You might think I’m a hypocrite for what I’m about to admit (since I blog about personal finance), but this is reality. In the past, I’ve made some wildly erroneous assumptions about our future ranging from how much we’d be making and spending each year to how our investments would perform. Many of these misconceptions are still somewhat ingrained in my thinking because I took them for granted and it was “conventional wisdom” pounded into our heads for years, and I need to constantly reinforce that THEY ARE NOT TRUE – at least not anymore. It’s a new world that many Americans haven’t yet accepted but after reading both of Thomas Friedman’s economic reality books That Used to Be Us and The World Is Flat you will. We’ve based our lives and major spending decisions like homes, cars and lifestyle on faulty assumptions. On the plus side, we always spend less than we make and I’ve been putting away money for the kids’ college accounts for years, retirement, and we enjoy plenty of great life experiences. However, many people with more discipline than us would have amassed a small fortune by now, while we let a lot of money slip away on questionable spending. Here are some critical mistakes in financial assumptions I’ve made over the years and I’d interested in hearing about whether you agree:
- My Salary/Compensation Assumptions Were Shit – Earlier in my career I was a perennial high performer. When I hadn’t really factored in was that I was a workaholic and many of my fellow peers at the starting level were boneheads so it didn’t take that much to stand out. Initially, I based my future compensation projections on the past few years. Sounds reasonable, right? I had been getting 5-6% raises annually, a promotion here and promotion there, and while I realized I’d only be able to get a promotion 2-3 more times in my life before topping out, there were lateral moves and annual raises along the way which would reasonably give me at least 4% raises on average forever. Well, that’s all gone to shit. See, because we have zero percent fed funds rate and a horrific job market, companies aren’t inclined to pay their employees much more each year at all. They can claim inflation is low and honestly, they’re not too worried about losing employees because workers are afraid to leave! I’m at a point in my career now where I’m not even sure I want to be at the next level right now, and with the level I’m at now, in order to get there, there are quite a few high performers, making it tougher and tougher to be in the top 10%, let alone top quartile each year. So, we’re living in a new future of 1-3% salary increases as far as the eye can see. To add insult to injury, there’s inflation (next bullet) and my benefits are costing way more than the cost of inflation each year (see my outrageous health care premium increase for 2012). So, in terms of present dollars, my salary will decline every year forever. This is the new reality that I don’t think most people have yet accepted. If you DO need to get salary increases that are actually meaningful each year, you’re probably going to need to jump around a bit rather than staying with the same company. The absolute BEST free service out there for seeking 6-Figure Jobs only is TheLadders – sign up and you’ll get job openings emailed to you which are honed to your industry, focus and salary range.
- Assume a 2-3% Inflation (that’s what it’s always been!) – Using the contrived government benchmark inflation indices, inflation continues to run pretty low. Low enough that over the past few years, Social Security recipients didn’t even see an increase in their COLA multiple years in a row. Fast forward to this year, and inflation shows some gains, but averaged over the past several years, we’d be led to believe it’s been quite low. Well, my personal rate of inflation is off the charts, so the government numbers are useless. My healthcare costs are skyrocketing each year, I’m trying to keep up with 7% college tuition increases each year for the college savings plans and virtually all my other costs are too – and our family keeps expanding! Some of this is self-imposed of course, but the reality is, inflation is nowhere near 3% for our family. When I look at our annual spending and even cut out “non-recurring expenses” like Disney or whatever, our Family Rate of Inflation is probably more like 6-8% per year, not 2-3%.
- When I Make More Money, I’ll Have More Than Enough to Save More Later – This is one of the most common guises so many young people start out with. Get it out of your head because it’s not true, unless you make it so. And we haven’t. Due to every other bullet in this post, while yes, I do continue to make more money each year, our expenses tend to keep up with, or even exceed our income gains. If you’ve been light on your retirement savings or plan on saving at a much faster rate for your kids’ college when they turn 8 or 9, you’re screwed. You’re already behind the 8-ball and you’ve gotta get saving now, because life doesn’t get any cheaper as you and your children age (if you have kids). Trust me, you won’t be making so much more in 5 years or 10 years that you’ll have all this excess disposable income to divert to those accounts.
