Finally, I wound up the Campaign Against Financial Myths series last week. It was a lot of fun doing that series and I decided to consolidate the summary of all the myths in one long post. So, here it is. The table of contents below will take you directly to the myths in each category. The description contains only a short summary of the original description. Next to each section heading is a link marked as “detailed article” – clicking on it will take you to the original article that contains a more detailed description and several references. I am under no illusion that I have covered all the myths possible. As a matter of fact, I have intentionally left out a couple of topics such as taxes, insurance, etc – areas that I don't quite feel qualified to cover. If your interests lie in these areas and you would like to add an article about the financial myths in these categories – either as a guest post on this blog or as a post on your blog to which I can link back – I strongly encourage you to do so. And of course the standard disclaimer – I am not a financial advisor. I have made every effort to research the facts before presenting them here. But, if you have a reason to believe any of the statements are incorrect, please feel free to correct me.
All right, here we go -
- Mortgage & Home Ownership
- Credit Cards & Credit Score
- Stock Market Investing
- Frugal Living
- Financial Planning
- Myth: “Money = Happiness”
- Myth: “I could be hit by a bus and die tomorrow. So why bother to save?”
- Myth: “I bought the plasma TV/designer boots/widgets during a sale, so I saved a lot of money.”
- Myth: “It is OK to loan money to friends/relatives.”
- Myth: “It’s a man’s job to handle the investing and taxes. It’s a women’s job to create a budget and keep the family spending frugal.”
- Myth: “Rich people are greedy/lucky/privileged/scum/crooks. If I make a lot of money that is what people will think of me.”
- Myth: “A person must drive a flashy new car and live in a fancy mansion if he is rich.”
- Myth: “I have to make more money if I want to get rich.”
- Myth: “I don’t make enough money, so I can’t save”
- Myth: “My children will take care of me when I am older.”
While money can certainly make life a lot easier, several surveys have reported that rich people are not necessarily happier than the poor people.
Yes, you could be hit by a bus and die tomorrow – so make the best of today. But just in case you don’t get hit by that bus, make sure you have some savings to tide you along.
Unless you really needed the plasma TV/designer boots/widgets, you are only fooling yourself by thinking that you saved money by buying these items - be it on sale or not.
More often than not, loaning money to friends/relatives is a bad idea. Not only do you risk not getting back your money, it could really mess up your relationship with the person as well.
This would be a very bad idea in the unfortunate event of a divorce or death. In a relationship, even if different people are responsible for handling the different aspects of finances, make sure the other person is at least aware of the basic information and can get on by in case of an emergency.
On the one hand everyone wants to be rich. On the other hand they resent those that are already rich and worry that if they were to become rich someday, then all their friends and family will start resenting them. It’s up to you to develop a healthy attitude towards money (and people with money) if you eventually want to reach a state of financial freedom.
Not if you believe the research presented in the book The Millionaire Next Door: The Surprising Secrets of America's Wealthy by Thomas J. Stanley and William D. Danko about the U.S. households with net-worth exceeding one million dollars (USD).
Sure, making more money can give you more opportunities for growing your wealth, but only if you make sure that an increase in income does not result in a corresponding increase in lifestyle. Alternately, even when you make less money if you can find ways to keep more of it, you can still get to become rich eventually.
Basic needs such as food, shelter and health expenditure do not take up a whole lot of what we make. What eats up the paycheck is usually unfortunate circumstances or excess expenditure on things we do not really “need”. If you are a victim of the circumstances, strive hard to get above them. If you are an excessive spender, try to curb the expenditure a little bit at a time.
This may just be a culture thing, but in many Asian cultures it is common for parents to expect that their children will take care of them when they are older. But, relying on our children to provide for us in our old age is just not a viable option for retirement planning in this age of changing cultural influences and where old values are replaced with newer ones.
- Myth: “Budgeting is tedious.”
- Myth: "I need a budget only if I am in debt" (Variation: "I need a budget only if I am poor").
- Myth: “My situation is too far gone. A budget is not going to help me.”
- Myth: “I need fancy/expensive software to track my budget.”
- Myth: “I don’t have time to track my budget.”
- Myth: “I have to give up all my fun activities once I start a budget.”
