Hi, I’m Ian, a content producer of KCLau.com, an online platform that advocates financial savviness among Malaysians. Over time, I realised that there are many people, especially millennials today, who made decisions which are detrimental to their financial health for the long-term. Unawarely, the financial losses could be in the range of tens or hundreds of thousands in Ringgit Malaysia.
Hence, I felt that it is helpful to highlight what these decisions are so that if you are in your 20s now, you can avoid making them and have a significant financial head start than your peers. Here, I’ll list down 5 money traps that anyone could easily avoid and they are as follows:
Trap #1: Being Financially Illiterate
This is the mother of all money traps and understandably, for most, the subject of money is not being taught in our school system. Thus, it caused many people to become poorer and deeper in debt despite making more money. For most, it seems that the more money they make, the poorer they would become.
So, what is financial literacy?
I believe it starts from a mastery of six simple accounting words namely, assets, liabilities, equity, income, expenses, and cash flow. Their relationship is key and can be summarised with the diagram below. In essence, the financial well being of a person, a corporation and our government would be assessed according to this simple six accounting words. Understanding them is helpful in making wise financial decisions and its absence will cause the following financial calamity:
Trap #2: Credit Card Debt
I like my credit cards. I use them to make cashless payments, get discounts, and most importantly, to build up my credit profile. If my credit profile is good, I can borrow money from banks to invest in real estate to build sustainable wealth. It is a common strategy for one to become wealthy and financially independent.
But, there are people who abuse their use of credit cards. They have been used to cover shortfalls arising from excessive spending. If you are in your 20s, this is a form of debt that you cannot afford to have if you want to be financially solid. Why? This is because the interest payments on this debt is at 18% – 24%, which is the highest rate among all known liabilities today. But, if you have credit card debts, it is a good idea to clear it off as soon as possible. Make that a priority. If you find that the debt has become overwhelming, it is wise for you to seek help from a financial planner or AKPK, which is a government agency set up by Bank Negara Malaysia (BNM) to help resolve your debt repayments.
Trap #3: Overpaying for a Car
Understandably, a car is a necessity for it is a mode of transportation. With that being said, if all people view car solely as a necessity, then, all of us would drive more Peroduas and Protons on the road. Clearly, that is not the case. Presently, a car is viewed more than just a transportation vehicle. It is a symbol that could subconsciously define our social standing and level of affluence.
I’m not against people driving a Mercedes Benz. I think if you earn RM 50,000 a month or more, you can obviously afford it. But, if you make a lot less than let’s say RM 10,000 and wish to pay a few thousand bucks in installments per month to drive a Mercedes Benz, I reckon that you weigh in the true cost of having the image. It can be a very expensive one to maintain.
Basically, the cost of a car would include its downpayment, installments, cost of servicing and maintenance, insurance, and road tax. This excludes costs such as petrol, toll and parking fees. If you have a car or two today, I think it is helpful if you can reflect the proportion of your car-related expenses in comparison with your monthly income. Are you incurring between 30% – 50% of your income on your car? If that is you and you feel that the car is eating you up financially, it is timely for you to reconsider the ownership of your car or to grow your income.
If you are starting off and you need a car, you may either opt for a second-hand car or a lower priced first-hand car. Why? This is because the value of a car will depreciate over time. A RM 50,000 first-hand car in the showroom today could possibly be marketed in a second-hand car dealership for RM 25,000 or 50% of its value in 10 years time. In this case, it is a straight-line depreciation of 5% per annum. Not forgetting, your effective interest cost could be around 5% per year and thus, costing you a negative 10% in your equity (net worth) per annum.
If you are spending 30% – 50% of your income on a car, how much can you save and invest for your future?
Trap #4: Buying an Overpriced Property that You Cannot Afford
This has become a major problem among millennial property buyers. There are two parts to issue: Affordability and Overpricing.
Let’s start with affordability. In Malaysia, the conventional rule is for one to fork out 10% downpayment to buy a property. For instance, if the property is priced at RM 500,000, the buyer is required to pay RM 50,000 in downpayment. Also, he would also be coming out with around RM 20,000 in transaction costs which include its sale & purchase agreement, loan agreement, stamp duties for these agreements and the property’s valuation report. In essence, it would be ideal if the buyer has set aside RM 125,000 in cash to afford this property, which is one hefty sum that could mean many months or years of accumulated savings.
Unfortunately, it is common for properties, particularly those newly developed, to be marketed at a price which is 20% – 40% above the value of properties that are located in the vicinity. Many buyers of these properties are lured into these properties for they were promised substantially low downpayment and savings of a couple of transaction costs. Regrettably, these buyers fund their properties with loans that have been substantially marked-up because they are not willing to fork out the 10% down payment required to buy a property.
The issue for these buyers comes in after they have collected their keys to their properties. For most, they have experienced difficulties in selling them at a gain for they need buyers who are willing to place a 10% down payment to buy over their property. But, here is the thing. If I’m a property buyer who has cash, why would I buy over a new property at a higher price when its owner bought his at 20% – 40% premium over the other properties in the vicinity? As such, they had to lower their prices to entice prospective buyers to sell their properties, which caused their property prices to fall 20% – 40% from their net purchase prices.
If they can’t sell off their properties, they would incur about 4% in interest rate and other property-related expenses such as maintenance fees, sinking funds, utility bills, quit rent and assessment.
So, what is best if you are in your 20s today?
I think it is prudent to save up money for your down payment. It is okay for you not to rush into it if you are not financially prepared to own it. Saving up for the down payment allows you ample of time to be prepared financially and as well as emotionally to be a property owner.
Trap #5: Chasing Quick Gains from ‘Investments’
In today’s economy, investing is a life skill. It is becoming less of a subject that is only being studied by people who are interested in it. It is a very important skill set as it determines our financial survivability and stability for the long term. As I write, the FD rates are well below 3% per annum. It means, our money is now rotting faster than ever if we just put them in the bank.
While there is a need to invest, the issue for one often lies in his desire to have quick huge gains from investments without putting in time to study and to have them managed properly. This happens in all investment markets such as stocks and real estate. It would be very risky for one to buy a stock or a real estate and believe that they would ‘go up’ without careful study or analysis on them.
So, what if you wish to invest but you have no clue on how to start investing?
The best is for you to get investment education. It begins with formulating your own personal financial plan, understanding the six accounting words discussed earlier, having a checklist to identify good deals from bad deals and time to find and assess these deals. If you are promised with high quick returns without any or little study or effort, just avoid them and you’ll do just fine.
How to Get a Financial Head Start in Your 20s?
The above has illustrated 5 common decisions that millennials had made which has resulted in years of financial setbacks. So, don’t let that be you. Here, if you want to get ahead financially, here are 9 things you can immediately do to start building your foundation towards achieving financial independence.
- Understand the Basics of Financial Statements
- Learn How to Draw Up a Financial Plan.
- Avoid Credit Card Debt. If you have, settle it as soon as possible.
- Use Your Credit Cards to Build Your Credit Score.
- Do not spend more than 25% on car-related expenses.
- Do not buy a property if you cannot afford it.
- Do not buy a property just because you get huge cashbacks. It could be very much overpriced.
- Don’t chase quick gains from investments. It hurts badly.
- Learn how to Invest, be it stocks or real estate.