October marks the return of fall, pumpkins, and the spookiness of Halloween. Unfortunately, there are some common, everyday financial products that should be in a scary movie and not in your financial life. Here are some.
1) Whole Life Insurance – PFA has agents licensed to sell insurance, but we will not sell Whole Life Insurance. In theory, this product sounds like a good idea. You pay a higher premium than term insurance but gain a permanent policy that will be in place the rest of your life while building cash value within the policy that you can access to meet needs. Not too bad, right?Here’s the problem: if you live within your means, stick to a budget, pay off your debt, and save responsibly, you won’t need life insurance for your whole life. You’ll build enough wealth to self-insure. Additionally, the vast majority of the premium you pay will be allocated to build up the cash value in the policy, HOWEVER there will be no cash value the first few years as this money gets eaten up by fees and commissions paid to the agent selling the policy. After that, the cash value portion of the whole life policy averages a 1.5% return per year according to Consumer Reports. In many policies, the cash value will get surrendered to the insurance company at the end of your life. Ouch. Consider term life insurance.
2) Car Leases and New Car Loans – Cars are a necessity for most people nowadays in order to help with the basic needs of life like working and shopping. However, there are some key mistakes that we consistently see with them.
Car Leases: There’s a lot of math out there that goes into why car leasing is much more advantageous for the dealership than you. Additionally, lease contracts can be full of “gotchas” that lead to unexpected fees at the end of the contract. The biggest reason we don’t encourage car leasing is due to the fact that you’ll always have a car payment if you lease vehicle after vehicle. For many people, this can be a large chunk of their budget that gets locked into an asset that they don’t own and also goes down in value quickly. Not a great idea.
New Car Loans: A smart rule to follow – put your money in things that go up in value, not down. Dave Ramsey exposes that most cars “lose 70% of their value in the first four years.” Cars are just a bad place to park your money (pun intended!). Another rule of thumb is that you should not own cars more valuable than half of your annual income. If you make $50,000 a year, then stick to cars totalling $25,000 or under as long as you can pay cash for them. Another piece of car buying wisdom is to buy slightly used cars that are perfectly reliable; let someone else pay for that initial loss of value. Lastly, if you are not a millionaire, we typically don’t advise buying a brand-new car.
3) Student Loans – We feel so strongly against these that this topic will get its own article in the near future. In short, it’s always better to save up and pay cash for college. For now, here’s some basics on why student loans are a bad idea:
- Most student loans are not bankruptable. This means that there is truly no escaping them even if your financial life bottoms out. The balance plus the interest has to be repaid. For this reason alone, they should be avoided.
- The money is too easily accessible – too many people take on hundreds of thousands in student loan debt only to get a job that pays them a fraction of their loan balance. Like home mortgages before the Great Recession of 2008, this money is too easy for people to get. Many financial professionals are speculating that student loan debt will be the next major financial bubble to burst in this country.
- According to Forbes, the total national student loan balance is now over$1.5 trillion with a student loan default rate at 11.4% but increasing steadily. This shows that the magnitude of the problem and the growing risk you face in not being able to repay the loans.
4) Co-signed Loans – This tends to involve family a lot, which is why we think it can be so dangerous. Ultimately, if you co-sign on a $5,000 loan that doesn’t get repaid, you end up on the hook for it. If it costs you your relationship with your family member, was it worth it?We must remember a critical truth around this: the lender wouldn’t need a co-signer if they actually believed that the borrower was capable of repaying the loan. The lender expects the borrower to fail at repaying the loan in full and wants to be able to go after the co-signer for the loan balance. As a good rule of thumb, it’s better to decide to give or not give money as a gift to family members than co-sign a loan with them. Nobody wants unexpected debt because a loved one couldn’t pay.
5) Honorable Mentions – Lottery Tickets, Time-Shares, 401k Loans, 401 Debit Cards, Reverse Mortgages, Viatical Settlements, Payday Loans, Store Credit Cards, Debt Consolidation Company Contracts.