- Myth: “Having a budget will make me rich.”
That really depends on the granularity and the mechanism you use to track the expenses. So, choose what works for you and stick with it.
Unless there is a system in place that sets some limits and tracks our expenses, we will slowly slip until the savings rate no longer correlates to our earnings rate. What's worse, in some cases, an increase in earnings can result in a disproportionate increase lifestyle forcing a person to get into debt!
It’s never ever too late to get out of a nasty situation. Read the detailed article for links to stories of people who have almost come back from the brink of bankruptcy by starting out with a simple budget.
OK, hold on a minute. What do you think has been around for longer -- computers or budgeting? For all I know, budgeting must be as old as the concept of money itself!
In most cases, this just turns out to be an excuse to get out of budgeting. You could use some simple techniques such as the envelope method or use automatic payments to keep track of your budget with minimal effort.
No, you don’t. You just have to account for it, that’s all. Make a list of all the things that are important to you and prioritize them. If you want to keep a big chunk aside for “fun” activities, then learn to cut down on others that are not as important to you. There is nothing wrong in spending on “fun” activities, as long as they are planned and accounted for.
There is nothing mystic about a budget and it is not going to make more money magically appear in your account than what you had to begin with. It will however help you keep some of that money there if you execute it right.
- Myth: “If I can afford the mortgage payments, I can afford to own the house”
- Myth: “I can save a lot of money on my taxes if I buy a house, since interest payments are tax deductible.”
- Myth: “I cannot afford the payments for a 30 year mortgage. My bank offers me an option of 40 or 50 year mortgage. Sounds like a good idea!”
- Myth: “I need to enroll in the mortgage company’s bi-weekly payment program to shave a few years off my mortgage.”
- Myth: “Unlike renting where my rent can increase every year, if I lock in a fixed-rate mortgage, my monthly payments will remain constant.”
- Myth: “If I cannot put 20% down payment, I have to pay PMI.”
- Myth: “If I refinance my loan, my clock starts over and I have to pay mortgage for another 30 years.”
- Myth: “Shopping for the lowest rate can result in multiple inquiries and ding my credit score.”
- Myth: “I should shop for the house first and only after I find the house, I need to start looking for loans.”
There is a lot more to owning a house than the mortgage payments. When you move to your own house which is likely to be larger in size than an apartment, almost all the bills will increase dramatically. In addition to that you have to pay property taxes, home-owner’s insurance, HOA fees, maintenance costs etc. So, if planning to buy a house, make sure you account for all these in your budget planning.
This is not always true. If you are a median income family filing taxes as married and you buy a median priced home, then there is very little advantage to itemizing your taxes, and you may as well claim standard deductions.
The 40 and 50 year mortgage usually come with a higher interest rate, and when amortized over the period of the loan, the monthly payments do not really go down much. Paying the larger interest for a longer period of time means you throw away a lot more money in the name of interest.
Many mortgage companies charge you a fee for bi-weekly payments. You can obtain similar benefits to the mortgage company’s bi-weekly payment program by making an extra payment every year on your own, or by increasing your monthly payment by (1/12)th of your regular payment and save yourself the fees charged by the mortgage company.
It is true that when you buy a fixed-rate mortgage, your monthly payments to the bank are fixed and locked in. But home ownership is way more than just paying the mortgage. Think preventive maintenance, routine repairs, emergencies, home improvement projects etc., and you will find that home ownership is anything but fixed expenses!!!
A “piggyback” loan allows to you avoid the PMI even if you don’t have 20% to put in down payment. The way the loan works, instead of taking one single loan for more than 80% of the home purchase price, you take two different loans from the same lender.
Many lenders that offer refinancing allow you to amortize the loan, so that you may payoff your loan using the same schedule as your original loan. Even if your lender does not offer this, as long as they do not charge a pre-payment penalty, you should be able to make additional payments towards the principal each month, and pay it off according to the schedule that you prefer.
This is not true. Read the detailed article for information from myFico website which shows that multiple inquiries during the time you shop for mortgage or car loans are bunched together into a single inquiry in your credit report.
Most sellers do not take a buyer seriously unless he/she is already pre-qualified or pre-approved for a loan.
