Joanne Bear – Financial Consultant Asheville Savings Investment Services
Colin S. Larsen – Director of Personal Financial Strategies Colton Groome & Company
Laura C. McCue – CEO/President White Oak Financial Management, Inc.
The Capital at Play Financial Column, of which this is the third installment (previously: “Young Money” and “70 is the New 50,” financial suggestions for younger and older investors, respectively), is intended to offer our readership timely advice while opening the doors to an ongoing conversation that we hope will be relevant to your lives. But let’s face it, discussing financial matters can be perilously dry at times. So this time around we thought we might loosen our ties and lighten things up a bit—not in a flippant sense, but simply to keep the aforementioned conversation lively and, well, conversational. Let’s talk, then, about financial irresponsibility—what is it, and how to avoid it, which is something anyone who’s ever gone out and blown a financial windfall on extravagant new “toys” or frittered away savings by placing risky bets on the stock market can probably identify with.
CAPITAL AT PLAY: How would you define the (admittedly vague and subjective) term “financial irresponsibility”?
COLIN: “Financial irresponsibility” might be defined as taking actions with money that are counterproductive to a balanced pursuit of one’s lifestyle and financial goals. Some examples of frivolous or “irresponsible” spending might be: using excessive credit, spending money to impress or attempt to acquire status, failing to “pay yourself first” (i.e. save) before making expenditures for immediate gratification.
In what key areas should I first have my financial house in order before I decide to spend some of my money purely on “toys” (high end tech gear and vehicles), self-improvement (that long-overdue nip/tuck on my butt, a meditation getaway with my guru), or sundry recreational pursuits (hang-gliding, African safaris, reservations on Mars shuttles)?
LAURA: The first things to consider before you start spending money on “toys” are your emotional values that are most important for you to experience. Values fulfill and satisfy you. They are all about being. Examples are security, freedom, good health, time with family, choice, sense of accomplishment, helping others, making a difference, leaving a legacy, etc. Your goals describe what you will achieve and accomplish in order to experience those values. They are about doing and having. Your values are your reasons for everything you are committed to achieving in life. Once you know what your most important values are, then you can define the measurable goals that need to be met or satisfied to fulfill those values. You should be successfully working your investing and savings plan to meet those goals before you start thinking about spending money on “toys.” If you know that you have money available above and beyond necessary emergency savings and investment, then go for it!
JOANNE: While it is important to have fun and enjoy the finer aspects of life, you need to make sure it is not at the expense of having your financial house in order. Time marches on rather quickly, and if you’re too busy “playing” and not paying attention, you may find that you wake up one day and regret the fact you didn’t take the time to prepare for your golden years. Get in to the habit of setting aside a percentage of your money—a “pay yourself first” strategy to avoid the consequences of the “should’ve, would’ve, could’ve” regrets. Key plans to contribute to would include a savings account for any unexpected bills or emergencies. Just how much is enough? I recommend having between three and six months of living expenses readily available in cash for emergency purposes. You should also be consistently contributing to a retirement account. Annual limits for individual retirement accounts in 2016 are $5,500 ($6,500 if you’re aged 50 or older) or if your taxable compensation for the year was less than the maximum contribution amount. If you are lucky enough to have an employer that offers a match on their 401k, then be sure to take advantage and invest at least the minimum amount to receive your employer’s full match percentage.
COLIN: Areas to focus on before spending money on “toys” include: (1) having a reasonable cash reserve (three to six months of living expenses); (2) a protection plan in place to cover the “Oh-oh’s” in life, including life, disability, auto, and homeowner’s insurance coverages; (3) prudent debt levels (prudent debt would entail debt taken on for long-term investments or assets—such as an education that reasonably expects to yield an income sufficient to pay back the debt, or a long-term appreciating asset such as a home or business); and (4) a savings/investing plan that has you on a trajectory to attain your long term goals (such as educate kids, support your favorite charity, secure your retirement income, etc.).
Time marches on rather quickly, and if you’re too busy “playing” and not paying attention, you may find that you wake up one day and regret the fact you didn’t take the time to prepare for your golden years.
I recently received an unexpected windfall that is equal to one-half of my annual income. What percentage can I spend frivolously, and what percentage should I save or invest?
JOANNE: Receiving a lump sum of money is an unexpected gift. First, you must assess where you are in your retirement plan objectives and timeline. This could be the perfect chance to address one or two of the worries that are possibly keeping you awake at night. Can you use some of these funds to perhaps ease some of those worries? Using the funds from an unexpected windfall is a great way to eliminate or at least relieve some of the concerns you may have—possibly setting you on the path to a more secure financial future. Once you are confident you are on course with your individual financial plan, I would say only then you should take a small percentage and have some fun.
laura: Unexpected windfalls are nice! It’s easy to get excited about spending found money. Before you do, be sure that you are comfortable with the amount of money you have in emergency savings, and that you are saving and investing enough to meet your financial goals. If thinking about whether you have enough emergency savings has been keeping you awake at night, or you have not even started investing to meet your longer term financial goals, or if you don’t even know what your goals are, then hold up on spending that windfall and put some thought into these things first.
Anytime you find yourself hearing a “pitch,” you should seek a second opinion from your financial advisor. Don’t allow yourself to get caught up in the “Buy High, Sell Low” phenomenon of chasing the winners once they’ve already peaked.
