Most people living in North America have some form of debt. That can include anything from credit cards, student loans, a car loan, a mortgage, or a payday loan. Given how common debt is, you would think people would talk about it more. But topics such as how much we owe, what interest rate we pay, and what are our repayment strategies are taboo.
Why is the subject of debt off-topic when the majority of us have it? That is one area of
finance people find especially challenging to face, let alone to discuss in detail. But that's
what we're tackling in this blog post: debt.
In order to understand debt, you have to understand what credit is. Credit is the ability to purchase something before you actually pay for it. It is a loan someone gives to you
based on trust that you will pay it back in the future. Credit allows us to purchase items
we couldn’t ordinarily buy because we don’t have enough cash on-hand.
Credit can be very convenient, allowing us to satisfy our needs and wants without having
to first save money. Credit allows us to get something now that we think we can afford in
the future. In this way, credit can help us out of a jam, like when you have an unexpected
big expense and you still need to buy groceries. It allows us to eventually purchase
homes, as nearly no one could ever save enough to buy a home in cash. Credit can spread out your purchasing ability over your lifetime, such as needed when attending school. If you expect a college education to raise your lifetime earning power, but you will only see that increase well after you had to pay for the education, then it can make sense to borrow.
That said, credit also allows us to make impulsive purchases for items we can’t afford, like buying an expensive car or vacation.
Such convenience is not free. You still have to pay for the items you bought, and then
you have to pay the lender additional money through interest charges and fees. This is the incentive the lender has to loan you money and to take on the risk that you won’t pay
back the loan.
Interest is charged as a percentage rate of the total amount you owe. Let’s pretend you
want to buy a new $1000 couch and you pay using your credit card. Your credit card’s
interest rate is 18% APR (Annual Percentage Rate), so if you don’t make any payments
after one year you will owe $1000 + $180. After two years, you will owe an additional
$212.40. You are paying not only interest on the original amount you borrowed, but also
interest on your previously accrued interest. This is called compound interest, and it is
one of the reasons that having too much debt can spiral out of control.
Fees can be more complicated than interest. Some loans incur significant up-front fees
such as origination fees and closing costs for a mortgage. Credit cards and lines of credit
can have annual fees regardless of whether you use them or not, and charge very large
fees if you are late making a payment.
Other loans, such as payday loans, don’t charge interest at all but force you to pay back the loan every two weeks, and if you can’t they charge a lot to open a new loan to pay back the old one. In each of these cases, you are paying for both the access to borrow money and for not having paid it back in total.
Going back to the example of the couch, if the credit card company has a minimum
monthly payment of $40, but charges 0% interest (unlikely!), it will take 25 months to
pay back the money you borrowed. But since 18% interest is charged, and interest is
charged on any previously accrued interest, you will need to pay $1263, and it will take
you an extra seven months to pay it back!
This is where compound interest comes into the picture, and where we tie credit back to
debt. If someone loans you money based on your ability to pay it back, but you are
unable to pay what you owe immediately, you are in debt. As discussed before, this in
itself is not bad, as long as you have calculated the costs, have good reason to borrow the money, and can easily pay it back over time. But with the process of compound
interest, which people often miscalculate, it can feel like your financial train to success comes off the rails. More on that in Part Two of our posts on debt, where we discuss how to get out of debt.
If you're in debt and would like help coming up with a plan to get out of it, please contact us for an appointment.
Asking for more money is an important part of your paid employment, but a lot of people balk at having the conversation. We don't talk openly about money, and asking for more can be intimidating to say the least. It is an important step in your financial health, though.
One of the largest barriers facing people is the struggle to quantify what they do and why they deserve a higher rate of pay. In today's Money Tools to Use series, we discuss how the S.T.A.R. Technique can help you express what you do and why you're a valuable employee.
To start, consider three contributions you made to your place of employment since your last review and/or raise. How did you continue to grow your level of service after those contributions?
Next, consider how you will continue to improve your work and contributions to the company going forward. In doing this you'll want to be as specific and concrete as possible, which is where the S.T.A.R. Technique can help:
S.T.A.R. stands for Situation, Task, Action, and Result. It's a technique used in informational and behavioural interviews to assess a candidate's past performance in order to get a sense of how they may respond to similar situations in the future.
The S.T.A.R. technique is as a way for employees to concretely show the skills they've developed and display the value they bring to their job role.
Here's an example from a person who is employed as a bookseller:
S: Situation – Customers could not find sections easily while browsing on their own.
T: Task – Create an environment where customers could browse with ease.
A: Action – Spearheaded design and construction of new section signs.
R: Result – Customers are now able to find the sections they want and the store has an updated look that’s consistent with its brand.
S.T.A.R. allows the bookseller to show a number of important skills -- we'll list two for each point, though there are many more in the above example. First, they noticed a situation in which a customer needed help (customer service, observation) . Second, they discovered what needed to be done to fix the situation (understanding, listening). Third, they undertook an innovative solution that required additional skills (brand knowledge and awareness, carpentry). Finally, they effectively solved the situation while improving the store's general appearance and efficiency (design, community connection).