- Myth: “I need to carry a balance on my credit card to build credit history”
- Myth: “I will be liable for all the charges if someone steals my card and runs up a huge bill”
- Myth: “Checking my credit report will reduce my credit score.”
- Myth: “I should cancel some of my cards since I have too many.”
- Myth: “I have fixed APR on my card – that means I have locked in the rate for life.”
- Myth: “Once I payoff a collections account or an account included in bankruptcy, the negative record will be erased from my credit history.”
- Myth: “I only need to pay the minimum payments each month.”
- Myth: “I cannot keep up with my credit card payments – so I will consolidate all of them using a HELOC.”
- Myth: “Having a rewards card will save me money.”
- Myth: “Credit cards are necessary for online shopping.”
- Myth: “My divorce agreement states that my spouse is responsible for the debt on our joint credit accounts. If he defaults, I will not be responsible.”
- Myth: “If you are only an authorized user and not a joint owner or co-signer, then your credit report will not be affected if the primary holder defaults.”
- Myth: “If I marry someone with a bad credit score, then my credit score will go down.”
- Myth: “Credit repair agencies can help fix my bad credit history.”
- Myth: “Accepting pre-approved cards does not affect my score, since well, the offers are already pre-approved.”
As long as you own a credit card, even if you pay your balance in full each month, you will still build credit history.
Almost all credit cards today come with theft liability protection. According to the Fair Credit Billing Act (FCBA), if you report the loss of your credit cards before they are used, the card issuer cannot hold you responsible for any unauthorized charges. If you report the loss after the card is used by the thief the maximum you are liable for is $50.
When you check your own credit report it is termed as “soft pull”. When other companies pull your credit report, for instance when you apply for a loan or new credit card, then it is termed as “hard pull”. Soft pulls do not result in reduction of credit score.
By closing one (or more) of your accounts, you will reduce the total credit line. If you have any debt on your credit cards, this will result in causing the utilization (as a proportion of the total) to increase, causing your credit score to possibly go down. Also, closing cards could bring the average age of your credit history down, resulting in lowering your score.
No, “fixed” APR only means that your APR is fixed until the next time the card company changes your contract. Usually the changes to the APR on a “fixed” APR card do not happen too often, but still there are no guarantees that the rate is locked in for life.
The bankruptcy listed in the public record information section of a credit report, remains for either 7 years from the filing date if it was a Chapter 13, or 10 years from the filing date if it was a Chapter 7, 11 or 12. Charged-off accounts remain 7 years from the date of the initial missed payment that led to the charge off (the original delinquency date), even if payments are later made on the charged-off account.
If you pay only the minimum payments, it will take you a long time to clear your initial balance, during which time you pay an enormous amount in interest.
If you clean your slate of credit card debt with a HELOC and then start piling on more debt on your credit card, this could be disastrous. Eventually, when you cannot keep up with the payments on your HELOC since you have used your home as collateral you could end up losing your home!
Not if you don’t pay off your balance in full each month! Rewards cards tend to have a higher interest rate than those with no cash-back or miles or rewards. So, if you do not pay off your balance in full, then the interest you pay might offset the benefits of any rewards.
Not quite. These days many, if not most, online merchants accept alternate payments such as debit cards, pay pal or e-checks. So it is not necessary that you must have a credit card account to be able to shop online.
A joint credit account that your share with your spouse is a responsibility of *both* of you. A divorce does not automatically break up joint accounts, and if you share joint account with your ex, it is advisable to call the creditor and either cancel the account or convert it to individual account.
The credit agencies consider you “guilty by association” and any activity on the accounts that you are an authorized user of will appear on your credit report.
Just as a divorce does not have any bearings on your credit report, a marriage does not automatically combine your individual credit reports either. However, after marriage if you open joint accounts and your spouse is irresponsible with it and causes negative marks, it will show up on both your credit reports.
If you have a negative record on your credit history due to a mistake on the part of the credit reporting agency, then the credit repair agencies may be able to help. On the other hand if there are legitimate reasons for your bad credit, then by law they will not really be able to help.
In order to determine candidate for receiving the pre-approved offers, marketing companies utilize soft pulls. However, if you apply for one of those offers, the company issuing you a credit card will do a hard pull on your credit history to confirm your credit worthiness. Soft pulls are not recorded and does not affect your credit score, but a hard pull does.
