Budgets Gone Bad – How Successful People Get in Financial Hot Water
This title sounds like something you’d read on the cover of a magazine in the checkout line at the grocery store, relating to something other than personal finances. You might think that budget problems are confined to people with lower income and asset values. But you’d be wrong. In recent years, there has been an uptick in successful individuals who have accumulated some level of wealth spending more than their assets and income can support. So, what’s at the heart of this issue? Let’s take a look.
“Charge It"
In the last 30 years, credit cards have emerged as the dominant method of paying for stuff. Many people with a net-worth over $2mm have multiple credit cards in their wallets, from Visa and Mastercards, to debit cards, gas cards, and cards issued by their favorite store. (As a disclaimer, the author must disclose he has a credit card from the greatest store in the world… Fleet Farm.) In addition, the once frowned upon practicing of putting an expense on your credit card is long gone. Years ago, we used credit cards because we didn’t have funds available to pay for our purchases. Now, credit is easy to obtain and a readily acceptable way of making payments. The size of our monthly credit card payments and balances keeps growing and has a negative impact on wealth one month at a time.
Societal Consumption
We must recognize the effort made by marketing and advertising firms to drive consumption during the last 30 years and concede… these firms have won; and they’ve won BIG! We consume more today than someone with a comparable net-worth did 30 years ago. Think about how many cars you own, relative to your grandparents. How large is your house, relative to your parents? How full is your basement, garage or storage locker? Whether we watch TV, read a magazine, surf the internet, or drive past a billboard, we are being asked to consume, consume, consume… and we are obliging, slowly eroding our budget in the process.
Instant Gratification
Amazon and other online outlets have made it incredibly easy to consume (perhaps too easy). Simply point and click, and a package arrives at your doorstop the next day, maybe even the same day! This easy access to consumption and instant gratification leads directly to more consumption.
Entitlement
We work hard; and as a result, may feel entitled to splurge. There is nothing wrong with this; but it should be within reason. We may feel entitled to take a vacation; but taking the entire family on a ten-day European vacation is slightly more expensive than a trip to the amusement park or a week at the cabin.
Big Ticket
We might have a good laugh about the $750 treadmill we bought that now serves as an expensive clothes line; but it’s not typically the Amazon-type purchases that get a high net-worth client in financial trouble. It’s usually big-ticket items like houses, remodeling projects, and cars that tilt the scale. Think about how much have you spent on cars in the last 10 years. With luxury cars starting at $50,000, and typical depreciation of 40% within the first five years, many of us are literally driving our wealth lower. Next, think about the size and cost of your home today, relative to the home you grew up in. The joys of owning a large home come with many hidden expenses, including higher property taxes, larger maintenance bills, etc. Those who shift assets out of equity investments to make a home purchase or to pay for home expenses, have effectively shifted money out of a high performing asset into a lower performing asset.
Education
College education costs have skyrocketed in recent decades. It’s not uncommon for parents to spend $130,000 or more per child on the cost of a four-year degree. If you multiply that expense by 3 children, the net cost of education to the family is approximately $400,000. You would need to earn approximately $667,000, if you pay 40% combined taxes from fed and state, to give you $400,000 to pay for college. Many parents are not having the difficult conversations with children in terms of what they can afford to spend for college; and many overspend in this category.
Kids
Saving the toughest conversation for last, successful people are commonly over-spending on their children (and we’re not talking about the cost of sending their 7 year-old to parochial school). It’s not uncommon today for families to be spending thousands of dollars per month supporting adult children and grandchildren. Imagine the cost of paying for an adult child’s mortgage or health insurance. This type of expense will quickly derail even the best financial plan.
Throw it all Together
It’s the combination of all of the above items that get successful individuals in financial trouble. It’s important to look holistically at your monthly and annual outflows to see how much money is being spent, where the money is going, and if you need to make adjustments. When it comes to advising successful people about consumption, there is an old adage: “You can do just about anything; you just can’t do everything.” Whether you make $50,000 or $5,000,000, the reality is that all of us need to do budgeting in some form or fashion, regardless of net-worth.