This article first appeared on Huffington Post.
“Spend less, save more.” You may find yourself chanting this mantra as you total up receipts and strive to get back on track after a season of generous gift giving. To turn this intention into reality, you may decide to turn to the latest best-seller and/or the Internet in search of solid financial advice.
But beware! Before you dive in — bank account first — you should know that even the “best” financial advice might not be what’s best for you. Taking advice at face value, or blindly following one rule or formula, doesn’t do anything to increase your financial know-how. Long-term success will only come when you learn the rationale behind the advice and then decide for yourself if you should take it (or leave it)!
Here are just a few reasons why you might want to ignore some of the most prevalent financial advice.
Tracking Your Spending Can Set You Up to Fail
Deciding to put spending parameters down on paper is the easy part. Incorporating that plan into your daily life is where it gets tricky. While tracking your dollars and cents can help you identify wasteful spending, it is not always the best tool to change your spending habits.
Little things — a daily cup of coffee, an extra tank of gas, or an impulse purchase of a great pair of shoes — quickly add up to be big budget sabotagers. So, if you don’t remember to write down every penny you spend (and it’s highly probable you won’t), your attempt to budget will fail.
Instead, set a limit on out-of-pocket expenses and establish an all-cash policy for daily purchases. You won’t need to track your spending to realize that you just blew your budget: Your wallet will do all of the talking for you. Unlike a credit card, when cash is gone, it’s gone.
Spending “Fun Money” Isn’t Always Fun
It’s not uncommon for financial experts to suggest that a portion of your income should be designated as “fun money.” In fact, one well-known author advises that as much as 30 percent of your paycheck can be used to “play with” — to spend on frivolous things, or even “to flush down the toilet.”
If you were naturally good with money, you likely wouldn’t be in search of financial advice. So, to suggest it’s wise to do whatever you want with 15, 20, or 30 percent of your income is simply irresponsible.
Instead, educate yourself and learn the consequences of your spending. Equip yourself with the tools you need to make better monetary decisions. If you knew the REAL effect that buying a designer handbag had on your future (e.g., less money for retirement, a smaller emergency fund, less capital to invest in yourself to improve your earning power), my guess is you wouldn’t do it!
It is all about the opportunity cost of your “wants,” and what you could have done with those dollars if you hadn’t wasted them on items that will likely be featured at your next garage sale.
Not All Debt Is Bad
A recurring message from one highly regarded money coach is that debt is bad. It doesn’t matter if it is a high-cost credit card charging 15.14 percent interest, an auto loan at 1.9 percent interest, or a mortgage creating a much-needed interest deduction on your tax return. His instruction is the same: Pay cash for everything!
My response: He is wrong. Not all debt is the same, and not all debt should be treated that way. It all comes down to its cost of capital (the interest rate being charged). If the terms are right, leverage can be a great way to put otherwise illiquid cash to work to build your net worth.
For example, given today’s low auto loan rates (often 1 to 2 percent), paying cash for a car may not make the most economic sense. Yes, it is generally better to avoid having a monthly payment; however, it’s not always best to tie up cash in a depreciating and illiquid asset, especially when it could be put to much better use in an investment earning 7 percent (which is the S&P 500’s average compound annual growth rate over the last 40 years).
Bottom line: Don’t simply rely on someone else’s “rules” to make sound financial decisions. Educate yourself instead. A comprehensive understanding of the “why” and the “how” behind any advice will help you gain control over your financial decisions. This is always preferable to following a herd, which can be led by some not-so-great advice.