- Myth: “You can expect to earn around 10.7% on your investment in the stock market since this is the average long-term returns so far.”
- Myth: “To begin investing, I need to accumulate a lot of money first.” (Variation: “I cannot afford to invest”).
- Myth: “I can beat the stock market.” (Variation: “I should invest with a fund manager since fund managers know how to beat the stock market.”)
- Myth: “Timing your transactions is very important in order to succeed in the stock market.”
- Myth: “I should leave investing to the pros’ since I don’t have enough time to follow the market.”
- Myth: “Buying stock is like buying a lottery ticket.”
- Myth: “What goes up must come down.” (Alternately, “what comes down must go up.”)
- Myth: “If you are young, invest in the stock market. If you are old, invest in the bond market.”
- Myth: “As an individual investor I do not have access to all the information available to a broker or fund manager”
- Myth: “A stock that pays out a dividend of $10 is always better than the one that pays out $2.”
The source of the popular number 10.7% is the measurement made over a very long period of 76 years – 1926 through 2001. Since most of us will not invest for such a long time and 10 or 20 years is a more realistic number, how much you can expect to make from the stock market depends on when you start investing and in what direction the market is headed during the period for which you invest.
You can start investing with as little as $20 per month. As long as you make the commitment of doing this every month and stick with your commitment, you will be surprised at how much balance you will have after a while! Watch out for fees though!
The stock market is quite unpredictable and there is no magic crystal ball to foresee exactly what will happen next. As a result, it is difficult for anyone – be it an amateur investor or a hotshot fund manager – to consistently beat the market.
John Bogle, founder of the Vanguard Group, supposedly wrote: "After nearly fifty years in the business, I do not know of anybody who has done it [market timing] successfully and consistently. I do not even know anybody who knows anybody who has done it successfully and consistently." Enough said.
This is where index investing comes into picture! An index fund is essentially a collection of stocks that aims to replicate the fluctuations of an index of a particular financial market. Since Index funds aim to track the market, you will receive similar returns as the index that your fund tracks, and hence *you* do not have follow the market too closely.
When you go out and buy a lottery ticket, all you receive in return is “hope”. However, when you buy shares in a company, you actually own a piece of the company. How well this ownership of the company pays off depends on a whole bunch of factors, but you must agree with some good research and planning, the odds are far better than winning a lottery.
The stock market is not subject to the laws of Physics. Rather it is all about how the company is managed and what the investors perceive the value of the stock to be. By picking the right company, you could potentially ride the up wave for a long time. By picking a loser, you could wait and wait and never get out of the rut.
While generally true, this is not advice that you should follow blindly. Rather than looking at whether you should invest in the stock market based on how old you are, you should look at how soon you may have to take the money out and what is your risk tolerance based on the station of life you are in.
The fact that a company is “publicly” traded means that they *must* make all the information available publicly through quarterly report, annual reports, prospectus, investor guidance etc. With the proliferation of online trading sites, it has never been easier to get access to this public information.
When comparing two dividend stocks, you should not look at the absolute figures. Instead, the dividend payouts should first be converted into a percentage of the stock price (10% for stock A vs. 20% for stock B) to get a better idea of the value it provides.
- Myth: “The furniture/appliance/gizmo store offers zero interest, zero payment loan. So I can afford it.”
- Myth: “I am in such a crunch – maybe just this once I can get away with taking a payday loan.”
- Myth: “I can ignore the debt collection letter since it is only for a small amount” Variation: “I don’t owe any money, this is obviously fraud, so I can ignore this debt collection letter.”
- Myth: “I am under 18 years of age. So I am legally not liable for the debt I rake up on my credit card.”
- Myth: “All my friends have more debt than me. So my debt is not all that bad.”
- Myth: “I have dug myself into so much debt. I am such a loser!”
- Myth: “With the amount of debt I have, I am never going to be debt free. So why bother even trying?”
- Myth: “I have too much debt. Maybe I should just file for bankruptcy and start with a clean slate.”
- Myth: “I can help my friend in debt by co-signing a loan for him.”
- Myth: “All debt is bad.”
