Cars – in the end they all do the same thing - get you from A to B

Sep 292008

The car that you drive says something about who you are.

We use material things to project an image of ourselves out into the world. If we want to portray a successful image we might buy a nice big shiny car. These type of cars generally cost us a lot of money but hey what the heck we’re successful aren’t we? We can take the finance offer and pay the car back in nice manageable monthly instalments.

So what does your car say about you?

What image are you trying to portray?

Who are you trying to impress?

Unfortunately sometimes we can get this wrong. My advice?

Tone down your Life

Or more specifically tone down your car.

Before we go on I want to make clear that I’m not trying to beat up on anyone here. I’m not trying to belittle hopes, dreams or aspirations of any readers. What I am trying to do is to help you build a sound financial foundation upon which you can achieve them.

Why burden yourself with stuff that you don’t necessarily need? I mean a car is a car is a car. The ultimate use of any car is to get you from A to B. Ok I understand that there is a whole image thing tied up with the car but are you that self conscious and lacking in self confidence that you feel the need to compensate for it by driving a big pointless car?

To me the coolest person on the block is the person who can jump into a beat up car and have the confidence to drive it around all the while not caring about what people think about them.

rusted-car.jpg

Easy to do?

No way!

I’m as self conscious as the next person and while my car might be six years old I make sure that it is always looking nice and polished. I made the mistake in the past of thinking that a car could somehow improve my social standing.

When I first started working I made the mistake of buying a nice new car. Girls love guys with nice cars right? Well to be honest I couldn’t really afford the car and as a result I never felt 100% comfortable driving it. Since I didn’t feel comfortable driving the car it always seemed that I was driving someone else’s car. Which is true – I was driving someone else’s car. I was driving the finance company’s car. Not a nice feeling.

The problem I had was that I hated not having any money at the end of the month more than I liked the car. Sure it was a really nice car but it was also a car that I couldn’t afford.

I had the car for eighteen months before I decided to get rid of it. I lost money on the transaction but I wasn’t too worried as I simply wanted out of the expensive repayments. I paid off the loan and I bought a much smaller and cheaper car. Not the coolest car by a long shot but cheap to run and it got me from A to B.

Sure I got some jokes in my direction about downsizing but to be honest they didn’t hurt half as much as the monthly repayments were hurting.

Mind over matter

If you don’t mind it don’t matter. So if you are comfortable with the car that you are driving then it shouldn’t matter what other people say. No I know it’s not easy. I struggled with the thought of changing my nice car for a less nice car for a long time. But I got there in the end. I resigned myself to the fact that if I ever wanted to have some sort of financial future that didn’t involved a debt overload then I needed to start cutting. My car was the biggest and most obvious choice to start with.

How about you?

Could you downsize your car? Could you put up with the jokes from so called friends and colleagues? Better still could you get rid of your car completely?

For more of my musings on Debt management and Personal Finance please subscribe to my RSS feed. Alternatively if you would like a free copy of my Debt management ebook “Understanding and getting out of debt” please sign up for my free newsletter.

Debt free solutions

Sep 262008

Debt free solutions? Every so often you read a piece of advice that you think is too simple to be effective. This happens me quite a lot. I don’t know why but some part of my brain seems to equate the value of a piece of advice with how hard and complex it is to implement.

The more complex the advice the more valuable it is to me.

I know its very strange logic but I think a lot of us have been wired that way. Take diets for example. Its common knowledge that if you want to lose weight you need to consume fewer calories than you use up during any given day. So simply eat less. However if everyone thought it were that simple then there would be no multi-billion dollar diet industry.

I think as humans we need to feel that when we have a problem we need a unique and magical solution to solve it. A simple straightforward solution just won’t cut it.

A lesson learnt

When I first started to get serious about debt I started to research how to solve my debt problem. I was confronted with a myriad of solutions, everything from debt consolidation to debt management plans. I was looking for some magic bullet.

One piece of advice that kept coming up again and again was simply

‘Spend less than you earn’

Simple right?

It was not good enough for me though. I wanted something that said ‘buy XYZ software package and your debts will repay themselves’ or ‘refinance all your debts and have only one small monthly payment’.

Eventually I came round to the simple way of looking at my debt.

‘Spend less than you earn’

This brought me to my next problem. How much was I spending?

How much?

I had no idea how much I was spending. All that I knew was that at the end of every month my bank account was always in overdraft and my credit card balance had increased.

At the time I remember reading another piece of really simple advice in the personal finance book Your Money or Your life. The advice was to write down and record absolutely everything that you buy everyday. Be exact in your figures, record it to the cent.

This was a compelling idea for me. It was so simple that anyone could do it. At the same time the sceptical part of me was thinking that it was a bit too simple.

Anyway for one month I recorded everything that I bought. I had a little pocket book with a small pencil on a string attached to it. Every time that I bought something I would write it down. I didn’t let anyone see what I was doing and I would wait until I was alone before I would record the expenses. I didn’t want to be marked as some kind of crazy note taking type of guy.

What happened?

Being the dutiful geek that I am I created an excel spreadsheet to formally record my expenses. This is where it got interesting.

On my spreadsheet I had what I called a fixed costs column; these fixed costs included my loan repayments, my rent, my car loan etc. Basically my fixed costs were items that I had to pay each month or face trouble. Then in a second column I had what I called variable costs. These were the cost that I was tracking every day in my expenses notebook. These included items such as newspapers, coffees, lunches…you get the idea.

Prior to tracking all my expenses I would have estimated that my variable costs were probably about $200 a week. I was in for a big shock. When I tallied up my variable costs the average I spent per week on them was $420. Unbelievable!

I was spending more than twice what I thought I was spending on discretionary items. This was a serious wake up call. When I examined what I was spending most of my money on a few things became clear. I was spending a small fortune buying gourmet coffees and the daily newspapers.

More interesting though was that I did most of my food shopping at convenience stores that were close to where I lived. Convenience stores by their very nature tend to be much more expensive than large supermarkets on the edge of town. You pay the extra money for the convenience of the convenience stores. Generally they tend to open much later and they are usually very well located in urban areas.

What next?

I adopted the simplest solutions I could think of. I cut down on the coffees and newspapers but more importantly I started to do all my food shopping in the large supermarkets. I continue to record all my expenses in my notebook and in the month that followed my weekly average spend was $270 – a major improvement.

Once I was on the right track I began to gradually cut my discretionary expenses further and further until I got to the point where my bank balance at the end of the month, while not very much, was positive.

Simple is usually best

It took me a long time to realize that the best and most effective solution to my debt problem was the simplest. For too long I was lost in a world of false promises and advertising overload. It was a painful process for me to recognize that I was wrong in my thinking and in my search for some new fangled complex solution.

How about you? Are there things in your life that you are trying too hard to solve? Are you looking at ultra complex solutions for problems that could be solved more effectively and efficiently with a simpler solution?

Why die rich? Frugal Fascism

Sep 242008

Bear with me on this one. It’ll make sense in a short while.

I’ve been doing a lot of reading of debt management and personal finance websites over the last couple of days. One of the recurring themes is that of frugality. All of the websites that I read offered great advice on how to cut down your spending and live frugally.

To me living frugally is one of the key components in any debt management plan. If you do not make the effort to live frugally then you will struggle to ever be clear of debt.

When do you stop?

Some of the websites that I read were quite zealous about their promotion of frugal living. I have to say that I admire their passion. The more frugal you can live the quicker you will payoff your debts. That is a simple fact.

But something struck me as not quite right. I began to wonder how do you cope long term?

