I n our journey towards early retirement, we believe saving money is not enough. Adding to our stash is key, of course, but preserving our capital is equally important. Here is a list of 9 money mistakes that we believe can hit our net worth quite bad, and what we are doing about them.
Disclaimer: these are just our personal opinions and nothing in this article (or this blog) constitutes financial advice. We are not financial advisors. If in doubt, please seek professional advice!
Buying a new car
For many people, buying a new car is not just exciting, but also an achievement and a status symbol. Unfortunately, a new car is probably the King of net worth destroyers. The amount of money involved, together with the depreciation rate, just makes it a very poor investment.
According to the Automobile Association, a new car will lose around 60% of its value in the first 3 years. On top of that, it has a never-ending list of additional costs associated to it: running costs (petrol, oil, etc), maintenance costs, insurance, road tax, parking permits, plus any interest you pay on a payment plan (if you have one).
There are obviously situations where a new car is needed. For example if live in a remote location, and/or you want to increase the safety and comfort of you rides by accessing the latest technologies.
However, the average driver will do less than 6,000 miles per year. From a purely financial perspective, pretty much anyone might be better off by just renting a car or taking a taxi when needed!
The Fam’s Perspective: We own an old car, which we use irregularly as we live in central London. We have decided to keep it while it’s still useful, in good shape and its cost are manageable, but we’ll sell it the moment this is not the case anymore. If we were to buy a new car, we would definitely buy a 2-3 years old car (so when the worst depreciation has already happened), with the aim of keeping it long term (10 years or more).
Keeping credit card (or other high interest) debt
Besides their main purpose (lending money), credit cards are really useful for the additional benefits they usually provide: loyalty points, cashback, purchase protections, etc. However, none of them is worth the incredibly high interest rates they command. Some people think it’s OK to keep their credit card debt (at 19% or more) and invest their spare money in shares or other activities instead. Wrong! Unless your investments generate higher returns than what you pay in interest – and in that case you’re a financial genius – the only way forward is to repay any debt before you do anything else.
The Fam’s Perspective: We own and use credit cards. We do this to exploit the benefits they offer (every year we get around £400 in cash back money, for example). However, we are extremely careful to pay the balance in full every month. We have a direct debit setup so we never miss a payment and we never have to pay those astronomical interests. By the way: if you are 1 day late with your payment, you don’t simply pay 1 day of interest as you would expect: you pay interest from the beginning of the previous month, so 30 days! Ouch!
Not investing your money
The situation is quite simple: inflation will eat away your savings, year after year, if you keep them under the mattress. Anyone who doesn’t need the money in the short term should consider investing their savings to – at least – preserve their value. Obviously, don’t forget to keep an emergency fund. Experts suggest at least 3 months worth of expenses (although the majority would suggest 6 to 12 months).
The Fam’s Perspective: Our emergency fund covers around 6 months worth of expenses. On occasion it can reduce to around 3 months, but we’re comfortable with this as we’re both still earning a regular salary. Pretty much everything else is invested in shares and funds.
According to research, in 2015 UK households generated 7.3 million tonnes of wasted food, or 112kg per person. The value of food thrown away was a staggering £13 billions. This is a lot of money, especially considering an estimated 4.4 million tonnes were avoidable!
A quick calculation tells me that if each person were able to save just the ‘avoidable’ waste, they could save £120 per year, or around £500 for a family of four. With proper planning the saving can be even higher.
The Fam’s Perspective: Of all these money mistakes, this is the one we keep making! There are so many ways our groceries shopping can be optimised. We usually buy in small batches, and given we are usually in a rush when we do our shopping, we tend to pay less attention to prices. I believe early retirement will help us fix this, as it will give us more time to plan our meals and shop accordingly. However, we want to tackle this sooner than that – stay tuned!
Having the wrong money priorities
When deploying money, the aim should be to maximise your returns. In the real world this means increasing your earnings while reducing your expenses. However many people seem to ignore this rule completely, and do any of the following:
- Instead of killing their debt as fast as they can, they prefer to repay the minimum and invest the rest in shares/funds/whatever, in the hope their returns will be higher – which almost never happens.
