Part 1
You pay your bills on time. You try to save as much as you can. You even follow the advice which you read in books and hear on the radio about how to keep your finances in check. But you’re still not getting ahead. Well, sometimes, it’s the unchallenged assumptions about how we’re handling our money which rise up and bite us in the keister.
Hidden Mistake #1: Inappropriate Mental Accounting
Definition: Tendency for families to divide money into separate accounts based on subjective criteria.
Typical Example: Treating $100 you received as a gift from Grandma, differently than a $100 bill earned.
Typical Example #2: Having money languishing in a savings account earning 0.25%, while carrying high-interest debt to pay off at 12%.
Cure: Funnel income, no matter the source, into one savings account.
Any “found money”, such as a tax refund or gift from Grandma, quickly decide where that money is best utilized. As for expenses, occasionally change how you pay. If you always pay with a credit card, try cash. This will get you remembering that all of it, for the purposes of your mental “books”, should be lumped into one, monthly bucket.
Hidden Mistake #2: Manipulative Price Anchoring
Definition: Our tendency to relate the value of a purchase to a price point which, rationally, should have no bearing on the amount spent.
Typical Example: The “rule of thumb” to spend two months’ salary on an engagement ring.
Typical Example #2: A realtor will tell you that “in 2007 this house was going for $500,000 and is now listed at only $350,000!” … causing you to think this house is undervalued.
Cure: For big ticket purchases like a house, car, or engagement ring, ask a friend whose financial values you respect for their input.
For everyday purchases, avoid looking at the MSRP or sticker price. Ask yourself:
Can I afford this today?
What do I really want to spend?
What is this really worth to me?
Marketers are experts at this sort of price-anchoring, and we really should know better … but yet we still fall prey to it. Try not to let outside sources set up the comparison by which you should be considering such large purchases.
In part 2, we will finish by looking at: Hidden Mistake #3: Loss Aversion Costing You And Hidden Mistake #4: Following the Herd
Until then have a Happy and Safe Holiday Season.