When you ask for raise, if you know what you do and why it's important, you're going to have a strong foundation from which to build your case.
We'll discuss other ways to approach asking for a raise, considerations to think about before doing so, and further techniques to employ in future Money Tools to Use posts.
At Squirrel and Nest we are huge advocates for people paying for every purchase possible with cash, especially when people are first learning about their finances. The key to any stable spending plan is to two-fold: 1) know where your money goes, and 2) spend less than you make.
Notice we didn’t say, “Make a budget and stick to it!” All realistic spending plans need to be flexible because we’re people, and if there’s one thing we know about being people, it’s that life can and will be unpredictable where we’re concerned. That said, operating within your income is absolutely necessary to your financial wellbeing. That’s where cash envelopes come into play.
For many people, cash in hand is like butterflies: there one minute, gone the next, and who knows where it went. This often leads people to feel they are irresponsible or “bad” with cash, but what’s really going on here is a problem rooted in a lack of clear supports. Cash envelopes provide the support and framework needed to begin understanding where cash goes and why. Perhaps one of the simplest money tools you can use, a cash envelope is money you place in an envelope and track when you spend. When you’re getting started, aim for a modest goal: stick to a cash budget in one spending category for a week to increase your chances of success and give yourself room to learn. The idea of sticking to a budget for one week is reasonable, and this limited timeframe provides a good training ground to develop new spending habits and financial skills.
The Cash Envelope Method
Start with a single item from your spending plan that you’re familiar with and use consistently. For most people, this spending category is the food budget. Once you select your category, your goal is to stick to a cash envelope for that category for one week.
If, for example, you have a four-week month and a budget of up to $1000, you’d have up to $250 available for food each week. To begin, withdraw $250 from your account (never, ever, EVER take a cash advance out on your credit card -- if you do you will immediately begin to pay fees and a high interest rate, all of which costs you more money unnecessarily).
Take an envelope and write Week One: Food Budget on the front.
Write the total cash you have available for the week. Stick the cash inside, and viola! You’re set to go.
When you go grocery shopping for the week, you’ll be taking your cash envelope with you to pay for every food purchase you make. Be sure to keep your envelope in a safe place that’s accessible to you.
While you shop, try to keep a running total of the food you’re buying. This can be done via your brain, if you’re so inclined, by paper, or by using a calculator (most phones come with this feature now, but there’s nothing wrong with a Dollar Store calculator, either). In doing this, you’re developing a better understanding of what you’re about to spend, which connects you to the cash in your envelope and by extension your greater spending plan.
After you’ve collected your groceries, go to the register and ask the cashier if the store offers a cash discount (yes, do this; it’s particularly effective small, non-chain grocery stores -- the worst they can say is no and you’ll survive that). If they say yes, woo hoo! You’ve saved some money! (Seriously, though, ask for a cash discount for everything you buy every time you use cash).
Take your receipt. Take your receipt. Check that you received the correct change (yes, do this -- we're all people and people make mistakes and that’s okay).
Write the total you spent with the date on the front of the envelope and tuck the receipt inside your envelope.
Calculate your new running total for your budget.
When this works
By the end of the week you should be able to account for every bit of cash you spent down to the last penny. Hopefully you’ll even have a bit of money leftover. If you do have a bit of cash remaining, tuck it away for now, in case you need it to cover other parts of the month. At the end of the month, if that money is still around, toss it into an emergency fund, add it onto a debt payment, or put it into a savings account -- then pat yourself on the back because you rocked this! Continue to use cash envelopes through the end of the month. If it works well for you, consider how you can apply the cash envelopes to other spending categories.
Why does this work?
A few studies like “Researching the Pain of Paying” argue that we spend less when we use cash because we have a better understanding of what we’re giving away and having that psychological connection means parting with cash hurts. Other studies, like the much-cited study by Dunn & Bradstreet found that people who use cash spend less than when they spend with credit cards -- the findings stated that people spend 12-18% more when they use credit cards.
That could very well be a big part of the story, but it’s not all of it. So much of what we do, especially where money is concerned, comes back to habit. When you use the cash envelope technique, you’re actively trying to learn new spending patterns and money associations. Not only do you have to calculate your approximate total before going to the register, once there you have to confirm that you do, in fact, have enough cash for your purchase. With credit cards it’s so easy to plug in and go
-- and with many of the credit card machines, once you plug in the total disappears from the screen.
Even after you’re done with the immediate transaction, when you use cash envelopes you’re not done with your learning and engagement. You take the receipt, write down the total, and then calculate your remaining cash for the week. Every time you do this, you’re reinforcing a connection to your money and developing a better understanding of where your money is going. Knowing where your money is going and what you’re doing with it is a critical step in living debt free and financially independent.
What if this doesn’t work?
If you try this and don’t immediately meet with success, don’t despair! Learning new habits is never easy. It takes time, consistency, practice, and kindness. Be patient. When you make mistakes -- and we all do, even the most budget-conscious of us -- don't give up. Look at what happened, acknowledge what you did, make a plan for how you’d handle it differently in the future, and then keep going. Stick to it. It’s likely that you’ll discover you need to change habits that are deeply ingrained, or re-evaluate the choices you’ve been making with your money. For a lot of us, it’s all too easy to get caught up in the idea of having a particular lifestyle when we cannot, in fact, afford what it means.
