Finance is often considered a taboo topic in our culture; we don’t like to talk about it. Some people hire professional advice, and some people prefer to go the Do-It-Yourself route. The commonality between all of us, is we have all heard advice from a friend, a family member, a radio personality, or a tv personality. Here is a list of the top four worst pieces of advice almost ALL of my clients have heard or taken from these outside sources.
- Pay off your mortgage as fast as you can
The idea here is that you can finance your house on a 15 year mortgage, or you can make additional principal payments on longer term mortgage and save on interest. Sounds innocent enough, doesn’t it? I worked with a new client recently that told me their investment portfolio was earning an impressive 8% a year. In the same breath they proudly told me they had no debt because they paid cash for their house. I was dumbfounded they just admitted that they pulled a sizeable chunk of money out of a portfolio earning 8%, to pay cash for a house that they could have financed for 3.25-4.25% easily. They gave up use and control of that whole chunk of money and their house will appreciate OR depreciate regardless of how much they have paid off. What if they financed the house for 30 years, kept their money in their investment portfolio, and let the interest earned make their house payment for them with money to spare?
I don’t have the space in this article to explain the math, but it wouldn’t surprise me if they got 15 years down the road and could pay off the remaining balance of the mortgage if it made sense at the time. With interest rates on the rise, I believe it would be far more valuable to lock in the low interest rate mortgage for the longest period of time possible and keep their money working for them.
- Stuff as much money as you can into your 401k
We have all heard this one. You will be in a lower tax bracket in retirement! Save in your 401k, you get a tax deduction! Sounds great doesn’t it? The highest federal tax bracket estimated for 2017 is 39.6%. The federal income tax started in 1913 and the the average highest federal tax bracket since is 58.24%. Historically there have been spikes in income tax rates to help pay off debt accumulated during World War I, World War II, the Korean War, the Vietnam War, and the Gulf War. We have been paying for a war and the United States deficit is growing at an insane rate. With some of the lowest tax rates in history right now, do you think tax rates are going up, or down? My guess is they are going up. A 401k and other tax-deferred qualified plans are indeed a tax deduction right now, but what they do is POSTPONE the tax as well as the tax calculation. Whenever you take money from your 401k in retirement you will then owe income tax on the full amount taken.
If I were to write you a check for a loan you would ask me two questions: “what is the interest rate, and when do I have to pay it back?” What if I responded “you know what, I am doing quite well right now so let’s figure out the details later. One day I will have a need for my money. At that time I will figure out how much interest I need to charge you meet how much money I need”. Would you cash that check? I don’t think anyone would, but that is exactly the deal we make when we save on a tax-deferred basis. Now saving in a 401k isn’t bad for everyone, but for the average American it makes more sense to pay the tax now and save on a tax-free basis for the future!
These mistakes can cost you in retirement. Unfortunately though, I can only write based on my experience and not based on your individual situation. My best recommendation for 2017 is to hire a trustworthy Registered Investment Adviser who is required by law to act in a client’s best interest. Get an unbiased analysis on these two topics and check out the math to see if there is a more efficient way to handle your finances.