If the goal is to pay off debts then what happens when you reach that goal and the debts are paid off? How do you live? Do you continue to live the frugal life? Do you allow yourself some small luxuries?

At what point do you stop being frugal?

Never?

I was afraid that you might say that. Living frugally forever seems to defeat the purpose. Ok you may have had a bad experience with debt and you never want to experience it again. I completely understand. At the same time do you want to live the life of a monk for the rest of your life? All the while you squirrel away your money into some savings account never to be touched?

On one of the websites I read the comment

“If you act poor and live poor then you may as well be poor”

I think the point the poster was trying to make is that there is very little difference between acting poor (in this case extreme frugality) and actually being poor. The fact that you may have massive savings means nothing; you are still living a restricted lifestyle.

Frugal Fascism

Don’t misinterpret what I am trying to point out here. I will say it again; in order to get out of debt you need to become more frugal. However there comes a point when extreme frugality borders on neurosis. Take the example of Hetty Green.

Taken from wikipedia

“Henrietta “Hetty” Howland Robinson Green (November 21, 1834 – July 3, 1916) was an American businesswoman, remarkable for her frugality during the Gilded Age, as well as for being the first American woman to make a substantial impact on Wall Street.”

“Green was mainly interested in business, and there are many tales (of various degrees of accuracy) about her stinginess. She never turned on the heat nor used hot water. She wore one old black dress and undergarments that she changed only after they had been worn out. She did not wash her hands and rode an old carriage. She ate mostly pies that cost fifteen cents. One tale claims that she spent a night looking around her home for a lost stamp worth two cents.”

When she died in 1916 ‘an estimate of her net worth was around $100 – $200 million (or $1.9 – $3.8 billion in 2006 dollars),’

I admit that Hetty Green is an extreme example but I am trying to point out that just because you have had a bad experience with debt doesn’t mean that you have to let it ruin the rest of your life. No I’m not saying that you should take more debt on to live a better life. What I am saying is that once you have repaid your debts then you need to co-ordinate your life goals with your financial goals and look for balance.

Balance is the key

If you want to retire with plenty of money then you will need to save hard while you are working but the does not mean that you have to live like a pauper. A balance needs to be struck between what you want to achieve financially – both now and in the future – and the other goals in your life that require money.

Getting out of debt is a huge financial goal and its one that I recommend that everyone pursues with vigour. That said once this goal is achieved it is time to look at your life from both a financially responsible point of view but also from the point of view of someone who is not afraid to go after what they really want in life.

A good dose of frugality in any financial situation is always recommended but what is to be avoided is the situation where the mentality has moved from one of frugality to one of simply being poor.

For more of my musings on Debt management and Personal Finance please subscribe to my RSS feed. Alternatively if you would like a free copy of my Debt management ebook “Understanding and getting out of debt” please sign up for my free newsletter.

Doing an intervention for someone who is addicted to debt

Sep 222008

At what point do you intervene when you can see that someone that you care about is heading for serious financial problems?

Do you sit and wait until they come to you?

Do you offer advice and hope that they will heed it?

Do you organize an intervention?

In my mind an intervention was always done for some form of serious addiction – drink or drugs. I now see that I have been too narrow in my thinking. An intervention for someone who is addicted to debt can be just as important as if that person was on drugs.

I’ve never ‘done an intervention’. Sure friends and family have come to me for help in the past and I outlined my experience of one such time in my article ‘The pain of debt’. But I have never actually taken the initiative and gone and intervened where I have seen there was a problem.

Why not?

Well to be honest the saying ‘people in glass houses shouldn’t throw stones’ always comes to mind. It would be very easy for the person that I am trying to help to turn around and say to me that I wasn’t so hot when it came to my own financial situation. But that is the whole point – the fact that I haven’t been so ‘hot’ in the past means that I have lots of painful experience that I could share to help them avoid making the same mistakes.

I suppose it is the fear of rejection that prevents me from doing it. When I blog there is a distance between me and the reader – it is not face to face and as much as I respect my readers the closeness that I have with family and friends would make it all the more difficult to give advice.

Then at what point?

The question I have to ask myself is what would it take for me to intervene to prevent someone from going over the edge financially?

Honestly I don’t know. I could say that if I saw a friend or family member seriously upset about their situation but too proud to ask for help then I would intervene but I would always let them try to solve their problems themselves. If I felt that they were truly struggling then I would intervene.

But I didn’t know.

In a lot of cases people keep their financial problems to themselves and maintain a façade of normality. A lot of people don’t want to be seen as weak or unable to cope so they internalize their problems and hide them away. For example any bills that come in the door go straight into the bin or in more dire circumstances they may take on even more debt to maintain the show.

In these cases it is very hard to know if someone has a problem. In a lot of cases like this it is only when the sheriffs are calling is it acknowledged that there is a problem.

In situations like these there is not much you can do. I suppose the only real thing you can do is be on the look out for warning signs. If you suspect a friend or family member is having financial difficulties then I suggest that you let them know in an indirect way that you are there to help them should they ever need it.

Have you ever ‘done an intervention’?

I would like to know if any of the readers have ever had to confront a friend or family member about their spending. I am curious to know how they tackled it as I am having difficulties trying to imagine how to do it properly. Please leave a comment in the comments box if you have ever had to confront someone about their spending.

For more of my musings on Debt management and Personal Finance please subscribe to my RSS feed. Alternatively if you would like a free copy of my Debt management ebook “Understanding and getting out of debt” please sign up for my free newsletter.

Debt – balancing the big picture with the little picture

Sep 182008

I touched on this topic yesterday in my article ‘Renting is better than buying and here’s why’. In the article I made the point that the vast majority of people have their minds so focused on their own financial problems and worries that they don’t have time to consider what is going on around them in the economy and the wider world.

I called the economy ‘big picture’ and the personal and financial problems that people have ‘Little picture’. Just to note that I am not having a go by calling people’s problems ‘little’ – far from it. I am simple making the comparison between the ‘big’ problems that affect all of us (in this case the economy) and the different problems that people have that are unique to their situation.

Balancing Act

If you have a debt problem it should have 100% of your focus. You should focus on it until the debt is no longer a problem. That said there is a problem with focusing 100% on your debt and that problem is what is happening in the wider economy at any given time.

Is the economy on the up? Is the economy on the way down? Where are interest rates heading. How much does gas cost? What is the unemployment rate? What is the rate of inflation?

All these things are very important when it comes to repaying your debt. For example, if you decide to go for a better paying job. If the economy is on the way down there may not be any better jobs out there for you to go for. Another example of looking at factors in the wider economy would be something like the price of gas and the impact it has on the type of car that you buy.

The danger is that people in debt develop financial coping strategies without taking into consideration the various economic factors that could have a direct impact on them. In a lot of cases people determine their budgets based on their current status quo and do not factor in something like getting laid off. This is where an emergency fund is crucial and it is one great way to counter the effects of a declining economy.

On the flip side of this argument is that you can become too wrapped up in the state of the economy. You might never seek out a better paying job just because the economy is not in great shape. Some people are doom merchants and any hiccup in the economy sends them running for cover. This is no way to live either.

Start learning

To maintain a healthy balance between the focus you put on repaying your debts and the focus you put on the state economy you need to learn how events and factors in the economy affects you. No you don’t need to do a PHD in finance. By simply researching online and reading blogs about the economy you will pick up the necessary information about how events will affect you.

A lot of people don’t pay much attention to the price of a barrel of oil and yet they wonder why the price of gas has become so expensive. Had they known about events in the economy and the wider world they may have been in a position to develop a strategy along the lines of car pooling or taking public transport or even buying a more fuel efficient car.

