By Rob Schulz
The following excerpt is from the chapter on debt in my recent book: Thoughts on Things Financial: Your Guide to a Chaotic Money World. Enjoy!
We all suffer from a condition called short-term bias. Short-term bias means that, when we identify threats or opportunities, we give immediate or short-term threats and opportunities more credence than long-term ones, even if the long-term threats are more dire.
Back when humans lived in caves with saber-toothed tigers roaming about the countryside, I’m sure this short-term bias thing came in handy. The fella who ignored immediate short-term threats probably never got the chance to live out and implement a long-term plan of any kind. His tendencies and genes died off and never made it into our genetic makeup. That’s the theory, anyway.
This plays out to our detriment in a couple of ways when it comes to debt. One way is obvious. If I’m in the PGA Superstore and drop $637 onto my Visa card for a new PING G410 Plus Driver today, it’s probably because I think it’s going to gain me a stroke or two this Saturday morning with the boys. If I pick up a stroke or two on the golf course, I might win $10 in skins and greenies.
But next month when Shelly opens the credit card bill, we might have to have a serious discussion. Maybe I had promised we were going to get a new ice maker, and now I can’t honor that promise. That’s going to be a pain point, for sure. So, in order to relieve marital stress, let’s say we go ahead with the new ice maker and the PING driver. Shelly needs good quality ice for the chai lattes she makes for herself just as badly as I need a new driver. Maybe that’s more than our current cash flow will allow, so $637 gets carried on the credit card bill at 14% interest. I just did the math, and, at that interest rate, my driver costs almost $90 more if we carry that balance for one year. Ouch, that’s a lot of skins on the golf course. The other way short-term bias hurts us with debt is less obvious but critical to understand. If there is a debt problem, short-term bias encourages us to focus on the debt and nothing else.
This kind of deep focus on one single financial problem puts us into a bad cycle. The correct way to approach debt is to understand how it fits or doesn’t fit, into our long-term financial goals. We make a plan and identify the long-term challenges that will HAVE to be addressed, like college for our kids and retirement. If you have $30,000 in revolving debt, maybe that’s a big deal. But you may also have two kids starting college in the next four years or so that could easily cost $200,000. And if you ever want to retire, estimate needing roughly $4 million in today’s dollars, and you might be in the ballpark of what’s required.
You probably don’t have the resources to solve all three of these problems right now, so you have to prioritize them. Which is most important? That’s up to you. But we can easily argue that retirement savings is the biggest number, will require the most resources, and will have the greatest impact on you and your family. Short-term bias can prevent us from dealing with retirement early enough in our lives to have a good shot at accomplishing this important goal effectively. With a plan that provides us with an understanding of what important financial goals need to be met, we likely won’t simply take all of our resources, time, and effort and pay down debt. Rather, we’d build up our cash reserves, maybe drip some money into the kids’ college accounts, and maintain steady retirement plan contributions along with a long-term debt-paydown strategy. It will take longer to get the debt handled, but it is more likely to be handled for good since we are looking ahead and dealing with multiple financial goals simultaneously to develop a strong, diversified balance sheet.
Rob Schulz is a local Certified Financial Planner and author of “Thoughts on Things Financial: Your Guide to a Chaotic Money World.” Schulz can be reached at firstname.lastname@example.org. You can buy his book by clicking here: https://www.schulzwealth.com/book/
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