Heads up Soldiers! One of the greatest sports seasons of the year is the NCAA Basketball Tournament known as March Madness. The nickname for the tourney has been earned over time because of the “madness” that ensues when underdog schools eliminate national contenders. Madness is best served for college basketball, not when handling money. We’re going to talk about three unwise activities that can put your money in a state of madness.
Madness #1: Co-Signing
When a bank or financial institution believes an individual is too risky to give a loan, they might recommend that person get a co-signer to guarantee the obligation. This act sounds like lending a helping hand to a friend or family member, but there are far more negatives than positives.
Reasons Not to Co-Sign
Here are some important reasons to stay far away from co-signing:
- It affects relationships. Conversations turn from being friendly into mounting pressure about whether or not payments are on schedule.
- It’s high risk. By co-signing a loan, you take on the risk if the loan is not repaid. This means that a lender will sue you first if payments aren’t made.
- Defaulting. If the person you co-signed with defaults on the loan/obligation, you’ll be the one stuck making the payment. According to creditcards.com, 38% of co-signers had to pay some or all of the loan or credit card bill because the primary borrower did not.
Madness #2: Car Notes
Car payments have reached astronomical levels and terms at an average of $523 per month (Experian) for 69.5 months (Edmunds.com). It’s just plain irresponsible to pay that for an automobile. Cars can lose 20% or more of their original value within the first year, and up to an average of 60% at the five year mark (Edmunds.com). You can also take that same $523 monthly payment and invest it into an index or mutual fund in the same time period at a modest rate of return (4-6%) and end up with around $45,000 in retirement savings! Consumers on average buy 9.4 cars in their lifetime (Polk). You do the math on why you can’t afford certain things or don’t have adequate savings. If you don’t have money in your wallet or bank account, there’s a good chance you are driving it away.
Here are some general guidelines when buying a car:
- Set a budget. This involves knowing how much car you can afford outright, not whether you can make the monthly payment. A good rule of thumb is to only buy a vehicle that’s less than 50% of your annual income. If you make $50,000 per year, it doesn’t make sense to buy a $70,000 car. Cars go down in value, not up.
- Pay cash. Cash allows you to have negotiation power. “Save” up monthly for a vehicle what most people would pay via a car note.
- Buy used, not new or a lease. New cars lose value the minute you drive off the lot. Up to 40-60% in the first 4 years. Leasing is the most expensive way to drive. With a lease, you’re only paying back the depreciation on the car and you get hit with all kinds of built in fees.
- Look for a used car 2-3 years old with 30,000 miles or less. Cars with this profile are “like new” because they still might have a warranty and probably only had one owner. You save money by not taking the depreciation hit that occurred when it was bought new.
- Get a vehicle inspection. Find a good mechanic in your area to inspect the car as part of the terms of your purchase.
Madness #3: Early Retirement Withdrawals
Large purchases, starting a business, or funding the kids’ college are not viable reasons to early withdrawal from your retirement account (401k, IRA, etc.). Two critical reasons not to do this before age 59 1/2 are: 1) You’ll have to pay a 10% withdrawal penalty and 2) You’ll have to pay ordinary income tax on the amount. Let’s say you withdrew $45,000 from retirement accounts. You’d be on the hook for a $4,500 penalty plus the income tax. If you were boxing, you would have just gotten hit with a left jab and a right hook for doing this with your money. Ouch! There are only two dire circumstances in which you should withdraw money early from you retirement accounts: 1) To avoid bankruptcy and/or 2) To avoid foreclosure.
Soldiers, we just explored three financial bracket busters that can send your money and life into a spiral. Action plan time. What steps can you take to prevent succumbing to these pitfalls? Oorah!