I find learning about the economy and world events to be fascinating. Things that happen thousands of miles away can have a direct impact on your pocket. It pays to know about these things. If you do you research about economic events it is possible to put yourself in a position where you are largely insulated from them.

For more of my musings on Debt management and Personal Finance please subscribe to my RSS feed. Alternatively if you would like a free copy of my Debt management ebook “Understanding and getting out of debt” please sign up for my free newsletter.

Renting is better than buying and here’s why

Sep 172008

I currently rent. A few years ago I was looking at buying an apartment in the area that I currently live. I didn’t buy a place because I felt that the housing market was overpriced and I didn’t want to be lumped with even more debt. That said at the time I was looking into buying a place I had a lot of debt (I still do) that would have prevented me from getting a mortgage. I was told that I could have fudged a few things and get a mortgage but I knew that I wouldn’t be able to pay so I declined. On top of that the fact that I was being advised to fudge a few things meant that things were really getting out of control.

I’m glad I didn’t buy – obviously – but I don’t want to rub people’s face in it who did buy. I know lots of people who bought at what was the absolute peak of the market in 2006 and are now sitting on a whole pile of negative equity. Not nice and I wouldn’t wish that on anyone.

At the time I was looking into buying a place I kept hearing the statement “Renting is dead money”. People smugly reassured me that I was ‘stupid to be renting’ and I was treated as some sort of social leper when discussing house prices at parties. At the time it was hard to ignore their arguments and the collective property mania. In most cases I had to agree as I watched people I knew make double digit gains on the value of their homes and there I was paying a monthly rent with very little to show for it. In a way my debt saved me.

What changed?

The most obvious thing that changed is the market. House prices plummeted. I don’t have to go through the ins and outs of what happened. I’m pretty sure that most people are familiar with the housing market collapse. My so called friends were no longer crowing about the virtues of buying houses.

As a renter I have being insulated from the fall in house prices. As I don’t own any property I am not directly affected by house price falls. In fact I could go as far to say that I am a net beneficiary of the housing market crash. In the area that I live a lot of apartments were built by property speculators in the hope of turning a fast buck. Most of them did not sell and as a result they are now being rented out. This additional supply has pushed the rent down in the area and my rent hasn’t gone up in two years.

Dead Money

In the last few years I have probably spent about $28,000 on rent. When you look at it in one lump sum it is a scary amount. But the way I think about it is slightly different. The value of the apartments where I live have fallen an average of between $50,000 and $100,000 in value. So in effect I have save anywhere between $22,000 and $72,000 by renting because if I had bought at the time a few years back and not rented I would now have a larger mortgage. I can buy the same apartment for a lot cheaper now.

What else?

Two weeks ago my boiler broke and I had no hot water. I rang the landlord and the next day he came around and fixed it. Apparently there was a big problem with it – it took him most of the day to fix. I reckon that if I was to get a plumber out to fix it that I could have spent anywhere up to $600 on getting it fixed. I got it done for free. The reasoning is obvious. The landlord needs to have the apartment in good working order if he is to rent it out.

If anything goes wrong I simply ring him and he comes around to fix it. I don’t have to worry about organizing a plumber or electrician; I don’t have to take time off work to be at home when they call and best of all I don’t have to pay for it!!!

I’m not at the mercy of the interest rates. Rates can go up and it will not affect the amount of rent that I am paying. On the flip side rates could go down and I would not see the benefit from that either.

Any downsides?

Of course! I don’t own my place so I can’t go and start changing things like the color of the walls or the furniture. I suppose if I really wanted to I could ask the landlord and I’m sure he’d be okay with it but it seems like a lot of hassle. As I’m renting I tend not to want to invest too much time or money into the apartment. I keep it clean and tidy but apart from that I don’t put much else into it. I try to avoid clutter so I don’t buy plants or stuff like that. Some say that it leaves the apartment rather clinical and not homely but I don’t mind as I like it that way.

I’m always on a four week watch. If for some reason my landlord decides he wants to sell his property then he is only legally obliged to give me four weeks notice to pack up and leave. This could be considerably inconvenient depending on the time of year. However this four weeks notice period works both ways. If I want to leave I only have to give four weeks notice.

On balance renting wins for me

For me overall renting is better that buying – especially at the moment. I think in a year or two I will be in a much better position to buy a place and I will do so then but in the meantime it is renting for me. The advantages outweigh the disadvantages and it allows me to save and plan for my future and for when I do decide to buy.

For more of my musings on Debt management and Personal Finance please subscribe to my RSS feed. Alternatively if you would like a free copy of my Debt management ebook “Understanding and getting out of debt” please sign up for my free newsletter.

In Debt we trust

Sep 162008

I have just watched the documentary “In debt we Trust”. This documentary was by a guy called Danny Schechter. I highly recommend that you watch it. The documentary covers all aspects of the debt market and how it came about. Some parts of it were a real eye opener for me, I’m sure you will think the same.

The really fascinating thing about this documentary is that it was recorded in 2005. In the documentary they discuss the subprime borrowing that was becoming very popular at the time. Some of the people that were interviewed make the comment that there we were heading for a crash. Very prophetic in their predictions given what has happened with the credit crunch in the last year or so.

Some people will say that the writing was on the wall, they will argue that the level of borrowing and personal debt that people took on could was simply too much and could not go on. To be honest I think that while the writing was on the wall if you cared to look, many people were too caught up in their own financial problems to look at the bigger picture. So there is no value to be had from saying “I told you so”.

Most people operate in their own little bubble, very few actually look beyond their own situation out on to the wider world to see what is happening and how it could effect them. Why should they? If you think about it, if I have enough income to pay my bills then why should I worry about other people’s financial problems? Even if I have a lot of debt I still won’t be worried about other people’s problems as I will be too busy and too focused on trying to solve my own problems.

Big picture

The real reason why it is important to keep an eye on the big picture, which in this case would be the economy, is that the big picture can very quickly become the small picture. Things like oil prices and interest rates have an effect on everyone – no one is immune.

Debt servitude

The other key thing that I got from the documentary was that we are now entering into an era of debt servitude or debt slavery where we are enslaved by our debts. Recent changes to the legislation regarding bankruptcy makes it hard to eliminate debts via bankruptcy. The net effect is that your debts continue to haunt you long after you thought you have go rid of them through bankruptcy.

Slightly depressing

Overall I found the documentary slightly depressing. It was very interesting but there was very little offered in the way of hope or advice. The two things that stuck out for me in terms of the advice offered were to cut advertising out of your life and to join a credit union. Both of which I think are great pieces of advice. I have written about going on a media diet in a previous post which you can read about here. Media diet – useful in slimming down your debt?

We need more documentaries like this to raise people’s awareness about debt. There is no point in suffering alone and in silence. There are things that can be done to help people in debt and the more people that know about what can be done then the better it is for all of us.

For more of my musings on Debt management and Personal Finance please subscribe to my RSS feed. Alternatively if you would like a free copy of my Debt management ebook “Understanding and getting out of debt” please sign up for my free newsletter.

Are you lottery class?

Sep 152008

Apparently there is a new way of allocating social class. The new class concept ties into the articles that I wrote about debt and lottery tickets and the windfall mentality that some people in debt have. This new social class breakdown is simply split into two categories. The investor class and the lottery class.

Barbara Dafoe Whitehead has written a very interesting article on the subject entitled ‘A Nation in debt’. In this article Whitehead breaks down the distinction between the classes and how this new social class system came about. Whitehead also writes about the death of thrift. I highly recommend reading the article. It is quite long but well worth the effort.

