FOOL'S EYE VIEW

Five Massive Money Mistakes!

By Cliff D'Arcy
March 21, 2006

Although I have a mathematical background and have worked in financial services for almost two decades, I've made more than my fair share of financial mistakes over the years. Indeed, as I explained in My Biggest Financial Disasters, I've made some horrendous howlers over the years!

Then again, who would you be more likely to trust: a person who claims never to have put a foot wrong or someone who has made his fair share of mistakes but has learned from them? Happily, thanks to my light-bulb moment in the late Nineties and discovering the Fool about five years ago, my financial future is now looking rather more promising!

Anyway, without further ado, here are five money mistakes that are oh-so-easy to make, yet not desperately difficult to correct:

1) Failing to budget

Budgeting is often seen as the most boring aspect of personal finance. However, budgeting is the foundation of good financial planning, because "if you can't measure it, you can't manage it". After all, how can you expect to build wealth and financial security if you can't even keep track of your income and outgoings?

One great advantage to budgeting is that it enables you to identify exactly where your money goes, which allows you to decide in which areas to cut back. What's more, I've found that the very fact that I have a budget forces me to spend less money, as it makes me stop and think, "Do I really need this?" Often, the answer is a firm "No!"

If you need help to get to grips with your income and expenses, try filling out this easy-to-use Statement of Affairs calculator, plus visit our Get Out of Debt centre to learn how to bash your household bills.

2) Borrowing too much

Actually, this section might equally be called "Paying too much interest", because there's nothing wrong with borrowing as such -- it's only expensive borrowing which costs you dearly. For example, getting a cheap mortgage to buy a property has proved to be a great route to wealth for most homeowners. On the other hand, borrowing on credit cards can be fiendishly expensive, as most cards charge standard interest rates of over 15½% a year.

As a reformed "credit junkie", I take a hard line on debt these days. Alas, I'm unusual in this respect, as the typical British household now has unsecured (non-mortgage) debts of over £7,700. What's more, the annual interest bill on a debt of this size is close to £1,200, so a typical household hands over £100 each month to lenders, compared to about £25 ten years ago. Oops!

Some people believe that the solution to excessive debt is to consolidate (roll up) their debts into a single "easy, affordable monthly repayment". I disagree, because most borrowers go on to build up further debts alongside their shiny, new loan, as I explained in The Dangers Of Consolidating Your Debts.

Instead, my advice would be to slash your expenses and throw your disposable income at your debts, starting with the most expensive first, which is known as snowballing. You can speed up this process (and give yourself a long-term breather from paying interest) by moving your debts to a 0% credit card, which charges no interest on transferred balances for up to a year.

Check out the delightful deck in our Credit Card centre!

3) Practising mortgage monogamy

The UK's 11.6 million mortgage borrowers collectively owe £975 billion to mortgage lenders, or an average of just over £84,000 apiece. In 2000, the average mortgage debt was under £48,000, so it has increased dramatically since the start of the millennium.

Alas, despite a 76% increase in the average mortgage debt over the last six years, half of all homeowners (50%) have never changed their mortgage lender to get a better deal. Even worse, more than two in five homeowners (41%) claim that they will never switch, according to this survey.

This is a costly mistake, because many homeowners are paying a heavy price for their loyalty, especially those who are paying their lender's standard variable rate. As I demonstrated in this article, shopping around for a lower mortgage rate every few years can save you tens of thousands of pounds over the life of your mortgage, even after taking the various costs of switching into account.

If you'd like to pay less for your home loan, I'd recommend employing an unbiased, independent expert, such as no-fee mortgage broker London & Country Mortgages.

You'll find this award-winning firm, plus a range of great rates, in our new, improved Mortgage centre!

4) Paying tax on your savings interest

As I explained in Your Ultimate Guide To Saving, your goal as a saver is simple: to earn the highest interest rates, without putting your savings at risk. One easy way to boost your savings interest is to open a cash mini-ISA, which is nothing more than a savings account that pays tax-free interest.

With a bog-standard savings account, a pre-tax rate of 5% a year turns into 4% after the taxman has had his cut (3% for higher-rate taxpayers). However, with a cash mini-ISA, you lose nothing to the taxman and therefore get to keep the whole 5%.

Naturally, this generous tax-free allowance comes with strings attached, the main one being that you can't pay in more than £3,000 per tax year into a cash mini-ISA. However, couples can open His and Hers accounts, allowing them to shelter £6,000 per tax year from the taxman's greedy grip.

In most other respects, cash mini-ISAs behave exactly like other savings accounts, so you can deposit lumps sums into them, pay in monthly amounts, and withdraw money when you need it (but you won't be able to replace withdrawals if you've already paid in the maximum £3,000 in that tax year). So, if you aim to be a serious saver and you're sixteen or over, a cash mini-ISA should be your first port of call!

Check out the cracking cash mini-ISAs in our ISA centre!

5) Failing to invest

Having said that cash mini-ISAs are perfect for savers, I have to confess that I haven't opened one for the last few years. Instead, I prefer to take out a shares maxi-ISA, into which I can invest up to £7,000 per tax year.

I've been a fan of investing in shares for almost twenty years now, and most of my wealth is tied up in the stock market. I invest in shares for the simple reason that, over long periods, they almost always beat the alternatives, such as cash and bonds. Indeed, since 1918, the UK stock market has produced an average return of 11% a year, with dividends (the income from shares) reinvested.

Of course, the stock market is something of a rollercoaster: in this millennium alone, we've had three bad years (2000, 2001 and 2002), followed by three good years (2003, 2004 and 2005). Sadly, the bad years tend to scare off many investors, some of which never return. Then again, as I often remark, "the stock market saves its greatest rewards for the most patient investors", so I tend to ignore the day-to-day noise, sit back and look ahead twenty years to a rosy future!

Finally, it's worth noting that, despite rising more than four-fifths (82%) from the low of 3,287 recorded on 12 March 2003, the FTSE 100 index still looks cheap in historical terms, as we explained in Where Next For The FTSE? Hence, I believe that there's more to come, so I can't wait until the start of the 2006/07 tax year on 6 April, when my wife and I can shelter more money inside our tax-free ISA wrappers -- and build yet more long-term wealth!

Get a tax-free wrapper for your shares, plus buy and sell shares cheaply in our Brokers centre!

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