Friends, relatives, and associates frequently approach me with potential investments. Naturally they assure me that their proposals are sound. What are the main factors I should be considering when looking over these pitches?
COLIN: First, start by asking the proposer, “So, how much are you committing to the investment yourself?”. Then, dig deeper. Does the investment seem “too good to be true”? If so, there’s a good chance it is. Does the risk-return trade-off make sense within your overall investment portfolio strategy? If it is a high risk investment, can you afford to lose 100% of your investment without it impacting your financial future?
JOANNE: Well-meaning family, friends, and neighbors often share their enthusiasm about investments. Ask yourself the following questions: Does the investment align with your current investment strategy? Can you afford it? Are you emotionally investing? Anytime you find yourself hearing a “pitch,” you should seek a second opinion from your financial advisor. Don’t allow yourself to get caught up in the “Buy High, Sell Low” phenomenon of chasing the winners once they’ve already peaked. This will help you to have an opinion that is not based on the emotion of euphoric highs, and in turn may help you to avoid devastating lows.
My spouse recently passed away, and as a result I am the beneficiary of a $150,000 life insurance policy. I do want to spend some money on myself, but how can I make sure than I am not spending too much, too fast?
LAURA: Hopefully you knew about the $150,000 life insurance policy before your spouse passed away and you two had discussed the intent of having the policy death benefit. Is it intended to replace the earnings income of your spouse? To pay off debts such as the home mortgage? To pay final estate expenses? To help children pay for college? To fund possible long term health care needs? To create a lump sum to be used to fund some other goal or your retirement? Are these things already taken care of? If not, then it would be smart to talk with a financial advisor to determine what steps would be necessary to use this money to meet your needs.
JOANNE: The passing of a loved one is a very traumatic and emotional event. Being too emotional can sometimes lead to bad financial decisions. I generally recommend waiting for at least six months to a year before making any big decisions. Typically, when a spouse passes away, there tends to be a reduction in monthly income—and while it may be very tempting to spend some of the insurance proceeds on yourself, the better strategy may be to wait so that you have time to figure out what your monthly income and expenditures look like.
Every 10 years or so, it seems my wife/husband and I get the urge to move to a bigger home. But after the 2008 market crash, we realized we would have to take a 20-30% loss on our home if we decided to move again. The market seems to have stabilized somewhat, but we’re now worried that our pattern of regular “upsizing” is a risky one.
JOANNE: Upsizing for real estate returns can be an effective way to increase your portfolio. As you stated and experienced, there have been times when the outcome did not turn out positively. There are many things to consider when using this type of strategy as part of your overall investment plan. Doing your homework and making sure that the area where you live has a healthy real estate market is key. Also, how close you are to retiring should be a big consideration. Markets of any type, whether it be real estate or stock market-based, may fluctuate. I recommend that clients only participate in certain types of investments if their time frame for when the assets are needed will accommodate a recovery period if one becomes necessary.
I love to go on gambling junkets to Vegas twice a year. I don’t limit the amount I’m willing to lose, as that tends to mute my enjoyment. Should I be imposing a money limit?
COLIN: You bet ya! Vegas doesn’t prosper because the house always loses! Revisit the answer to Question 2, if it hasn’t sunk in.
LAURA: Las Vegas style gambling is for your play money. This is money that you can afford to lose. Before you go, you should determine what that amount is and stick with it. You should be doing this to have fun and not to make money for achieving important things like retirement or other goals that matter to you.
Investing in stocks and going to the casino to gamble are very different. The basic definition of both terms reveals the principle differences between them.
I have never gambled—no Vegas, no regional casinos, not even a poker game. However, I do think of myself as a semi-successful amateur stock market player. Does that make me just a glorified gambler?
LAURA: Yes, you are a glorified gambler. We are not supposed to tell you this, but the stock market is one big gambling game and you are playing with the big boys who know a lot more than you do. So without a reliable, proven system to help you to make good, tactical decisions and to help you know what is happening (not what is going to happen… no one knows that), you put yourself at risk of succumbing to your base emotions of fear and greed—two emotions that can be your undoing on the market roller coaster and that the media talking heads count on to keep you listening and watching. There are many systems available to help you manage investment decisions tactically so that you can remove much of the emotion from affecting your decision-making. I highly recommend that you find a system or an investment advisor who uses one successfully.
COLIN: Depends on how long you are holding your stocks—if less than five years, then “yes,” I’d say you are a gambler. If “no,” then you may in fact be a successful investor. But remember, everybody thinks they are “smart” when markets are rising, when in fact, they are more than likely just lucky. Don’t let past successes lull you into “betting the farm” on a single company. Diversify your holdings because even “great companies” run into trouble—think Kodak (missed the digital revolution) or BP (the Gulf oil spill).
JOANNE: Clients often enjoy the autonomy of picking and following stocks, and today’s technology has certainly made it easier. In my opinion, researching well-established companies and then buying their stocks does not make you a glorified gambler. Investing in stocks and going to the casino to gamble are very different. The basic definition of both terms reveals the principle differences between them. The dictionary defines “invest” as follows: to put (money) to use, by purchase or expenditure, in something offering profitable returns, especially interest or income. The definition of “gamble” is to play at any game of chance for stakes. Gambling is typically for entertainment; investing is business.
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