In the meantime here is a summary of what she says about the two classes.

The Investor class

“The investor class, with ample access to institutions that foster wealth-building discipline, is served by a bevy of insurance agents, tax lawyers, stockbrokers, tax accountants, deferred compensation experts and investment bankers. They are likely to work in organizations with 401(k) plans, profit-sharing, Keogh plans, deferred income compensation and retirement savings programs.”

The lottery class

“The lottery class, on the other hand, works in jobs that offer few pro-thrift benefits. As of 2004, seventy million of America’s 153 million wage earners worked for employers without a retirement plan. Rather than being courted by investment firms, they are targets of modern-day, made-to-look-respectable loan sharks. Tens of millions of working Americans who might join the class of savers and investors under more favorable circumstances are being recruited into a burgeoning population of debtors and bettors.”

To me it smacks of ‘the haves’ and ‘the have nots’. That could be an oversimplification of the situation but at first glance that’s the way it appears. The question you have to ask yourself is what class do you fit into?

Why is it important to know which class you are?

Well I know which class I would prefer to be in and that is the investor class. Am I there yet? Yes and No – I have debt but I also have access to financial advice and retirement plans. I personally don’t think the definition of the two classes is as clear cut as it could be. I think there is room for a third class – the “I’m in debt but hoping to be an Investor one day soon’ class.

Previous articles

In the past I’ve written about the lottery and how it offers a brief glimmer of hope in an otherwise bleak financial landscape. I stand by that article but I want to point out that in a follow on article I spoke about the windfall mentality and the way some people who are in debt cling to the hope that they will have a windfall from the lottery or some other source and that all their problems will be solved. This windfall mentality prevents them from making any real progress on reducing their debt and as a result they become more entrenched in their belief that a windfall will save them. All the while the interest on their debts mount.

Just because you do the lottery does not mean that you are lottery class. I personally think class has everything to do with attitude. Rich people do the lottery – Whitehead’s article points this out – they just spend a lot less in both monetary and relative income terms than people in the lottery class.

So which are you?

Back to basics for me

Sep 122008

Reading this you could be forgiven for thinking that I am some sort of holier than thou debt management wannabe guru. I apologize if I come across that way. I am passionate about Personal Finance and helping people to get out of debt. It’s just the way I am. It’s my dirty little secret.

The thing is that I am far from perfect when it comes to my own financial state of affairs. My financial health and net worth would resemble more the trajectory of a rollercoaster ride than a NASA rocket. Instead of my financial situation improving in a straight upward line, it goes up and down and down and down then maybe up.

I don’t think I’m alone in this experience. I have had so many financial highs and lows that I’ve really lost count. I think it is this experience that puts me in a better position to help others with what they might be going through. I still have a lot to learn though and I’m not afraid to admit it.

Back to basics

Recently I’ve become a little lazy with my own financial affairs. I just kept putting things off until there were problems that urgently needed to be solved. I did feel like a bit of a hypocrite writing about debt management when at the same time my own affairs were sliding, but I am now admitting responsibility for my mistakes and I am looking to fix them fast.

The problems that I have been having recently are simply caused by nothing more sinister than overblown day to day expenditure. Ok I did get hit with an expensive car repair bill but apart from that it has been the small daily things that have been hitting me hard.

Debt from a thousand cuts

I’ve been on the go a lot lately and as a result I have tended to eat out quite a bit, nowhere expensive just regular places. I might eat out for lunch and then maybe dinner depending on where I am. As a result these expenses are really starting to bite. I have been living like this for about 2/3 months and have been quite busy.

The net result is that my budget is shot to pieces.

The obvious problem is that my lifestyle hasn’t helped. The fact that I was on the go a lot and not getting home until late meant that I was too tired to cook. In the evenings I would simply buy ready made meals or get takeout.

Not good for my health or my wallet and I knew that. The point I am trying to make is that it is so easy to slip into a bad routine and then wake up one day with a gaping hole in your finances. This is what happened to me.

For me now it is a case of going back to basics.

What this means is a complete scaling back of my daily expenditure. For a while I was really good at keeping track of my daily expenditure. I would keep all the receipts and record how much I spent at the end of the day. Then after a couple of weeks of doing this I would analyze where I was spending the most and where I could cut down.

I found this to be an excellent way to manage my expenses. The only thing was that there was a lot of effort involved. It was hard work keeping up to date on all the small daily expenses. Make no mistake it is tedious hard work keeping track of all your daily expenses. I have tried to do this numerous times and failed at it numerous times.

I now realize that the fundamental key to long term debt freedom is managing your daily discretionary expenditure i.e. the money you spend on food, newspapers, magazines, coffees etc everyday. If you can contain these expenses then you will eventually break the back of your debt problem.

Look after the pennies

The saying “look after your pennies and the pounds will look after themselves” holds a lot of truth. By building up the discipline to manage the small and relative insignificant daily expenditure you are laying the foundation for greater financial discipline when it comes to the big expenses. There will be less of a financial bottleneck when you come to pay your bigger expenses.

However, there is a danger of being “Penny wise but Pound foolish”. This is where you are so focused on minding the small expenses that you neglect to look at the bigger picture and your bigger expenses.

There is a call for balance and my hope is that over the coming months – because it will take me months to rectify – that I can find that balance between looking after my small daily expenses while at the same time keeping an eye on the bigger picture.

Bad debt versus Good debt – value for debt not value for money

Sep 112008

Not all debt is created equal.

I’ve been holding off on writing about this debate for a long time. Part of me wanted to ignore it and lump all debt into the bad category. Another part of me wanted to fight the corner of good debt. Given that debt is such an emotionally charged issue there was always going to be a conflict for me. Some days I can see the argument in favour of good debt clearly other days all debt is bad to me.

So anyway here goes.

Bad debt is a confusing idea. Most of us will have heard the term used in conjunction with a bank or business. Something along the lines of “bad debts are running at 5% of the loan book”, what bad debt means in this context is simply that some of the loans the bank or business has made have gone bad. The people that they have lent the money to are no longer in a position to pay the loan back.

On a personal finance level bad debt can be considered any debt that you personally take on that costs you money. But doesn’t all debt cost me money? Well yes it does but not all debt is the same.

It’s best to give an example.

To me bad debt would be buying something like a holiday on credit. Say I went on a holiday that cost me $1000 and I paid $100 for 12 months to pay it off. To me that debt is bad because I am still paying off the cost of the holiday one year after I have taken it and there is a large interest charge. It creates a big hole in my personal Profit and Loss and Balance sheet. Here I have a big monthly expense that I have to pay for every single month and yet I have absolutely nothing to show for it.

I think you can see where this is going.

Bad debt versus Good Debt – it is all about value

I want to clearly outline the idea here so please bear with me.

You may have read in various financial books that good debt can simply be thought of as a debt that allows you to generate a positive cash flow. The typical example given is a rental property where the monthly cost of repaying the mortgage is less than the rental revenue which is received, thereby creating a positive cash flow for owner of the property. I agree with this definition 100% but I want to expand it.

You see the definition outlined about is too narrowly focused. It is based on a purely financial logic based calculation – but life and debt is never ever that simple. I like to think about debt as relative to the value it adds to you, to your life, your education and yeah sure, to your bottom line.

I never stick to the cold hard logic that debt is either good or bad based simply on cash flow. It makes finance too cut and dry…and boring. The question that you have to ask yourself is whether or not the debt that you are taking on will add value in your life?

Is debt from financing a college education good or bad debt
In my mind it is good debt.

