I’m continuing my little series of financial mistakes (you can have a look at all the entries here). Last time I talked about how credit card debt can be detrimental to FIRE, and how to outsmart the banks.
Today I’m going to talk about something which is connected to that.
Having the wrong money priorities
When deploying money, the aim should be to maximise your returns. In the real world this means any combination of the following: (a) increasing your earnings and (b) reducing your expenses. In my mind, (a) is more important and should be prioritised if possible. In any case, many people seem to ignore this basic concept completely, and do any of the following:
- Instead of paying off their debt as fast as they can, they prefer to repay as little as they can and invest the rest of the money in shares/funds/whatever, in the hope their returns will be higher – which almost never happens. Take credit cards as an example, as we discussed previously: if your credit card costs you 19% in interest, are you really sure your investments will bring in more than that? If not, better pay down the debt first.
- 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 Family’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.
Are we going to make this mistake?
A few years ago I borrowed some money to invest it. Despite making a good return on it (20% in 18 months), I realised there was simply too much risk in this strategy. It’s all well and good when things go well and markets go up, but when the markets go down it’s a double whammy: losing money on your investment and pay interest.
I was lucky to learn the lesson without losing any money. It’s certainly a mistake I won’t repeat.
…More money mistakes?
Check out the full series here.