- Expect Stocks to Gain 9-10% Annually (give or take a little volatility) – This has become a stale headline following the “lost decade” of stock investing, but one can’t ignore just how blatantly let-down equity investors are of late. I based a lot of long-term retirement plan assumptions on an average annual return of 8% thinking I was being conservative. Turns out that was wildly optimistic. With the fed wiping out income opportunities, I’ve had little choice but to retain equities as a primary asset class for my investments but I did make it a point to diversify into real estate investing this year by essentially shifting $50,000 out of stocks and into that new asset class. I actually anticipate higher returns there with less volatility. What are your new assumptions for total returns in stocks? Mine is more like 6% annually over the next 20 years.
- Babies Are Expensive (and growing kids aren’t?) – I’d always heard about how expensive babies were. You know, all those diapers, baby food, doctors’ visits and baby clothes. The costs seemed crazy for such a little creature. That became such a common theme that what got lost in translation was the surprise! Boom. Babies are cheap! When I look back and what we were spending on our babies versus what we’re spending as they grow, there’s no comparison! As our kids age, they’re eating more, breaking more stuff (my 7yo kid just flooded our house), doing more with activities that cost a handsome amount, we’re driving them around more, paying for pre-school and now they have real hobbies! A common oversight I think new parents make (us included), is that somehow babies are expensive and then these kids become not-so-expensive as they age. Well, it only gets worse as they grow up (financially speaking of course!). Comparatively speaking, Babies are NOT expensive. Older kids ARE.
- We Could Always Just Spend Less to Improve Our Budget – We spend a shitload of money each month. I’d say, “I don’t know where it goes”, but, well, I do. See, we charge everything for two primary reasons. First off, we exploit cash back credit cards (this Chase $200 Signup Bonus is currently the Best in Class for both rewards and cash bonus to start) to snag several hundred dollars per year in tax-free cash back in our pockets. I don’t toy with hotel points, airline miles and such, just cold hard cash. Secondarily, it’s a great way of tracking where every dollar goes. When you pay cash for everything (and your spouse does too), at the end of the month, it’s very difficult to figure out where the heck the money went. This month, when our credit card bill was enormous, I pored through the details and it made more sense – major car repair, my new iPhone, ski rental for the season and the tons my wife spends on food (I’ve flagged that as a major opportunity). That being said, I know where the money goes but we don’t really change our habits much. We’ve found it to be tough to say no, especially to life experiences. I’m all for not buying my kids crappy plastic toys and stuff they’re going to forget about in no time. However, when we’re invited out to dinner with some friends, a sitter a nice meal and drinks runs us like $150. We’ve enrolled our kids in everything from dance to soccer to weekends away with Adventure Guides. Each of these monthly fees exceed a hundred bucks. It really adds up and we’ve found it difficult to just put our foot down and say no. I mean, would we seriously tell our friends, “No, we don’t have the money so we’re not going out this month”, or tell the kids we can’t afford this season of soccer? It’s totally lame. The only reason I’ve been able to live this way without losing sleep over it is because I make enough on the revenue side to sustain it. But that doesn’t make it right. I’ll just say, for people who are really need of budget cuts (i.e. carrying credit card debt and/or increasing debt each month), cutting spending DOES really take a lifestyle change. It’s a lot tougher than it may seem! If I lost my job today or something else changes, we’d have to make some tough decisions.
Fortunately for us, while the prior 6 items were grossly miscalculated, I’ve been able to make up for it on the income side with blogging income, and expect some future dividends from my small business startup and real estate investment I’ve talked about elsewhere on the blog. I’ve had a lot of luck, opportunities and put in a lot of hard work to make these additional income streams work for me. Not everyone else has, so it’s understandable why so many people are struggling. Things just aren’t what they used to be, nor what they thought they would be.
What Are Your Worst Financial Miscalculations?