6 Financial Mistakes you Might be Making

We talk to a lot of people about their finances these days, and see some pretty common mistakes being made. All of these are easy to fix, and yet most people seem to be committing at least one. Are you?

1. Paying the minimums on your credit card statements.

We say this all the time at @readyforzero, because it bears repeating: paying the minimums on your credit cards costs you a ton of money in the long term. Even paying 10 or 20% above the minimum will save you a pile of cash.

This great infographic, from Visualizing Economics, shows the difference that paying above the minimum makes.

2. Not carrying an emergency buffer.

Whether you’re getting out of debt, saving up, or just humming along, keeping an emergency buffer is essential. Life will always throw an expensive wrench in the gears right when you’re not prepared for it. Unexpected misfortunes like a lost job, an auto repair, or a family member in need can put you in a downward debt spiral if you don’t have cash on hand.

A $1000 buffer should be the minimum. If you can afford it, figuring out and saving 3-12 months of living expenses is even better, especially considering today’s job market.

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3. Keeping a low-return investment while paying high-interest debt.

Do you have a short term investment such as a Money Market account or CD that is returning a single digit percentage, while carrying credit card debt that costs you double digits? It often makes more sense to pull the investment and use it to pay off the debt rather than leave things the way they are.  Unless that money is saved as an emergency fund, take a serious look at whether you should use the low-yield investment money to pay off the high-cost debt.

Here’s a simple scenario to show how this helps:

Imagine you have a $2,000 investment that returns a 5% yield, and a $1,000 debt that has a 20% interest rate, like a credit card. So, your net value is the difference between the two, $1,000. Let’s ignore payments and paychecks to keep this simple.

Scenario A: If you do nothing for 3 years, the investment will grow to $2,313.31, but the debt will grow a lot faster to $1,783.41. Your net value will be $529.90. In other words, you lose money.

Scenario B: If you take $1,000 from the investment and use it to pay off the debt, the $1,000 remaining in your investment is all that’s left. It will make you money for three years, and you will end up with $1,161.40.

4. Buy high, sell low.

Chasing bubbles, as we’ve all seen from the 2008 market crash, is a risky business. When many people have flocked to a single type of investment, be aware that it can collapse when they lose faith in it.

The housing bubble worked this way. When everyone, their mother, their nephew, and their dogs are making thousands of dollars playing with large investments (such as flipping houses), it’s time to step back and evaluate whether it’s a good market to be in. Or, as Warren Buffet put it, “Be fearful when others are greedy; be greedy when others are fearful.”

Here’s an example of how people can rush to and from purchasing gold: look at this graph of the price of gold over time, adjusted for inflation.

In 1980, you might have looked at the skyrocketing gold price and thought, “I need to get in on this!”. A year later, in 1981, you’d have lost half your money. Look at the current price of gold and ask yourself, “is now a good time to buy?”

5. Not watching your credit report.

Your credit score determines the rates you can get loans at, or whether you can get them at all. Additionally, landlords, phone companies, and other entities can look at your report to decide whether to offer you their services. Identity theft is generally used to take out lines of credit in your name, and this shows up on your credit report. You should keep an eye on your report, looking out for suspicious activity.

There are a lot of scammy sites offering “free” credit reports out there, but the real site that gives you your credit reports is annualcreditreport.com.

6. Not asking *why*.

There are a lot of people and companies out there offering you financial products and advice on what to do with your money (including ReadyForZero!). You should always ask why they’re giving you this. What do they stand to gain? Not everyone is out to get you, but it’s important to understand what’s going on behind the scenes.

Examples:

  • Why is the credit card company mailing me checks that will pull from my credit account?
    The APR is higher for these checks, and they know I’m likely to pay my rent with them.
  • Why is some random person on the internet trying to show me their “secret technique” for making $1000 per day from home? Why are they paying for advertising on other sites?
    If someone actually knew such a secret, there’s no way they’d pay for advertising or share it with everyone else. The “secret” is that it’s a sham, and they want my money.
  • Why—and how—did a Nigerian prince find my email and promise to cut me $200,000.00 for helping him move some money around?
    This would never happen and I’m being scammed.

Have you seen any other common financial mistakes? Leave a comment and let everyone know.

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  • http://blog.millsbaker.net Mills Baker

    This is wonderful, and I imagine (3) in particular will help many; because we’re encouraged to invest as an almost moral imperative to “prepare for the future,” many are unwilling to withdraw funds from such uses to pay down debts, even when it’s manifestly prudent.

    • http://twitter.com/lorenbaxter Loren Baxter

      It’s also hard to invest in a system that seems more and more broken. If you have a mutual fund, have you ever looked at its holdings? I dug into mine and hey, I’m invested in Phillip Morris and Lockheed Martin. I don’t believe smoking or advanced weapons are good for society, yet unconsciously support them in many ways.

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