How to stop enslaving yourself with bad financial decisions, and start embracing freedom by making good decisions.
Life carries with it many challenges but its important to ensure that financial challenges don't become one of them. One of the biggest problems in the world today is this notion of buy now, pay later. Wherever you go, you can get a credit card or a loan to get the things that you want. The term for it these days is interest-free shopping - get 50 months interest-free with no deposit and easy monthly repayments. Get the latest TV - you deserve it! Whenever you hear the term, interest-free or easy monthly repayments, I want you to run away like its the plague. When you go shopping, you always see marketing messages displaying the latest in buy now pay later strategies. Sounds like a great idea in the moment - you obtain something without having to pay for it now. Many people do this because of the principle called The Time Value Of Money; Money now is more valuable than money later because any money you receive now, you can invest and receive interest with it. Despite this principle, it does not apply to physical products, unless they are antiques or investment products such as fine art. When you buy a TV, you are buying a liability because no matter what TV you buy, its value deteriorates over time. It will lose its value. So, with products, we have something I like to call The Time Liability of Product. You are not better off borrowing money to buy anything in the present. Every time you take out a loan, regardless of the interest rate, you are enslaving yourself. You are giving someone or something else permission to take money from you continually over a set period. Permission to take money from your future.
"Everytime you borrow money, you are robbing your future self." Nathan W. Morris
Let's say that you make $4,000 per month and have $3,000 of expenses per month. Your monthly cash flow or money you have leftover to spend (income minus expenses) in this case will be $1,000. Your birthday is just around the corner, and you decide to buy yourself a TV. You didn't have enough cash at the time, so you take out a 12-month interest-free loan to make the purchase. The TV costs $4,800. You pay nothing now and instead pay $400 every month for 12 months to pay back the loan over a 12-month period. Seems like a great decision at the time. However, you have started the enslavement process - you are now a servant to the lender. You must, as the contract states, repay $400 per month for 12 consecutive months. For the next 12 months, your cash flow (income minus expenses) is not $1,000 per month, but $1,000 - $400 = $600 per month. You have reduced your monthly cash flow by 40% for 12 months. May not seem that bad, but the problem with reducing your cash flow is the minimisation of freedom. The less cash flow you have, the less freedom you have to do things. The reduction of freedom adds unnecessary friction to your life. For example, what if you have a car accident and have to pay an insurance premium? Or even worse, what if you your landlord increases your rent by $300 per month? If your landlord does this, you will only have only $600 - $300 = $300 leftover to spend every month. The moment when people experience problematic financial enslavement is when they form a habit of obtainment, without responsibility. They obtain things but fail to take responsibility for the payment of it. This is a habit that is hard to break and an enslavement lifestyle that is hard to break free from. You must ensure that you have rulership over money, not the other way around. Ruling is defined as having dominion, power and influence over something or someone. When money rules you, you must obey and when you rule over money, it must obey. The question is, who/what is ruling in your life right now? Is it you or is it money? Okay, so that was the introduction. Let's dig deeper....
Proverbs 22:7 - The rich rule over the poor, and the borrower is a slave to the lender.
To stop enslaving yourself financially, you must do one of the following two things - you must ensure that you are able to pay back the debt you decide to accumulate or never spend money before you have it. The latter is the best approach and one I highly recommend. However, you can choose the former - one way to ensure that you are able to pay back the debt is to make sure that you have your own personal security fund. A security fund is an account you have set aside that is equal to a certain amount of time. For example, using our previous example - if you earn $4,000 per month, your security fund can be equal to 3 months of pay = $12,000. If for any reason, you lose your job, you are able to access this money to pay off debt. If your debt is greater than $12,000, then you better put more money in that fund because there is nothing worse than having debt with no income or capital to pay it. The amount of time you set aside will depend on how risk averse you are. I am naturally a risk taker, so I only set aside about two months of income. If you choose the latter, your life is much easier to manage - simply spend money when you have it. You can't spend something you don't have, just like you can't give away something you don't own. Yet, so many people do it. If you want to buy a $4,800 TV, and you only have $1,500, you cannot buy the TV because you don't have the necessary capital to acquire it. As simple as that. In these situations, it is essential to ask the right questions. For example, most people would say, "I can't afford it," however, it is best to ask, "how can I afford it?" Tap into your creativity and think of ways in which you can generate what you need to afford what you desire. A lot of people forget to use their God-given supercomputer. Remember that enslavement is all about bondage. The goal, therefore, is to stay out of bondage.
"You can't spend something you don't have just like you can't give away something you don't own."
What about buying a house? Most homeowners today have saved up capital (an asset) to buy a loan (a liability). An asset is something that puts money in your pocket. Despite current historically low-interest rates, cash in the bank is still an asset because it generates interest. However, if you are very smart – you would look at what the inflation rate is and compare your interest rate with that. If the interest you get paid is less than the inflation rate, then your interest is too low - the cash you have in the bank is not an asset but a liability. Anyway, assuming that the interest you are receiving is higher than inflation, your savings is an asset. Now, taking your saved capital as a deposit to buy a house does not mean that you are buying a house. You are buying a loan. Is this smart? No, you are buying something that demands money from you on a monthly basis. You are buying something that takes your money. It does not result in more money; it results in less. Therefore, a mortgage is, in fact, a liability. It is something that takes money from you. A mortgage is an asset on the bank's financial statement. The bank is the lender. You are paying the bank interest to use their money to buy a house. When you pay 10% of the house value as a down payment (deposit), you own 10% of the house. This is the equivalent of being a shareholder in a company. Now, if you own 10%, the bank owns the other 90%! They are the majority shareholder. If you can't pay your mortgage at any point in time, it won't be long before debt collectors come knocking on your door. It is far better to save up capital to buy assets that put more money in your pocket.
