Whether it’s video game habits, latte addictions or clothing obsessions, we all have weak points that cause us to spend more than we mean to. But here’s a little secret: It’s rarely your morning coffee on the way to work that you should be concerned about. Sure, cutting a daily coffee habit could save you $1,000 a year, but are there other ways we behave irrationally with our money that are wreaking havoc on our bank accounts? We asked six of Canada’s top financial experts to share the most illogical things they see people doing with their money — and what they should be doing instead. Read on to find out if you’ve been shooting yourself in the financial foot.
1. Not paying off your credit card
Bruce Sellery, author and host of the Moolala radio show on SiriusXM:
“People think it’s not really a big deal to carry a balance on a credit card. And I know this because the average outstanding balance on a credit card in Canada is something like $3,500,” Sellery explains. “It’s an enormous deal. It’s a huge deal. You should sell off a kidney to pay off your credit card.”
The interest charged on credit card balances (often close to 20%) is way higher than the interest we earn even in a high-interest savings account or mutual fund (anywhere from 1.35% to 6%). That means the money we think we’re earning is actually getting gobbled by our credit card payments. Why do we let it happen? Psychologists say it’s due to Mental Accounting: We tend to compartmentalize our money into different mental categories, each with its own purpose. Because we think of our savings as separate from our debt, we’re reluctant to use one to pay off the other. The reality is that it's all our money.
Now what: If you have some money just sitting in a savings account gathering minimal interest, set aside some for your emergency fund and use the rest to pay off your credit card. Your bank account will thank you down the road when you’re no longer using it to pay the interest on your debt.
2. Investing too aggressively when you’re young
Jason Heath, certified financial planner and columnist for MoneySense:
“Oftentimes the saving that you’re doing when you’re in your mid-20s...it’s not for your retirement. In a lot of cases it’s for a car down payment, it’s for a home down payment, it's for a wedding, it’s for maternity leave, it’s for child care costs,” Heath says. “There’s no point in having $50,000 in your RRSP but you don’t have money to buy an engagement ring or you know, take a maternity leave.”
It’s common for experts to advise young savers to max out their annual RRSP contributions and invest aggressively because they have a long time horizon. That doesn’t mean it’s the right thing for you. Psychologists would describe this as Authority Bias: We value information more when it comes from a credible expert. There’s nothing wrong with consulting professionals (as we do), but when it comes to your money, it’s important to take a step back and think about your financial goals, both in the long- and short-term.
Now what: Heath says it’s not a bad idea for a person in their 20s to go against conventional wisdom and save more conservatively. Better still, put your money away in a tax-free savings account (TFSA) rather than maxing out your RRSP. The latter will cost you dearly to withdraw from if you need the money.
3. All the impulse buys
Robert Brown, author of Wealthing Like Rabbits:
“People tend to buy a lot of stuff that looks great when it’s in the store but even two or three months later they’re like, ‘Oh my god, why did I buy this?’” Brown says it’s “the things we see walking into a store or walking into a mall where we just see it and it looks nice and we don’t really give a lot of thought to whether or not we can really afford it or whether or not that’s really a good thing for us.”
We have probably all fallen victim to Hyperbolic Discounting, a behavioural bias in which we value smaller more immediate rewards over ones that are better for us but further away. You know for a fact that you could probably buy one nice shirt that will last for years instead of two cheap ones that will fall apart within months, but in the heat of the moment you would rather take the deal.
Now what: Brown advises waiting “a month between desire and acquire.” Some experts call this the 30-Day Rule: If you see something you like and feel the urge to shop until you drop, take a step back. If you find you’ve forgotten about it, chances are you probably didn’t really want or need it that much in the first place.
4. Spending too much on housing
Rob Carrick, columnist at the Globe and Mail:
“I’m talking about situations where people are pushing themselves beyond their financial capabilities to buy a house because they think renting is wasting your money or they’re getting a lot of pushback from parents and friends and family members about not owning a house.” Carrick says that “if you can’t afford [a home], then it’s not a smart thing at all.”
The irrational desire to get with the program and join in a common behaviour is referred to as Social Norming by behavioural scientists. Just because everyone and their little brother seems to be obsessing about real estate these days doesn’t mean you should.
Now what: Ask yourself if owning a home is something you really want — or you can really afford. (Hey, maybe you’d prefer to live cheap and travel more.) Check out this tool to see whether you can actually afford to buy a home or if you’re better off renting.
5. Eating at pricey restaurants for the Instagram pictures
Barry Choi, Money We Have:
“I find a lot of restaurants these days, they’re basically creating an atmosphere that is Instagram-worthy. It looks really nice, it’s really fancy, you know they’ve got this cool artwork. They want you to come in and they charge you more but the food is actually terrible. People come because they just want that Instagram picture of that food or that environment.” Choi jokes that you spend $100 on a meal just to get a photo of it and "then the next day it literally becomes shit. You’ve pooped it out.”
You’ve heard the saying: “Doing it for the ’Gram?” One of the reasons social media is so addictive is the social reinforcement we get when likes and comments pile up below our posts. From a scientific perspective, the frequency and strength of our behaviour is directly related to how we are rewarded for it. Our decision to drop $10 on a scoop of charcoal ice cream might not seem rational, but the 60+ likes we get for it make it feel like a bargain.
Now what: If a place has dubious food, skip the trip and live vicariously through the photos that other people post. That way you have more money for restaurants that have great food AND aesthetics.
6. Not doing your taxes because you don’t think you owe anything
Shannon Lee Simmons, founder of the New School of Finance:
“The logic behind this is usually because they’re low income they are assuming they aren’t going to owe anything…. Chances are you probably qualify for a bunch of government programs that could be helping you out, but you have to do your taxes to qualify.” Simmons says it can be hundreds of dollars per year and that she’s always pushing people, "especially if you’re a student or you’re in a lower income tax bracket: Do your taxes. Don’t leave money on the table.”
Why do we do this? One reason is that filing taxes is well, a pain. We have a tendency to avoid tasks that are cognitively demanding, especially if we can’t perceive an immediate benefit to them. Which brings us to another reason: Some research suggests that people are motivated to perform a behaviour based on the magnitude of the perceived benefit. If we can’t see the benefits outweighing the costs (ie. the hours we’ll spend wrestling with T4s and crumpled receipts), we’re less likely to do it.
Now what: Now that you know about the benefits of doing your taxes, it’s time to get your butt into action and do them. You very well might find yourself with a decent tax return. And if you’re living paycheque-to-paycheque, Simmons recommends sticking that return into a savings account or putting it towards your student debt. Hard, we know, but you can do it.