Is signing up for a pay monthly gym membership good or bad debt? If you use the gym often then it is a good debt. If you only use the gym only once then the debt is bad.

Is taking a loan out to buy a car a good or bad debt?
Well that depends – can you get the bus? Can you buy a cheaper model? What do you need the car for? Will the car add value to your life?

One key assumption that underpins my way of thinking about debt is whether or not I can afford the repayments. I am working on the assumption that when I consider a debt that I can afford the repayments. If I can’t afford to make the repayments in the long term then there is no point even thinking about taking on the debt because it is a bad idea – EVEN if it will add value to your life.

My idea of good debt is open to abuse

You see debt is all about personal choice and personal responsibility. Some people might take what I am saying about debt being good if it adds value to your life and distort it. Some people might say something like “well this 60inch plasma screen will certainly add value to my life because I will be able to enjoy a better quality of entertainment” or “This holiday will make me feel better and therefore add value to my life”.

It doesn’t work that way and common sense is called for. You have to be critical in your thinking when it comes to debt. When approaching a decision it is necessary to have all the facts but that is not enough. You need to be honest with yourself. At the end of the day it is you that will have to be carrying the debt so you need to make sure that you are getting good value for it and not wasting it on frivolous items.

Critical thinking

I touched on this briefly above. If you are to adopt the value based idea about debt (I’m not saying that you should only that you be open to new ideas) then I think that you should err on the side of caution. Go into each decision about debt with a slightly negative expectation and add a large drop of cynicism for good measure.

Don’t look for reasons as to why the additional debt will add value to your life. Instead look for reasons why you should avoid that additional debt at all or at least reduce the amount you take on.

If, after running the decision to take on the debt through a number of value add calculations, you still decide to take on the debt then you can be happy in the knowledge that the debt you are taking on should add value to your life in the long run.

Investing in yourself

I suppose what I’ve outlined above can simply be termed as ‘investing in yourself’. Ultimately it is the best investment that you can ever make. Over the long term the return (both financial and otherwise) that you achieve from something like a college education or better fitness will far outweigh the cost of your debt.

Delayed gratification versus Instant gratification - A debtor's choice

Sep 102008

Many financial commentators make the point that one of the root causes of the debt epidemic we are now facing is the concept of ‘Instant gratification’. To me instant gratification is simply the ‘I want it and I want it right now!” attitude that seems so common today. The ‘it’ in the statement could be anything from an ice-cream to a nice new car.

If you think about it, the instant gratification culture which we have become so accustomed to has had an obvious negative impact on our financial health. Personal debt is at an all time high and savings is at an all time low as people seek that instant reassuring buzz of buying something new.

In my parent’s generation of the post war years they were thought to save hard for anything that they wanted. Credit was a dirty word and if they truly had their heart set on something they put their heads down and worked towards it – no matter how long it took. They were well versed in the practice of delayed gratification.

Now compare that to the attitude of my generation whose first exposure to the world of work and commerce was during the dotcom boom. We were bombarded with offers of easy credit and advertising that told us if we had an itch then we should scratch it, all for the low monthly payment of $99.

Sure it took two to tango i.e. me and my bank but in my defence (or should I say our defence) – ‘things were different this time’. There was plenty of employment opportunities, interest rates were at an all time low, banks were practically giving money away. Times had never been so good financially for all of us. The opportunities to make money were manifold – internet stocks, rental properties (gee didn’t they both turn out well). You name it and you could make money from it.

What changed between the generations?

To be honest I don’t know. I suppose there were numerous contributing factors. Perhaps my parents didn’t experience the same amount of media exposure as I did when they were growing up. How could they? I’m not even sure if they both had TVs when they were children. I always got the feeling that there was less pressure to conform from a materialistic point of view. Fitting in was less about the type of trainers you wore and more about the sports team you supported.

I find it hard to reconcile the stories that my parents told me about their childhoods and how they related to money as they grew up with my experience of money as I grew up. For me there was always a social pressure to conform by having the latest brand. I think a lot of my peers felt the same. This article ‘Budget for school gear soars to £600’ from The Daily Mail newspaper sums up the situation perfectly. I left school twelve years ago and I was shocked to read this article about the pressures that school kids face today as they try to conform.

Easy credit – the enabler of instant gratification

Before I allow the older generation to take the high moral ground on the whole instant gratification debate I want to point out that credit has never been easier to obtain – ever! I think one of the main reasons my parent’s generation didn’t suffer from instant gratification as bad as my generation is that even if they wanted to buy something there and then very often there was simply no credit available to do so.

Today we have both the means and the method of instant gratification at our disposal.

No longer are we forced to save for something that we wish to buy. If we really want something and we want it fast then generally speaking it is a relatively straightforward task to arrange the financing of it.

But isn’t instant gratification a personal issue?

Yes and no. Yes it is a decision that everyone makes for themselves. You and you alone can only decide if you will buy something now or you will save for it. No in that there is now such a collective culture of instant gratification that it is hard to resist the temptation to succumb. How easy is it to refuse to go on that expensive holiday when all of your friends are going? ‘I don’t have the money’ just doesn’t seem to cut it as an excuse anymore.

Delayed gratification – a long forgotten concept

If instant gratification can be thought of as a buying something straightaway regardless of whether or not you have the funds to do so, then delayed gratification can be thought of as setting yourself a financial goal and then working and saving hard to achieve that goal. The goal could be something simple like buying a new TV or it could be something bigger like saving for a deposit on a house.

What the goal is doesn’t really matter as much as the fact that you have made the choice to work hard before you consume. I’m sure you could simply whack the cost of the TV on to your credit card but with delayed gratification you are waiting until you feel you deserve it.

Delayed gratification – benefits

There are many benefits of delayed gratification.

No more buyer’s remorse

By delaying your consumption of an item and working hard to save the money to buy it you are forcing yourself to decide whether or not you really want it in the first place. Delayed gratification eliminates the buyer’s remorse that so often accompanies impulse spending.

Guilt free enjoyment

This is related to buyer’s remorse. By saving and working hard to allow yourself to fully enjoy the fruits of your labor you do not need to worry about making the payments on the item in question. If you buy a nice flat screen TV for $600 with cash that you saved then you own the TV outright and you don’t have to worry about any nasty surprizes waiting for you in the mail. You can kick back and enjoy.

No more debt

When you adopt an attitude of delayed gratification you are saying no to more debt. You have decided that is enough is enough and from here on in you want to earn the good things in life. No more taking the easy route of instant gratification via your credit card because you and I both know that that route is actually the hard way.

Builds discipline that can be rolled into financial security

Developing the discipline required for delayed gratification takes time but once acquired the attitude of delayed gratification it will serve you well for the rest of your life. By embracing an attitude of delayed gratification you are setting yourself up for financial success. The reason why is because in order to achieve anything big it takes time.

To save and invest for retirement takes time, to save a deposit for a house takes time, to save for your kid’s college education takes time but it is the time element that adds the value. In order for you to best capitalize on the time element you need an attitude of delayed gratification.

Where to start?

Small – always start small. Delaying gratification can be as simple as waiting a couple of extra days before you buy the latest edition of your favorite magazine. Wait. Be conscious about the reasons why you are waiting. Clean your home, bring your lunch to work for a day or two, do something that you think will justify you spending money on the magazine.

Take it from there. Tackle something bigger like saving for a new stereo system. Work some overtime or sell some of your stuff. Wait until you have the physical cash in your hand before you purchase the stereo system. The feeling of achievement is immense.

Now aim bigger still. Say you want to redecorate your home but it will cost a lot. Start saving. Cut your expenses where possible, save any money that you can, give yourself a timeline. Be honest about your progress. With any goal there will be set backs on the path to achieving that goal. The bigger the goal the bigger the set backs will be.