Just remember: you’re reading this for a reason. You want to learn how to handle your money; you’re smart; you’re engaged; and you’re moving in the direction of financial freedom. You can do this.
Have you ever played Monopoly? My family banned the game from our house years ago; it seems to bring out the worst in all of us, and negotiations soon go from the usual trades to people issuing threats sugared with real -- not Monopoly -- money. I actually don’t think we ever finished a game, though my dad was a Monopoly champion in his youth. Whenever you add money to an equation, tempers rise, negotiations harden, and the fun tends to drain from each interaction.
This is why I started to laugh when my husband suggested we use Monopoly money to figure out our financial obligations years ago. Here's what that looked like:
For those of you who have had a bi-weekly paycheque, you’ll be familiar with the Three Paycheque Month. I don’t know about you, but I await this month with anticipation because it’s “extra” money for us to toss down on debt, put into savings, or (to some degree) spend frivolously.
Mint.com has given us an excellent tool with which to visualize our budget, but I’m still a hands-on, cash-based entity. Mint is limited in how much it can tell me because I work in different ways.
That’s one of the hardest parts of a budget: communication. Money is so often imbued with emotion that it’s difficult to take a logical stance and maintain that objectivity in conversations. “I want” and “I need” are hard to define and tricky to express in a way that supports continued discussion, whether you’re working through a budget with yourself, with a financial counsellor, or with a partner.
When it comes to a Three Paycheque Month getting priorities straight is important, especially when you’re tempted to stray from your regular path of responsible financing and go the route of excess and adventure.
We decided to have it all and opted for wants, needs, excess, and adventure…through Monopoly money.
Let the Game Begin!
My husband pulled out the Monopoly board we have in the house (it’s actually Monopoly City, as regular Monopoly is banned…the City version is a loophole we have yet to close). This board features money in denominations we don’t possess, with the smallest bill being “10K,” so we ignored the K and worked with our options. We counted out money equivalent to all of our paycheques for the month, both the ones we received and the ones we’re expecting (we also had Mint.com on our computer up at the same time), and put the money in a pile. From there we removed our regular bills: mortgage, debts, groceries, etc.
This left us with a much diminished pile, but thanks to Three Paycheque Month and a bit of overtime there was a significant amount left. Usually our money would all be gone at this point and the conversation would be over.
Let’s talk for a moment about excess and adventure. For a few months now we’ve been planning a trip to Disney World with family. We have a budget of $2600 for the entire trip, with all the park passes, dog sitting, hotels, transportation, etc. included. Was this a priority over repaying our suffocating debt?
In our case, yes.
Having the Monopoly money in hand and seeing how much we could pay off if we chose to spend that money on debt instead of gallivanting through Disney World made that decision more clear: the delay of debt freedom versus a family vacation. This isn’t a decision anyone could make for another person and comes down to what is more important to you—your values.
And let's face it: Disney's Always Been a Priority for Me
Values change, which is why conversations about budget is an ongoing, ever-changing dialogue. Budgets require constant check-ups, check-ins, revamps, and sometimes even Monopoly money. Whatever your system, giving yourself a means to articulate your needs is an essential, constant practice.
Right now, we value one family fun trip over debt repayment that would get us out of debt two months sooner. I honesty, I actually found a bit surprising considering my consuming obsession with paying debt and getting out from under our $45,000+ point Beast. In the long run, though, those memories are more important to us than the few months we could have shaved off our debt repayment, and having that money in hand helped crystalize that for us. Besides, we would still make our regular debt payments for the month and we would still be on track.
That's important: staying on track. We're not putting ourselves into a worse situation, which is key here.
Whatever your budgeting technique, try to have a few options for communication available to you when you discuss your finances. What follows is a list of ideas we’ve used and loved (or hated) at various times in our ongoing financial dialogue. Each of these items will be covered in more detail in future posts:
- A financial counsellor! Even the most avid budgeters and money-conscious people can learn a lot by having a professional financial planner look through their finances with a fresh pair of eyes and a new pair of ears
- List of every item you’d ever want to buy with prices
- Drawing and writing out immediate financial goals, medium-term ones, long-term ones
- Visualizing the life you want to live
- Making use of Monopoly money to have your monthly cash in hand (or using the cash itself if you can)
- Creating a visual debt beast (mine had hit points a la video game culture and is slowly dwindling with little opportunity to heal itself)
- Spreadsheets (Google free budget spreadsheet)
- Mint.com (athough it is really a bookkeeping system as it doesn’t allow you to budget for future months)
- Gold star chart for achievements (or smelly sticker chart…because who doesn’t love smelly stickers?)
- Maintain an updated list of goals with all items listed on it (both those involving money and those that are free)
- Create a budgeting group with a few of your close friends who can help keep you on track, provide support/ ideas, and celebrate your accomplishments with you
Squirrel and Nest offers one-on-one and small group financial counseling services that aim to give individuals the knowledge and independence they need to get their financial lives in great shape.