The zero interest, zero payments are usually valid for a fixed period of time. At the end of the promotion period, the interest rate usually shoots up to a large figure. In addition, some lenders include a clause that the promo terms are valid only if you payoff your whole loan amount at the end of the introductory period. Beware of promotions that sound too good to be true!
This is a very bad idea. Payday loans charge a flat rate fee for the amount you borrow with a maximum period restriction (e.g., two weeks) to repay the loan. Do you know that when the APR is calculated on an annualized basis (like credit cards and other legit loans do), this could result in anywhere from 400% to 1460% APR? Please avoid the payday loans like the plague.
Irrespective of whether you actually owe the money or not, please do not ignore the debt collection letter. The National Consumer Law Center says most collection suits and arbitration proceedings against consumers result in default judgments because consumers fail to respond to the legal notices in which case you will be forced to pay up even if the debt is not valid.
Credit companies allow minors under the age of 18 to have a credit card if an adult adds the minor to their account or co-signs for a loan. By raking up a lot of debt you are getting the person who was kind enough to help you get the credit card into a lot of trouble.
C’mon… that’s just lame and you know it! It is up to you to decide which statistic you want to be a part of – the growing number that spends most of their life struggling with debt or the small number of smarter people that stay out of it!
There is taking responsibility and then there is guilt. The first sentence above is about taking responsibility. The second is guilt. Taking responsibility is a good positive step in the direction of becoming debt free. Guilt on the other hand makes you take two steps backward. It makes you lose your self esteem and punish yourself unnecessarily. Instead of giving in to this negative feeling take charge of your life and your debt!
If you have the will power and the discipline, you can get rid of any amount of debt. If you make becoming debt-free your goal, then you will learn to overcome the obstacles and find a way to get there. The detailed article has links to several inspiring real life stories – check it out.
Bankruptcy is not an option! It is neither easy nor pain-free to go through bankruptcy. It takes an enormous toll on your emotional well being and affects your relationships and outlook of life. And also how others look at you. And, as if all that is not bad enough, your credit history will be trashed and the black mark will remain on your records for anywhere between seven to ten years.
The credit industry is a billion dollar industry. Lenders are willing to pay hundreds of dollars in referral bonus just to have clients walk in. In spite of all this, if the banks require your friend to have a “co-signer” what does it say about him? When you co-sign for a loan, you agree to bear the responsibility for the whole loan if your friend defaults. And considering that the banks do not have much confidence in him, there is a high probability that he will. So be very wary of co-signing for a loan.
At some point, when you have paid off the high interest consumer debt, you should take a short break and decide which debt is really bad, and which is OK from your perspective. Examples of “good” debt may be mortgage at a fixed low interest rate, credit card balance transfers with 0% APR etc.
- Myth: “Frugal living = Being cheap”
- Myth: “Frugal living = buying things second hand.”
- Myth: “Frugal living = giving up on all your indulgences.”
- Myth: “Living frugally will make me rich.”
- Myth: “Instead of worrying about being frugal, I should just focus on making more money.”
This myth is one of the biggest psychological barriers that prevents people from incorporating the concepts of frugal living in their daily habits. While one extreme of frugal living can mean being very cheap, you need not go to such extremes. Being frugal is a lifestyle choice, and you can choose the degree of frugality you are comfortable with and adopt it.
Frugality means different things to different people. The extent to which you want to incorporate it in your life should be decided only by you. Buying things second hand is definitely a great way to live frugally. But that does not mean you always have to buy everything second hand. Determine what works for you (example, books but not clothes) and buy only those things second hand that you are comfortable with.
Frugality does not mean you have to give up all your indulgences – it just means that you have to get creative about finding less expensive alternatives. Or cut down in other aspects of your life to be able to accommodate the indulgence.
Frugality is not a magic wand that will make money appear mysteriously! But, getting into the frugality mindset can help prevent you money from disappearing mysteriously :) You make what you make. At the end of the day what matters is how much of it you can keep. Incorporating frugality in your lifestyle simply helps you keep more of what you make.
There are two flaws in this argument. (a) If you increase how much money you make, but don’t keep an eye on how much you spend, you will eventually still be left with very little money at the end of the day. (b) If you need to have $X more, then you would have to make $X + $Y more in order to account for the taxes you have to pay Uncle Sam. Ideally, the best thing to do would be to live frugally *and* try to increase your income :)
- Myth: "Financial planning is for rich people."
