to Have Financial Peace
of the biggest contributors toward personal peace
is financial peace. Sometimes it is assumed that financial
peace is only for those with endless amounts of money.
In actuality, you can be financially secure at almost
any income level. Avoiding common financial mistakes
is the first step. This article discusses some mistakes
that many of us make and how to avoid them.
I'm Too Young to Settle Down
Not investing in a home or buying one too late in
life is a mistake that more and more people are making.
The reason it is a financial mistake is illustrated
in the following example. Let's say Brittany makes
$60,000 a year, is single and rents a home for $2000
dollars a month. When tax time comes, she has little
or nothing in the way of deductions. In 2005 she would
have had to pay $11,665 in federal taxes alone. If
she had put that same rent payment toward a mortgage
payment instead and purchased a $315,000 home with
a 30 year fixed rate of 6.5%, her mortgage interest
deduction would have been $20,236, saving her $5,059
in taxes in 2005.
Tax savings isn't the only reason to buy a home.
Another reason is the investment it represents. Let's
say Brittany did buy a $315,000 home in January of
2005 and its value increased 5% in one year. The 5%
increase in value would give her $15,750 in equity
by 2006 and she would have paid $3,657 toward principle
as well. Let's add it up. Rent money saved, $24,000
+ taxes saved, $5,059 + equity earned, $15,750 + principle
purchased, $3,657 - interest paid, $20,236 = $28,230,
or $2,352 per month saved by purchasing a home. Even
if she put $1,000 into that home each month in the
way of maintenance, she still would have saved over
$1,300 per month in 2005 by buying a home.
But It Was On Sale!
Accumulating debt instead of savings is the next financial
error to avoid. Unless debt can almost guarantee you
a future return, such as investing in a business,
education or your home, it is best to avoid altogether.
Even purchasing automobiles with cash is better financially
in the long run. As an example, let's look at a household
that has a credit card balance of $10,000. Assuming
a 15% interest rate, if they pay $150.00 per month
on the card and don't put anything else on it, their
total interest and principle paid to that card is
$21,635 before it gets paid off. It will take them
over 12 years to pay it off at this rate. They are
paying $80 in interest a month for the "privilege"
of having credit card debt.
There is even more to the debt picture, however.
Debt is not just one sided, there are opportunity
costs associated with debt. If they weren't putting
$150 a month toward their credit card, they could
instead be putting it into a savings account. Putting
$150 a month into a savings account with a 4% rate
of return compounded monthly for 12 years would grow
to almost $28,000, which is $21,600 in principle and
$6,400 in interest earned. So now the real cost of
a credit card is the interest paid, $11,635 + the
foregone interest from the savings account, $6,400
= $18,035 in 12 years or $125 per month of lost money.
Do You Accept VISA for my Mortgage Payment?
Not having any liquid savings is another area that
can end up hurting you financially. The minimum amount
to be saved is 3-6 months of living expenses. This
will help to cover loss of income or medical emergencies
that may arise. This money should only be tapped for
major emergencies and not for things like vacations
or weddings, which should be saved for in other accounts
once the liquid savings has been established. When
no short-term savings is available, the risk of bankruptcy
increases. With the new bankruptcy laws it is becoming
increasingly difficult to erase debt.
Liquid savings is especially important when you have
a large income that is not standard across the industry,
or when there is not a high demand for the type of
work you do. In these situations, finding a new job
with the same income may be difficult. This can leave
you vulnerable to rushed decisions that can damage
you financially for years to come. As an example,
I have a friend who had made good money at a software
company for 20 years. His income was quite high because
he had been with the company for a long time. The
company was eventually purchased and he was laid off.
He and his family had just finished building and furnishing
their dream home when it happened. While they didn't
have massive amounts of debt, they didn't have any
liquid savings either. In order to get out from under
their house payment, they sold their home for much
less than it was worth, they also emptied their 401(k)
and both had to take low paying jobs just to make
ends meet. Now, eight years later, they are just starting
to crawl out from under it all, but without their
dream home or a retirement account.
Little or no insurance is a mistake that many people
make hoping they won't be hit by a natural disaster.
Insurance is your best defense against financial ruin
in such a situation. Sitting down and talking with
an insurance agent is the first step. Make sure that
the policy covers those things you are worried about.
Set aside the money needed for the deductible on the
policy if a disaster does occur. Other things to prepare
for in a disaster is the possibility of being out
of work for several weeks or months, high medical
bills or being left without an automobile if it is
also destroyed in the disaster. Liquid savings is
the answer to these problems. Remember, just because
the home or vehicle no longer exist doesn't mean that
their payments have gone away.
I Have Plenty of Time to Save
Not saving for retirement is a mistake that is made
all too often. If you do save, there is a good possibility
it is not enough to retire on. The findings of the
2006 Retirement Confidence Survey put out by the Employee
Benefit Research Institute suggested that many American
workers are not prepared for retirement and will have
to work far longer than they expect. As an example
let's look at Jane who is 55 years old and currently
makes $60,000. She hopes to retire at age 65 and has
already put away $250,000. By the time she retires,
her home will be paid for and she assumes she can
live off 70% of her current income or $42,000. If
she lives to 90, she will need to have income for
25 years. Let's assume her $250,000 grows at a rate
of 7% until retirement and 6% once she starts taking
the money out. We need to also account for inflation
which averages about 3% per year. In order to have
$42,000 per year for 25 years she will need $1,151,243
in her retirement account by age 65. That means she
will have to start contributing $58,919 per year for
the next 10 years to reach this goal. Obviously that
isn't going to be possible. What is possible is for
her to push back retirement to age 75 and save about
$10,000 per year until then. Her goal retirement age
of 65 is not going to be a possibility.
This is a start on the road to financial peace, steering
clear of financial mistakes. Learning more about the
different ways investment mistakes can hurt you in
the long run is the first step in avoiding future
problems. Next is to not make or stop making those
mistakes. It may take some time to change your habits
and actions, but it will pay well in the long run
if you do.
About the Author
Emma Snow is a writer who specializes in financial
planning. She has worked in the financial industry
for over eight years. Currently Emma works on a Finance
and Investing site at http://www.finance-investing.com
and Investing Partners http://www.investing-partners.com