The 2 Big Financial Mistakes Most People Make

June 06, 2014

My daughter’s favorite animal is the koala bear and that was never more apparent than when she and I went to the San Diego Zoo and saw the koalas there. Her reaction: “KOOOOAAAAALLLLLAAAAASSSSS!!!!!!” – if I recall correctly. We talked about koalas and why they hug trees. We had no idea, but now with this article we know the answer.

They hug trees to help cool themselves and maintain their hydration levels. When they get hot, they pant and that expels hot moist air from their bodies, which can lead to a bit of dehydration. Since they eat eucalyptus leaves, which can be toxic in high quantities, it’s important for them to maintain hydration.

As temperatures rise, it’s possible through panting alone for a koala to lose hydration, increase the toxicity of the eucalyptus leaves and create health issues. Hugging trees cools the body since the tree is cooler than the air temperature and allows the koalas’ bodies to maintain a nice equilibrium point. So what are some of the things that raise your environmental temperature and what are your tree hugging ways to get back to equilibrium?

There are two “mistakes” I see people make that are completely fixable and would reduce financial stress on a monthly basis and help establish a better equilibrium point. They are entirely “normal” in the course of most of our lives and with just a few minor tweaks to how you manage these expenses, you could transform your budget and financial life the way I see infomercials promise you can transform your body if only you buy their video series, pills, drinks or pieces of exercise equipment. So where can you make the biggest impact on your financial life?

The cost of housing. By far, the number one expense I see in family budgets is the cost of housing. Whether it’s a mortgage payment or rent, it’s usually the single biggest expense that a person has. Of course, there are exceptions but they are rare. I see a lot of “experts” out there recommend that your housing budget be less than 33% of your gross income. And most people spend right up to that amount (if not more) because we like to live in a nice place. But if you contribute 10% to your 401k, lose 30% to taxes and pay 33% of your gross income for housing, that leaves just over 25% of your income for the rest of your expenses. Cars, gas, food, utilities, student loans, credit cards, vacations, SAVING for emergencies or other goals…that ALL has to be done on ~25% of your income. Good luck with that! But that’s what the vast majority of people I’ve talked to over the last few decades have done with regularity and it’s caused problems. The solution??? Instead of 1/3 of your GROSS pay, try to keep your living expenses to no more than 25% of your take home pay. That’s a conservative position, but it can prevent feeling house rich but cash poor, which leads to either a less than satisfied feeling with life or it can prevent the accumulation of debt which creates an entirely different set of problems. I hear, sometimes from my own mouth, financial planners talk about how little things (the Starbucks trips, packing lunch vs. buying lunch, etc.) can make a big impact over time. I totally believe that! But, I also believe that changes in the BIG things can make an even bigger impact, yet that’s the thing that planners rarely discuss because so many people feel a sentimental or emotional attachment to their home. Living in a significantly lower cost place may not be something that you’ve ever considered, but if you do it could yield tremendous benefits long term.
The cost of transportation. More times than I care to remember, when I talk to a person who is struggling financially, they have a car payment that is $400-$800/month and they have 3, 4, or 5 years left to pay on it. And they have less than $500 in a savings account for emergencies! But, the car is bright & shiny and really cool. Just to put some numbers around this, my daughter needed a car recently so that she can get to/from college and work. With her needs in mind, I went out shopping for cars and found a very nice, very safe, luxury brand car with ~60,000 miles on it (and it should last long enough to have 200-300k easily) and with $0 down the payment for that car is less than $250/month. For people who are struggling, to pay significantly more than that on a car payment seems like a major mistake to me. It doesn’t foster an environment for success. But people love their cars. The funny part to me is that as a financial planner, I’ve never really been a car guy. Given enough time, virtually every car will become worth $0 eventually. They are depreciating assets. Sinking money (buying an expensive car is NOT called investing in a car) into a depreciating asset is against all the rules of sound fundamental personal financial management. Yet, second only to overpaying for a roof and running water, it’s the next biggest mistake I’ve seen people make consistently over the last 20 years.

Young, old, rich, poor, and anything in between…the mistakes all look the same. With extreme consistency, Americans spend far too much of their limited budget (even Bill Gates & Donald Trump have some limited budget, although their limits might be a wee bit higher) on housing and transportation. We love houses and cars. There are entire TV networks devoted to those thing.

If you are looking for a way to reset your equilibrium point and if hugging a tree like the koalas doesn’t do it for you, maybe re-thinking your next big financial decisions/commitments can help. Big changes have bigger impacts than small ones. Maybe you could give that a shot!