- Myth: "Financial planning = Investing."
- Myth: "I am very young. I don’t need to start planning for retirement just yet."
- Myth: "It’s too late for me to start saving for retirement now."
- Myth: "Kids’ education comes first. So I need to put all my savings in college funds."
- Myth: "I have a financial planner to take care of my money. So I don’t need to worry about it."
- Myth: "I can pick a financial advisor randomly from the Yellow Pages."
- Myth: "Financial advisors mostly provide investment/retirement advice."
- Myth: "All savings accounts are created equal."
- Myth: "Two incomes are *always* better than one. So, it is *always* better for both the partners to go to work."
Financial planning is important no matter what rung of the financial ladder you are on. Financial planning could mean something as simple as budgeting for day-to-day expenses, putting away money for future purchases so you don’t get into debt, making sure you pay your bills on time so you can avoid late fees and interest, etc.
Financial planning can be just about anything – budgeting, setting up a retirement account, investing, estate planning, vacation planning etc. Start out with some basic goals, and determine how you will get there, and voilá, you have a financial plan.
If you are very young, then this is the best time to start putting aside some money for retirement since you can have the full power of compounding behind you!
This is a corollary to the myth above. While yesterday was unarguably a better day to start, today isn’t quite that bad either. Start now, if you have not already done so!
Push comes to shove, kids can still fund their college education using loans and grants. But there are no loans or grants to provide for retirement. So, make sure you put away enough money to support you through retirement before pumping all the money into a college education fund.
Well, it’s your money... if that’s how your want to deal with it, Good Luck!!!
No! Unlike stock brokers, financial advisors are not required to be registered or certified. So look around and do your research first if you plan to hire a financial planner.
Since we have already established that financial planning ≠ investing, it follows through that financial advisors don’t just offer advice about investing (or retirement).
Online savings accounts can offer much higher rate of interest than the traditional brick and mortar banks. While planning for retirement, it is better to park the money in tax-deferred accounts. Then there is a variety of other options such as Money Market Accounts (MMA), Certificate of Deposits (CD), brokerage accounts etc.
While in many cases if both the partners earn, they can provide better quality of life for the family, in some cases this is not true. Especially if you have kids of young age, you need to consider the cost of day care.
- Myth: “If everyone unites and does not fill gas on any one day, we can bring the gas companies to their knees and lower the gas prices.”
- Myth: “If I buy a vehicle that is defective the lemon law is there to protect me.”
- Myth: “When I contribute to a charity, my entire contribution will be used for the charitable cause that they mentioned.”
- Myth: “I am too poor to travel.”
- Myth: “I don’t need an emergency fund.”
- Myth: “Buying a hybrid car will save me money over the long run.”
The problem is, if people do not fill gas on one particular day, they just will on the next couple of days or the previous couple of days. From the gas companies’ perspective, this probably doesn’t even make a ripple in the profit pool. Instead of aiming for one no gas day, make every day a low gas day.
Lemon laws are regulations that protect customers from defective vehicles. However, different states have different sets of rules when it comes to lemon laws – so be aware of what the rules are in your state.
This is not quite true. Few charities use the entire 100% of the contribution to the cause mentioned. The norm is that most charities use a part of the contribution for administrative purposes.
The abundance of consolidation fare finders and aggregators has made it easy for anyone to find cheap airfare, rental car rates and hotel rooms. In addition, the abundance of hostels, bed and breakfasts and cheap motels, make it easy for even people on a very tight budget to travel. There are several online discussion boards and forums that you can use to find the details of the cheap eats and entertainment and also be aware of common local scams well ahead of taking the trip. Overall, if you really want to travel, there has never been a better time than the current information age to find the cheapest way to do it!
Everyone needs an emergency fund – how much or how little you should save in this fund is of course debatable.
Don’t get me wrong – I am all for buying hybrid cars. That said don’t buy a hybrid car for the wrong reasons. Environmentally, buying a hybrid car is a great decision – something that you should be proud of and something that more of us should consider more seriously. But financially, hybrid cars don’t necessarily save you a lot of money.