Keeping moving in the right direction, the idea here is to train yourself to become more disciplined in your financial habits. Easy? No way. Necessary? Absolutely.

The great thing about delayed gratification (the few times I’ve tried it) is that when you achieve the goal that you have been aiming for it tastes a lot sweeter than had you just gone out and bought it on credit. Not only are you getting the things that you have been working and saving for you are also getting a huge sense of achievement and satisfaction as a bonus. Sometimes the sense of satisfaction is nearly worth the effort on its own.

The hard work ethic required to save and earn

Sep 082008

Rome wasn’t built in a day or so I have been told on numerous occasions. I’ve heard that phrase so often that I’ve never really stopped to think about what it meant. However in the years that I have been in debt that saying has rung in my ears more and more.

To get something done and I mean really and truly get something done, it takes time. The bigger the goal the more time it will take. Getting out of debt is no different. The bigger the mountain of debt the longer it will take to climb it. Make no mistake about that last sentence. The bigger the debt the longer the time.

I suppose at this point I could add that if you can’t do the time don’t do the crime i.e. don’t take on so much debt in the first place. But I think at this stage we are beyond those clichéd arguments. We need helpful ideas and not more annoying rhetoric.

So now that we have a debt mountain to climb or if you prefer we have the city of Rome to build, we need to start getting real. Getting real and keeping it real. That’s not some misplaced lingo from my youth but rather a nod to the need to be present in the moment and not off in some dream world where credit card debt doesn’t exist.

Debt repayment takes time. Once again for the people at the back, debt repayment takes time. Unfortunately if you are in debt then time is probably all that you have. But in away time is all you really need – time and the application of a hard work ethic.

Hard work

This phrase has always confused me. Is hard work purely of the physical type for example working in construction? Or can the term ‘hard work’ be applied to an office job? Do you have to end the day physically exhausted for it to qualify as hard work?

I think that the term hard work really applies to productivity. If you are productive and get a lot of things done then I think you would be regarded as a hard worker. So for me hard work equates to the ability to get a lot of things done in a certain period of time.

But being productive isn’t about working in a blind fury and using blunt force to get things done in the shortest possible time. To me being productive incorporates a determined work effort by default but there is also a huge element of working smart involved.

Working Smart

Again this is another one of those management phrases bandied about so much that it has almost lost its currency. To me working smart means the ability to leverage, delegate and also ignore what is unimportant. In other words it means using your brains and knowledge to make sure that the right person is doing the right thing at the right time. That person could be you or it could be your work colleagues.The point is that if someone can do the job better, quicker and more efficiently than you then get them to do the job.

Do not make the mistake of thinking that working smarter simply applies to your working life. Far from it. The most benefit you can get from working smarter is in your personal life. There are dozens if not hundreds of ways that the average person can work smarter in their personal life – everything from streamlining their finances to streamlining how they arrange their sleeping habits.

Back to the debt problem

Working hard and working smart brings with it the obvious benefits of being more in control of your life. The harder and smarter you work the quicker the things you want out of life will come to you. There can be no doubting that. I’m sure that the things you have already achieved in your life have been built on working hard and being smart about how you work.

So far so great – working harder and smarter seems to be the cure all solution to life’s problems. If only it was as easy as that. You see if you are already working hard and working smart the chances are that will not have much of a debt problem if at all. The reason why is that you will have spotted the error of your ways and worked harder and smarter to repay your debts. If this is you then there is no point in reading on as you seem to be winning. Keep up the good work.

What about the rest of us mere mortals? The rest of us mere mortals probably comprises about 97% of the population. We are the ones who have the words “can do better” marked all over our report card.

How to work harder and smarter

There is a thing called work ethic which will make a huge impact on your life and in particular your financial situation. This definition of work ethic is taken from Wikipedia:

Work ethic is a set of values based on the moral virtues of hard work and diligence. It is also a belief in the moral benefit of work and its ability to enhance character.

Workers exhibiting a good work ethic in theory (and ideally in practice) should be selected for better positions, more responsibility and ultimately promotion. Workers who fail to exhibit a good work ethic may be regarded as failing to provide fair value for the wage the employer is paying them and should not be promoted or placed in positions of greater responsibility.

Or more simply put – work harder and smarter to get paid more or get a better paying job which in turn will help you payoff your debt quicker.

Developing a good work ethic is the key to moving out of debt and towards greater financial security. The great think about work ethic is that it is a learned habit. It is not something we inherit or that is part of our physcial or mental make up. IT IS A LEARNED HABIT. Sorry for raising my voice but the point that I am trying to make is crucial. Too many people go through their lives thinking that they can never do better or they simply don’t know how to do better. The beautiful thing about life is that we can always learn ways to improve and do better.

Work ethic is a learned habit which means that you or I or anyone who is willing to learn can develop a strong work ethic.

Again developing a strong work ethic takes time but the benefits are enormous. To develop a strong work ethic simply ‘work all the time you work’. In other words all the time that you are physcially present at your place of work – make sure that you are working. By all means take your lunch and coffee breaks but at all other times make sure that you are working on the tasks that add most values.

I don’t want this article to desend too far into a discussion on better ways to work. There are plenty of excellent resources out there on the web that will allow you to improve how you work. The key thing for you is that you try to develop a strong work ethic.

A natural extension of the work ethic debate is the habit of saving. Saving and work ethic usually go hand in hand. If you have the discipline necessary to develop a strong work ethic then you almost by default will be more inclined to be financially disciplined. The principles that you need for a strong work ethic are the same ones you need to develop the savings habit.

If you think about it logically if you work harder it makes sense that you will want to keep more of what you earn.

So you want out of debt fast?

Here’s how. Develop a strong work ethic by working harder and smarter in your current job (it doesn’t matter what your job is) then after a while you should see the benefits of your hard work – more overtime, pay rise, bonus etc. With this extra earnings you can pay down your debt faster.

No I didn’t say it was going to be easy to do. If it was easy then everyone would be doing it. There is also a large element of delayed gratification that I didn’t cover in this article that makes all the difference. The key thing to take away from this article is that there is a very straightforward way out of debt staring you in the face.

$40K in Debt so what difference does another $1000 make?

Sep 082008

Generally my thinking is that when you’re in a debt hole that you should stop digging and look up. Sometimes I hear people say something like “I’ve already got $40k in debt so what difference will another $1000 make? If I can emotionally handle $40K of debt then $41K isn’t going to be too much more difficult”. Fair enough you might think.

When your debt gets to such a large amount the difference an additional $1000 makes is small. I suppose you can think of all debt as relative. If you had an existing $1000 in debt then an additional $1000 would effectively be a 100% increase or a doubling of your debt. Whereas an additional $1000 when you already have $40,000 in debt is only going to increase your debt by 2.5%.

But to deal in percentages of debt increase is simply a wasted exercise and is avoiding the real point. In the end the percentage increase is not important if you don’t have the cash flow to meet the repayments.

Can I meet my debt repayment obligations in the long term if I take on more debt?

This is the key question that anyone who is considering taking on more debt now should be asking themselves. If you are struggling with debt now then how will you manage in six months time?

Too often I have heard stories of people getting too comfortable with their debt and letting themselves slip into debt oblivion. They grow so comfortable with the idea of debt that it seems like the easiest option is to take on more debt rather than acquire the discipline and work ethic necessary to save and earn.

But I don’t want to lump everyone into the same category so the question that has to be asked is.

Why more debt?

