Fueling Financial Errors
Finance in general has been based on rational and logical theories, and for the most part tends to be somewhat ‘predictable’. Financial theories assume that people behave rationally and predictably, and that outside factors and emotions do not influence people when it comes to making financial decisions.
The fact is, people do behave irrationally and differently in the real world. Starting in the 1990s, research by psychologists and other scientists found that the human brain has difficulty assessing risk and possibilities. Because we have emotions that affect our decision making process, we make irrational decisions when it comes to our investments. We also react stronger (it’s painful) to financial loss, than to gain. These new findings have led to a new science called ‘behavioral finance’, which seeks to explain our actions.
In thinking about yourself, how do you react to market commentary on TV, or to ‘Herd Instinct’ of wanting to invest in something because everyone else is investing in it? When the market declines do you become fearful of the loss (it’s painful) and want to sell everything, or hold onto something that seems ‘safe’ because you don’t need to think about it even if you aren’t making anything on the investment?
Discussing your fears and financial dreams with me will give both of us a better understanding of what may fuel bad decisions that lead to financial errors that you may not recover from.
When Cash Is ‘King’
Just like in a movie, ‘flashing cash’ really can make a difference! It doesn’t make a difference on how you should be treated by someone, but it does make a difference on what you may pay for something. Because of the fees that retailers have to pay credit card processors for the ‘convenience’ of accepting credit or debit cards, more are offering a ‘cash discount’ if you pay with cash (the paper kind of cash that has former presidents on it). Because fees can range from 2% to 5% of the sale or higher for each transaction (card swipe) anything the retailer can do to cut fees and keep more money in their pocket can save you. When paying cash, all you need to do is ASK and the following may be possible:
Home purchase: no closing fees or 1-2% reduced from asking price. Cash sales equal fast closings making all parties happy (Realtor.com)
Furniture: 15% discount for cash
Car Purchase: Varies by dealership and is up to dealership (GM).
Alternative Credit Scoring
In developed countries, obtaining credit is always based on history of borrowing. It’s a cycle of needing to have debt in order to gain more gain debt, or being able to borrow because you’ve borrowed before. What isn’t always considered with traditional credit scoring is payment history of simple things like rent, electricity bills, phone bills, or even medical bills. Medical debt reporting was agreed to be removed by the three major reporting agencies, Equifax, Experian, and TransUunion from credit scores through an agreement in March 2015. This change will take place nationally over the next three years.
What happens when you need to have a credit report in order to qualify for lending, housing, or services but have no history? You may be denied if a credit report can’t be obtained showing your credit history. Credit reports and FICO scores, which lenders use as a determination of credit worthiness, don’t show that you have cash flow and make payments on time. Because FICO concentrates on debt for their scoring, it isn’t working for many people that are working to build traditional credit, such as recent graduates.
There are alternative reporting sources that have started in the US due to these issues. Under the Equal Credit Opportunity Act which prevents against credit discrimination, lenders are required to consider information provided by applicants, even when it is not provided through a FICO score.
eCredable helps consumers contact previous companies they made payments to on time to verify their history in a written report for a fee.
Happy Mango utilizes technology to pull financial history that shows positive money management into their reports that are not focused on credit use. Happy Mango is a free service, but consumers need to opt in to have their information pulled into this report.
Under Federal law, both of these reporting sources have to be considered by a lender when no credit report exists on the individual.
Senior Debt
Many people discuss not having debt going into retirement, but the statistics show that advice is not being taken seriously by retirees (Employee Benefit Research Institute). In 2013, the average household debt for someone over 55 years old was $73,211. With the latest survey published in March 2015, 17% of retirees are reporting that their debt is higher than it was five years ago. 44% of retirees reported that debt was a problem for them in retirement.
What are the causes of this growing problem? The issue that has the largest percentage of debt associated to it is either purchasing a new home in retirement, or not having your existing home paid off prior to retirement.
The second cause is people assume borrowing at low interest rates instead of paying with cash is a smart financial move. The risk is that if the market takes a dive, seniors won’t be able to make their payments. Because some of the portfolios were never re-evaluated for risk factoring in a client’s longevity or their current financial situation, many are still positioned to take a dive downward in value each time the market drops such as it did in 2008.
By developing a plan to reduce your personal debt and re-evaluate your portfolio’s risk, we can help reduce your chance for debt problems during retirement. Because people are living longer into their 80’s, 90’s, and beyond, your portfolio and savings has to last longer.