"Most homeowners today have saved up capital (an asset) to buy a loan (a liability)."
Real estate is one of the most talked about investment categories in the world. However, just because something is spoken about does not mean that the content around the subject is good. For example, in Australia, everyone has heard of Negative Gearing, a strategy where an investor purposely buys a property that provides a negative return. In other words, Negative Gearing is the purchase of properties that provide a negative cash flow, not a positive cash flow. One of the biggest jokes on the planet. The word itself is just ridiculous. I hate the noun, negative and the verb, negativity so why would I engage in anything that is negative. If you want to be positive, you must engage in activities that are positive. So, I decided to avoid it. There is nothing positive about negative gearing. When I first heard the term, I laughed. I didn't laugh because I am naturally a happy and joyful person. I laughed because, well, it's funny that it became so famous. Can you imagine the term, negative investment becoming popular? No! And if anyone tried to sell you an investment called negative investment, you would run away. You want positive investments! If you don't, you are reading the wrong blog here. Why do so many people accept negative gearing as an investment strategy? Well, again, it's the same as I mentioned earlier - people love the idea of buying now and paying later and are not aware of the consequences of doing so. The other reason why people buy negative cash flow properties is that they adopt the hope strategy; they hope that the market value of the house will increase over time. As the price of the property increases, they can increase rent to cover more of the monthly expenses or sell it for a profit. However, what if the property does not increase in dollar value? No one has a crystal ball out there, and the economy is too volatile to rely on hope. I hear the phrase, “our only hope” too much these days and it makes me anxious – if the only hope doesn’t work, you are stuck in some very deep yoghurt. There is no other hope – you cannot depend on the movement of an economy. You cannot depend on tomorrow. The actions you take today will shape your future. Do you want to shape your future with a negative strategy or a positive one? You must make sure that the property provides value today, not tomorrow. I hate negative gearing so much that I ensure that every person in my investment team hates it too. Yes, I have an accountant that hates negative gearing. They are hard to come by, but they are out there. Negative cash flow properties also became popular because of its tax benefits. However, there are no tax benefits - just a bunch of strategies you can employ to get back 30% of the money that you wasted. An example of negative gearing is someone that buys a $300,000 house, rents it out for $2,000 per month and pays expenses including a mortgage totalling $2,500. In other words, they purchased a property that takes $500 from their wallet every month. What is that! You may as well go for a monthly stroll to the beach and throw your money in the water and watch it float away. This would be a better option because you wouldn't have to worry much about tax returns, tenants, insurance and all the other headaches associated with negative gearing. I interviewed a number of tax accountants, to find the right one. One of the accountants I interviewed was foolish and said, "It more about time in the market than timing the market - negative gearing allows you to get started." I said goodbye after he said this, and yes, I did get charged an hourly rate for his ridiculous advice. It's not about time in the market - I know people that followed that advice in 2006 and purchased property in 2007. As a result, they were bankrupt by 2009. Its all about timing the market. The smartest investors in the world saved up capital to purchase houses and stocks for cents on the dollar in 2010, just after the Global Financial Crisis. They knew it was coming. They timed the market. Make sure you listen to the right people.
"The only time that Negative Gearing works is never."
Mortgages, debt, personal loans, credit cards and other liabilities that take money from you are things that you must run away from unless you know how to use them properly. There is nothing wrong with debt as long as you are not the one paying it - make sure that someone else is. Remember, you must be able to pay back the debt which you accumulate - getting others to pay your debt is a great way of doing this. For example, let's say you buy a $150,000 house and don't live in it - you are the one paying the mortgage. However, you are able to rent it out to tenants, and the tenants pay you a rent payment of $2000 per month. If the mortgage repayments, maintenance costs, insurance and council rates, and other expenses are less than $2000 per month, you are positive gearing, not negative gearing. In other words, the house you purchased has a positive cash flow, not a negative cash flow. If the monthly expenses are $1,000, the positive monthly cash flow is $1,000. Therefore, this house is an asset returning a cash flow of $1000 x 12 = $12,000 per year to you as the investor. If your income was only $4,000 per month x 12 = $48,000 per year and you purchased this property, your income will now be $60,000. Instead of reducing your income by purchasing a liability, you have increased your income by purchasing an asset. You have increased your income by $12,000/$48,000 = 25%, instead of buying a liability, like a TV that reduces your income. For more information about debt and how you can use it to your advantage, please read the blog, Good Debt vs Bad Debt.
"With each rise in debt repayments comes a fall in freedom. Your freedom from being able to do the things you want to do."
Remember that it's not about how much money you make, it's about how much money you keep. Debt stops you from keeping the money, and in the long run, enslaves you. People get promotions in life, but with that promotion, they decide to get into more debt - they buy bigger houses, better cars and maybe even a yacht with the bank's money, rather than their own. With each upgraded purchase, the debt repayments rise. With each rise in debt repayments comes a fall in freedom. Your freedom from being able to do the things you want to do like a vacation with your family or a cruise around the world. Patience is the key to embracing freedom, not debt.
"To stop enslaving yourself financially, you must do one of the following two things - you must ensure that you are able to pay back the debt you decide to accumulate or never spend money before you have it."
Disclaimer: This blog provides you with general advice, not personal advice. That means that I did not take into account your personal objectives, financial situations or needs, even if they are known. Accordingly, this information may not be appropriate for you. I may provide general advice regarding the economy, federal reserve policy and risk management techniques, but this is only general advice. You should obtain professional advice and ensure you read and consider the appropriate offer and disclosure document before acting upon any general advice provided.
What are some loans in your life right now that reduce your cash flow and what can you do to pay it off? If you have negatively geared investments, what can you do turn them into positively geared investments? If there is nothing you can do, what can you do to sell them for a small profit?
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