of over $50,000 a year plus cushy health benefits.  Worth over a million, potentially.

9.  Putting all your money into one investment:  We saw this with Enron.  People put all their money into one stock or one mutual fund, and when it goes bust, so do they.  Diversification is not hard to do and a good way of spreading risk.

Potential loss?  EVERYTHING.

10.  Falling for a SCAM: Whether it is a cult religion (or the regular kind) or a Nigerian con, or an invention broker, these people just take, take, take and never give back.

Loss to the individual?  Can vary from a few thousand to your life's savings.

But what is the BONUS WORST FINANCIAL MISTAKE that we ALL MAKE to some extent?

Bleeding to death slowly over a 45 year working life - the death of a thousand cuts.  The average Middle Class American makes enough money in his lifetime to become a millionaire - even with fairly modest savings goals.

But few of us do it.  Rather, we squander our money along the way on shiny toys, restaurant meals, and Cable TeeVee.  At the time, these "small" things seem more important to us than putting $50 a week into savings.  Why bother with savings when you can always save "later"?  And besides, you have to enjoy yourself NOW, right?

The loss here can easily exceed a million bucks at retirement, and to some extent, we all do this one, making it really THE NUMBER ONE money squandering mistake we all make.

But since it is not a "single" decision, but rather a state of mind people have over decades, most "lists" out there don't include it.

NOTE:  Most financial gurus also cite Co-Signing a Loan as one of the top ten biggies.  But only idiots co-sign loans, and if you've read this far, you aren't an idiot.