Tuesday, March 17, 2009

Remember The Basics

Tip #93- Remember the Basics. I’ve been reading a lot about personal finance and investing lately. And the more I read the more I realize there is so much to learn about investing - there are many complicated investments out there. There is confusing math about what to do financially – invest in a CD or in stocks, pay off mortgages early or sock money into a mutual fund?

The more I read, the more I began to wonder how do people with little education or weak mathematic skills figure all of this complicated finance stuff out? How do they not become overwhelmed trying to get rich? And you know what the answer is? They don’t have to learn about all of this stuff. Sure if someone has an interest in finance, they can delve into the world of investments, but knowing the basics is all most people need to build up wealth. The most important things to know are:

--Live on less than you earn.
--Put money away on a regular basis for large purchases.
--Save money monthly for retirement.
--Don’t buy things you cannot afford.

All of the rest is just gravy. Whether you invest in stock mutual funds or put money in CDs at the bank is less important than simply putting money away each month for large expenses in the future, including retirement. Buying things on credit will mean you owe money, while not spending money you don’t have is the only way to avoid debt. In other words, it can all be summed up in the first bullet point. Live on less than you earn, and you will build up your savings. Simple.

Then why are so many people in this country facing foreclosure, bankruptcy, and financial disaster? Because people were buying things they could not afford. They were not saving up for large purchases – they were buying things before they had the money. In other words, they were living on more than they earned. People are facing financial crisis not because they don’t understand investments or numbers or math. They were simply living beyond their means.

If you haven’t read The Millionaire Next Door by Thomas Stanley and William Danko, you should. Check it out of the library. It is a great book detailing the life of millionaires. The authors were surprised to find out that the millionaires in this country are not the people driving fancy sports cars and living in big houses. No, the millionaires are the people next door – the plumbers and electricians who are living in modest houses because that is what they could afford. They are driving simple cars because that is what their income says they should be driving. And all the while that they are doing modest things, they are putting money away for savings. And as the years went by, the savings built up until the point that they were millionaires.

Was it complicated investments that they put their money into – you know the investments that 99% of people don’t understand? Probably not. In fact, where they invested probably wasn’t even that important. Sure, someone earning 8% on their money was better off than someone only earning 4%. But the fact that they were putting money away consistently for the long term was the main point. In general, the people who are living on less than they earn and who are saving month after month are the millionaires.

Now, that’s not to say that all people who live on less than they earn will become millionaires. Someone making $30,000 per year will have to live on very little and get some high returns in order to become a millionaire. But most people do not need to be millionaires to live comfortably. And living comfortably is knowing that your modest house is paid for, that there are no creditors knocking on your door, and that you have money put away for big expenses and emergencies. If you stick to the basics, most people should be able to do just that.

In Real Life – Many years ago, I read a question in a financial magazine about investing, and if I remember correctly, the gist of it was which investments were better to put money in for retirement. And the wise expert basically said, in the long run, the more important thing is that you put money away consistently each year. Less important is where you put it. And you know what? It’s true!

Sure the person investing in stocks may be better than the person investing in low-risk CDs in the long run. Or, who knows, maybe he will be worse off. But both people will be better off than the person who doesn’t put money away at all.

That is one of the main reasons I started writing this blog. Because I have never done anything outstanding, fancy or smart with my money. All I have done is save it. I lived on less than I made. When I was making $19,500 in an expensive city, I had roommates. And I still put money away for retirement each month. I didn’t buy things I couldn’t afford – ever. I bought used cars and clothes on sale. I saved up each month for vacations. That’s it. Granted, I didn’t have extenuating circumstances that I know some people have. And I didn’t start out with debt.

But for most people, they can do what I have done and build up their wealth. They don’t need to know about high finance or complicated investments. It helps to have people who know basic investing advise you. But beyond what I wrote about basic investments and retirement in earlier posts, nothing more is needed to help you become rich. Spend less than you earn. Put money away in savings. It's as simple as that.

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