- If they have several liabilities (say, credit card, car loan, mortgage), they make overpayments on all of them at the same time.
It is obviously advisable to never miss a payment on any debt but, other than that, the rule should be that any extra money should be used to tackle the most expensive debt first, and only when that’s cleared, start using surplus money to tackle the lesser expensive one, and so on.
The Fam’s Perspective: We have chosen to stay away from debt. We never got a mortgage, we always pay our credit card balance in full, and were lucky enough to finish uni without debt.
A few years ago I borrowed some money to invest it. Despite making a good return on it (20% in 18 months), I realised it wasn’t a good idea to invest borrowed money. So I sold the shares, repaid the debt in full, and reinvested the profit.
Paying too much tax
The taxman will always try to get a slice of what you have. Your task is to minimise that slice (in a legal way, of course!).
Many countries offer tax efficient ways to save money, for example by investing in tax sheltered or tax deferred accounts, or children’s savings accounts.
Another one which a surprisingly high number of people ignore or fail to use is the Capital Gain Tax Allowance: in the UK, the first £11k of capital gain in any given year is tax free – but you have to remember to sell some of your assets to crystallise the benefit. otherwise you lose it.
It is well worth spending some time and money to talk to a tax specialist about this. Their fee will be paid back in a very short time by the increased efficiency you can get.
The Fam’s Perspective: Every year we make sure to use the Capital Gain Allowance, and to maximise our contributions to our ISAs. We have maximised our pension contributions during employment (as our employers would match that); however now that we are self-employed, we have stopped contributing as the fiscal benefit is lower and we prefer to retain control over our money. However, we have decided not to contribute to children’s savings accounts, despite being tax-free, as we want to retain the ability to decide if/when to give them money.
Gambling your money
The general rule is: the less control you have over the outcome of your investments, the more you are risking your money. The extreme example is playing the lottery, where you have no control whatsoever over the outcome, but it should also include any type of investment where you don’t really understand what you are buying (eg. complicated financial products, business ideas that are not fully proven, etc.). Having said that, if you never play, you never win. So you need to find the best balance between preserving what you have (eg. never risk it) and giving yourself the chance of making some money.
The Fam’s Perspective: As I mentioned previously, we invest pretty much all of our money in the stock market so, in a way, we are constantly ‘risking’ it. However we always do so after researching the companies we are investing in, in an attempt to decrease the amount of risk. We also keep our portfolio diversified, because we don’t have a Crystal ball and, as Warren Buffett once said, “Diversification is protection against ignorance“.
Now, to demonstrate we also make money mistakes, I have to admit we do sometimes play the lottery! Just the minimum though (eg. £2 per week). Sometimes it’s nice to dream 🙂 Of course, we have never won anything!
I don’t think there is anything as bad for your health and your finances as smoking. A quick calculation goes like this: 1 packet of Marlboro a day (around £10) for a full year will set you back a whopping £3,650. If you invested that money at 5% interest, it would increase to £15,775 in 30 years. If you did it every year, at the end of those 30 years you’ll have around £255,000.
Having said that, someone with a twisted mind might counterargue that the more you smoke, the shorter your retirement is likely to be, so you probably won’t need that money anyway 🙂
The Fam’s Perspective: We don’t smoke, and we are looking forward to those £255,000 in due course! 🙂
Not tracking your expenses
If there is something worse than destroying your own wealth, is to do it without even realising it. Uncontrolled spending is a recipe for a disaster. “What gets measured, gets managed”, someone said, and in this case measuring it is so simple one doesn’t really have an excuse for not doing it.
The Fam’s Perspective: We definitely had a problem with uncontrolled spending. We fixed it around 12 years ago, when we devised a super easy way to track our expenses, and we’ve been sticking to it since. Incredibly, just adjusting the timing of our expenses, made us increase our savings – basically with no effort.
More money mistakes?
So here it is, our list of things that can destroy our net worth! There are of course many more money mistakes one can make (and I will add to this post soon!). Have we missed anything? Which ones do you think are the worst?