I suppose the other very important consideration is why would anyone want to take on more debt if they are already $40k in debt? If someone is frivolously spending an additional $1000 on clothes or the latest gadget or a holiday then the question has to be asked is why? Why more consumer spending?

That said if someone is taking on more debt to pay for healthcare or education then you can see the logic behind it.

So you can see from the two examples why taking on additional $1000 of debt is necessary in one case and totally unnecessary in another case.

The difference between the two types of spending

In the frivolous spending scenario that person is way too comfortable with their debt. The end result is debt oblivion or more commonly known as bankruptcy. The problem isn’t debt per se; the problem goes much deeper and relates to psychological issues rather than financial ones. The financial situation is the end result, debt is a symptom rather than the cause of the problem. The problem is probably caused by some deep rooted emotional issues. I honestly don’t know but I know that a psychologist would probably have a lot to say about it.

In the necessary spending scenario the debt can be justified but that person also has to ask how the debt arrived and why is it still building up? In the case where the debt is being used to further education or to pay medical bills then the argument can be made that it is in effect a kind of “Good Debt”. (Good debt in itself is an elusive concept and one that deserves and entire article of its own which will follow soon.)

The difference an additional $1000 will make to your debt

The difference to me is one of need versus want. Do you want the latest gadget or do you need the latest gadget? If you allow yourself to be duped into believing the flawed logic of relative debt size as I outline at the start of this article then you have a problem. The chances are that you have become too comfortable with your debt and you need to scare yourself into action about your debt.

Debt is debt and only in the more positive or extreme circumstances can it ever be justified. The two simple questions you should as yourself when considering taking on more debt are:

Can I afford the additional repayments in the long term?

Does the thing that I am using the debt for add value to my life?

If you can answer yes to both of these questions then you may be able to justify taking on more debt. If you have any doubts about your answer to either of these questions then you need to seriously reconsider taking on the debt.

Payment shock – and how to avoid it

Sep 032008

Taken from Investopedia.com

Payment shock

The risk that a loan’s scheduled future periodic payments may increase substantially. Payment shock can be the result of several things, including the expiration of an initial or temporary start interest rate (sometimes known as a teaser rate), the end of a fixed-interest rate period, the end of an interest-only payment period, an increase in an adjustable-rate mortgage’s fully indexed interest rate or the recasting of a payment option ARM.

My payment shock came in the form of an introductory low interest rate offer on a credit card. I had transferred the balance off a couple of my credit cards onto a single credit card that had a really low introductory offer. The offer was 0% for six months on balance transfers. I jumped at the chance.

Six months later I was so use to getting my monthly statement with the same balance on the account that I didn’t even bother opening the statements. I wasn’t using the credit card to buy anything so the balance wasn’t moving. I got lazy. I sailed through the six month period without even realizing that it had ended.

About three months after the introductory offer period ended I went to check my credit card statement. I got what I now know as a ‘payment shock’. My credit balance had shot up in the three months since the end of the introductory offer period. I was now paying interest on interest. I was very alarmed and annoyed that I let it happen.

I learnt a hard lesson and I learnt all about what it means to suffer from “Payment shock”.

That said I think I was lucky. I am currently renting but about two years ago I was looking to get a mortgage. There was some scary stuff out there. Interest only options with teaser rates. From my experience with the credit card payment shock I was in no rush to be seduced by these low monthly mortgage payments. From what I could see most of these low rates only last about 2 years. Then they reset and you have 28 years of trying to pay the much higher rates. I held off and I’m glad I did.

I suppose that was what the whole subprime meltdown was all about. People who could not necessarily afford the standard mortgage payments were seduced by these low low teaser rates and some slick salesmanship.

The offer was simple and I imagine it went something like this

“You can have the home of your dreams and it will only cost you $600 per month, then when the rate resets in a couple of years you can refinance or sell as your home will have gone up in value.”

How could you not be seduced by this? I mean here was your dream handed to you on a plate for a very reasonable and manageable monthly payment.

When you take it at face value it looks like an amazing offer. You get what you want for a very little monthly outlay. Many people bought into this and I can completely understand why.

Unfortunately the danger lay a year or two down the track. Like what happened to me I imagine that a lot of people got comfortable and use to making the monthly payment and not even thinking about the rate reset. Like me they were in for a very nasty payment shock.

I’ve read stories online about how people were seduced by the low interest only rates only to find that they simply couldn’t afford the repayments once the rates reset. Here is a link to one such story from the New York Times – Mortgage Crisis Spreads past subprime loans.

How to avoid payment shock

Hindsight is 20:20. When you look back on an event that has occurred it is so easy to say ‘I should have done this or I should have done that’ but in reality the event is gone forever and there is no point beating yourself up about something that you cannot change.

That said there is still value to be had by analyzing past mistakes. The value is to learn from your mistakes and the mistakes of others so that you are less likely to repeat them.

I learnt a couple of lessons from my payment shock.

The first lesson I learnt is to always go into these things with your eyes open. I knew what I was getting into with the low introductory credit card rate but what I wasn’t 100% clear about was when exactly the period ended and what, if any, obligations I had once the period ended. To be honest I wasn’t even sure about what rate I would be paying once the period ended.

So my advice is to do your homework completely before you enter into any sort of introductory or low interest offer. There is no such thing as a free lunch and the more you know and understand about the offer the better you will be able to evaluate it and decide if it is suitable for you. Use the power of the internet to connect with other people who may have already signed up for the offer and find out what their experiences have been.

One key piece of information that is crucial in your decision is whether or not you can afford the repayments when the rate resets. So you need to find out exactly how much the new rate will be in a worse case scenario. If you have a mortgage then this means calculating how much you will have to repay when the rates reset but also assuming a worse case scenario that the interest rates in the economy will rise as well. Then ask yourself if you can sustain that level of repayment indefinitely or will it be a strain on your finances?

The second lesson I learnt is to use the time of the introductory offer to good effect. In the six month interest free period I sat back and did absolutely nothing to tackle my credit card debt. I should have looked on this as a window of opportunity to make serious inroads into my debt so that when the interest free period ended there was no debt for the credit card company to charge interest on.

If you have a low interest period on a loan, credit card or mortgage then use it to good effect because you can be certain that when the interest free period is over you will face higher repayments.

I can understand why someone buying a house would like to avail of the interest only option. When moving house there are lots of new things that may need to be bought and unforeseen expenses that can occur. That said I think that it would be prudent to start working backwards from when the introductory period ends.

As mention above you should find out what the new repayments will be after the introductory offer period ends. With this new worse case scenario repayment figure in mind you should start budgeting your finances accordingly.

For example if you currently repay $600 on your mortgage but you know that in 18 months that it will reset to $750 then you should start to budget your current finances on the basis of the new figure of $750 even if it is 18 months before the new rate kicks in. Start paying the new rate of $750 now. Don’t wait for the rates to reset in 18 months.

The logic is simple, by the time the new rate kicks in you will have adjusted your finances accordingly and the payment shock will be neutralized. In effect you are bringing the payment shock forward and allowing yourself to deal with it on your own terms.

In the example above there is a difference of $150 between the current payment of $600 and the project rate reset figure of $750. When you start to budget your finances using the new figure even though it is 18 months before you actually need to start paying $750 you should save the difference of $150 and place it in an account only to be used to help you smooth out the transition to the new higher rate.

Payment shock – the real key to avoiding it.

In my article called ‘Prudence in all matters relating to your debt’ I made the point that to be prudent with your finances you should expect more bills and expect less income. To avoid payment shock you should apply the prudence principle. If you estimate that your repayments after the rate reset will be $750 then you should budget for $800. By doing this you are allowing for any hidden or unexpected charges.

The only real way to avoid payment shock is to go for the fixed rate option where you repay principal plus interest each month. You know exactly what your repayments will be for the entire period of the loan. It may cost you more initially but in the long run you avoid any payment shock that could throw you financial plans into disarray.

Finally if you are caught on the wrong side of a payment shock like I was don’t just sit there looking at it. Get the calculator out and start doing your sums. Contact the lender and ask for help. Research your options on the internet. Take action. Get moving on it and keep moving on it. Come at the problem from different angles. More often than not a few choice cuts in your budget can help soften the blow.

Just remember that the faster you move the less of a shock it will be.

Rewards for when you pay off a debt – why cost free ones just don’t cut it

Sep 022008

Recently a reader made the comment that when trying to achieve a goal it is important to have a reward in mind so that it will act as a motivating force to help you achieve your goal. This got me thinking.

I couldn’t agree more about having a reward once the goal has been achieved. It will act as a powerful motivating factor.

Now here comes the tricky part. Imagine that I have a short term goal of paying off my credit card bill of say $1000. To motivate myself I use all the usual techniques. I write down the reasons why I should achieve this goal. I write down how I am going to achieve this goal. I visualize myself achieving this goal. I tell myself daily that I am making progress towards this goal.

But how will I reward myself when I achieve this goal?

I could give myself a nice pat on the back and say well done. The nice feelings of warmth and accomplishment should be reward enough. But for many this is not enough. For many there has to be a hard tangible reward at the end of the goal.

And this is where we have a problem.

Hard tangible rewards of value cost money. When trying to achieve a financial goal such as paying off a debt then the last thing you need is to be reward with something that put you in debt in the first place.

If we go back to the $1000 of credit card debt that I mentioned above, now imagine that I accumulated this debt by spending on the latest gadgets. Now imagine if my reward for paying off my debt was to be a small gadget. This gadget wouldn’t necessarily cost that much but it would be a good reward and motivator right?

Or take the case of a woman who has credit card debt caused by excessive clothes shopping who decides to reward herself for paying off her debt with a shopping spree.

The problem here is two fold.

First you are sending mixed signals to your brain. On the one hand you want to pay down your debt which was caused by overspending yet on the other hand to help you do this you are going to reward yourself with more spending. From a long term perspective this behavior is not useful when it comes to changing habits.

This leads to confusion at a subconscious level. Is overspending good or bad? It must be bad as we are trying to eliminate debt related to it or it must be good as we are being rewarded with it when eliminate the debt? Confusing eh?

The second problem is that if you do use a monetary reward to motivate then where do you draw the line? I saved $50 dollars this week so I deserve a reward worth $20? The monetary based rewards that you give yourself will probably be relative to what you achieve (as they should be – you don’t want a $5 reward after paying off your mortgage – more on this later). But how relative they are to the goal is completely arbitrary and at your discretion. What you might think of as an adequate reward someone else might thing of as excessive and takes away from the original goal.

The real problem – Value.

In order for a reward to motivate you it has to have value. Or put more accurately you have to value the reward. This is an important distinction. A one ounce bar of gold has a certain value – it can be easily defined by checking its price on the market. However something like a trip to the local amusement park has both a monetary value and an emotional value. The memories that you create on that trip will last long after the trip has finished.

Emotional value is the key.

The heading of this article states that cost free rewards simply won’t cut it when it comes to motivating. If the reward was free then why wait until the goal is achieved? Why not just take this non-monetary reward and have it now? Why not watch your favorite TV show when it comes on regardless as to whether or not you have achieved your goal? You may feel guilty for a while but who cares right? It didn’t cost you anything.

I know some readers will argue that it should always be cost free rewards. I would argue the same for small goals. However when it comes to monster goals like becoming debt free then I would suggest that the reward be made up of something that you would really really value. What I mean by value is emotionally value.

Would you like to get a family portrait or visit your favorite city for a weekend break as reward? These things cost money but the key thing is that the emotional value to you has to be large. You have to really want the reward and value the reward before it will ever motivate you.

But didn’t you just say that monetary rewards were bad?

The point I’m making here is that if you really really value the reward on an emotional level and not on a monetary level then the reward itself is a good thing even if it cost a few bucks. By valuing the reward on an emotional level you are in effect saying to your subconscious – ok there are costs involved here but I have worked my butt off to get here and I place huge emotional value on this reward. I deserve it.

How much to spend on your reward is entirely arbitrary but to be honest I would never want to spend anything more that 5% of the goal amount on the reward. Otherwise you really are defeating the purpose. For small goals I would try to stick to the cost free rewards but even a nice cup of coffee has a cost so again try to stick to the maximum of 5%.

Think of it another way. If you want something that costs $50 then set that as a reward and have the goal of saving $1000 to justify it as a reward. 5% of $1000 is $50 so  $1000 is your target. It’s just a different way of looking at it.

Will I charge my reward to my credit card?

No, that would defeat the purpose. Before you set out to achieve your goal you need to define exactly what your reward will be and how much it will cost.

This cost then needs to be added to your financial goal. So if your target is to pay off $1000 in debt and your reward is going to cost you $50 then you need to have an actual financial goal of raising $1050 – your original target plus your reward. At least that way you will not go back into debt to reward yourself for getting out of debt.

Laugh in the face of debt

Sep 012008

What’s the point in being miserable all the time?

At any one point in our daily lives there are a multitude of things that we can get worried and stressed about. On a grand scale things like terrorism, climate change and the economy will serve up stress. On a smaller but more important scale are the individual fears and worries that we all can have, things like work, relationships, money and in particular debt.

Combine all these things together on any single day and you have a recipe for major stress. By major stress I mean that sick in the pit of your stomach feeling like you are floating on a stormy sea of stress with no beacon of light or hope to guide you, nothing around you only miles and miles of stress.

Not a pretty image.

That said I don’t want to dwell on the negative for too long. I want to speak about a mental approach that can empower you on stressful days. In my article “The dark depressing days of debt” I spoke about how diet and sleep patterns can have a huge impact on your mood. The aim of that article was to help you to stabilize your mood. Now I want to take it to the next level.

What next level?

In my mind the next level up from stabilizing your mood is the level where you are feeling good enough emotionally and physically to start thinking about your debt and the positive actions you can take to get control over your finances.

This site is full of the positive actions you can take to make your finances better so I won’t go into them in detail here. What I do want to discuss is how to boost your mood when the world seems to coming in on top of you.

Laugh in the face of your debt

You’ve probably heard the phrase “laugh in the face of adversity” well I want to change this to “laugh in the face of debt”. A little corny – ok I’ll give you that but I think if you can put aside your reservations and think a little more about what the spirit of the saying “to laugh in the face of adversity” is all about.

To laugh in the face of adversity basically means to take anything that life throws at you and throw it right back.

The following link contains an article that very clearly demonstrates the link between laughing and stress relief – Laugh in the face of adversity: I’m not kidding. In this article the author makes the point that “Humor provides the unique opening to move forward on a positive note.”

To me this just about sums up everything that is good about laughing at your situation.

When I say laughing at your situation I don’t mean a kind of sarcastic and cynical laugh. I mean a good hearty laugh at what has gone wrong. When you laugh at your situation it has to be from a fun and positive perspective – laugh at the silliness of it all. Laugh at how silly you are to be worrying about things that are beyond your control. Laugh at how crazy money makes people.

If you can do these things and adopt a positive relaxed yet proactive attitude to your debt then I can almost guarantee that you will be laughing all the way to the bank.

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