Young Adult Financial

Wrapping Up for Now

2013-03-02T11:48:00.000-08:00

I have some news to share: some good, and some bad.

Let me begin with the bad. After a whole bunch of thought and racking my brain about what my passions are, I've decided to stop posting new content to Young Adult Financial, at least for the time being. I've had a great time writing articles and (hopefully) helping people make better financial decisions, and I've especially enjoyed interacting with the different readers who have reached out to me for help, but it's time for me to take a break from this and try to apply my financial skills in other domains. I apologize for not posting more often this past month while I worked out my decision--I've been exploring all sorts of related paths, and I wanted to make sure that I really nailed down my plan before posting anything final.

Which brings me into the first bit of good news: I will be joining the Intercollegiate Finance Journal as their Head of Content, helping to make financial issues more relevant to college students. It's definitely a work-in-progress as of now, but I'm excited about the journal's leadership and its potential scope in helping students think about how financial issues affect them. If you have any ideas about how financial publications could be better suited for students, or if you'd like to get involved, please don't hesitate to contact me!

I also have a second bit of good news: I will continue checking the Young Adult Financial email address, and I am more than happy to continue talking with readers who have financial questions. As per the usual, I'm not a lawyer or certified financial adviser, so I can't promise that my thoughts are anywhere near comprehensive, but if you're just looking to talk to another young person about a financial issue that you're dealing with, I've still got your back. I plan to keep that portion running for as long as people continue to reach out, so feel more than free to send me your questions.

That's it for now. I've had a blast running the site, and I'll be leaving it up as a resource in case you ever need to refer back to it. For now, I wish you the best of luck in handling whatever financial situations may come your way!

Steven Adler

Building Your Resume the Right Way

2013-02-06T14:50:00.003-08:00

Spring is coming up quickly, and lots of young people are gearing up for applications, interviews, and—hopefully—the coveted spring internship. Some of these internships will provide genuinely great learning experiences: you’ll get to see the inner-workings of an organization, and you’ll be more prepared for similar work later in your life. Of course, some of these internships aren’t valued just for the learning opportunities they provide. Instead, many young people will pursue these internships and achievements simply to pad their resumes—perhaps en route to their next internship, or even toward an eventual job.

I’m not going to completely denounce resume-padding or pretend that I’ve never been drawn by its allure (taking on a lot of commitments—not lying, which is different). In a competitive economy, young people need any edge they can get, and having a noteworthy name on your resume can count for quite some bit. Still, there is a right way and a wrong way to go about building your resume, and going about it the right way will serve you much better in the future.

Do: Focus on intrinsic reasons for doing things rather than extrinsic ones.

Intrinsic motivation is about doing things because you want to do them—say, because you find them enjoyable, or because you consider them to be a part of an important cause. For example, interning with your local Representative because you find politics to be genuinely exciting could be an instance of intrinsic motivation. The same internship, however, could be motivated by extrinsic reasons—ones driven by factors outside of yourself—if you were taking the position merely for its prestige or to be able to list it on a resume.

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Why is choosing activities based on intrinsic reasons so important? Well, for one, you’ll enjoy the process a lot more if you want to be involved, rather than seeing it as a necessary burden to achieve some other valuable thing. The same excitement and energy of a Congressional office could easily turn into chaos and exhaustion if you don’t really care about the work.

Not only are you more likely to enjoy your work if you do it for intrinsic reasons, but you’ll also probably be more successful at it. When people are motivated by extrinsic reasons, they often stop short in their activities once the goal has been achieved. For instance, if you only want to be a marketing intern so that you can claim experience in the field, you’re going to feel satisfied with your objective far earlier than someone who’s in the position to learn—and consequently, they’re going to develop much more skill than you are.

Now, I know that this might sound like an extrinsic reason to choose your work based on intrinsic reasons, but it’s just true: Potential employers can tell when you are passionate about your work and when there’s a lot of depth beneath the surface. You aren’t going to be able to glide through opportunities that you don’t care about for very long before it becomes apparent to other people. If you choose opportunities based on what you enjoy, on the other hand, you won’t have to feign interest, and you’ll likely get further. It seems like a win-win situation.

Don’t: Sign-up for small commitments to “pad” your resume.

This has always struck me as one of the odder resume-padding habits: when people accumulate a series of small activities and string them together as things they’ve done, all without a cohesive frame or narrative. Unfortunately for them, the resume is just as much about who you are and what your interests are as it is about what you have done.

Put in simpler terms, a list of small achievements is going to read as exactly that: a list of small achievements. A more carefully-chosen description of accomplishments, however, can give employers a sense of what matters to you and why you have chosen certain commitments. For example, volunteering once on Election Day at a polling station is unlikely to show much dedication to the civic process: it’s only one day’s work. On the other hand, a longer-term effort (say, organizing, rounding up, and training all the volunteers for that day, in addition to other campaign work) paints a much fuller picture of who you are. When focusing on your resume, therefore, it makes sense to think in terms of the big picture, rather than a few small, isolated activities.

Do: Explore what learning opportunities exist within your options.

A cool internship is useful on your resume as a signaling mechanism to future employers that you were deemed qualified by someone else, and if the internship is noteworthy enough it might even land you an interview. From there, though, the process of selling yourself changes quite a bit. It’s no longer about piquing somebody’s interest; instead, it’s about adding depth to the picture and talking about the tangible skills you picked up in the process.

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It’s no secret that some internships are regarded as glorified busywork. The Internet is full of stories about interns who spend all day fetching coffee or doing basic grunt-work that doesn’t teach them much about their field. Of course, this experience might be better than nothing, and it can sometimes launch bigger and better opportunities. Still, as a recent article in The Washingtonian pointed out, young people can no longer count on these internships to land them stable employment. Now that you quite likely won’t leave an internship with a job offer, it’s important to leave with something else: hands-on learning, and improved future prospects.

So, how can you go about gauging opportunities for learning in certain activities? For starters, you should be asking your interviewer questions about what your role in the organization would be and how you would be expected to contribute. This can come across as a bit assertive, and it’s probably best to not lead off the interview with these questions, but it’s important to treat interviews as a bit of a two-way process. The organization is trying to determine whether it wants to bring you on-board, but you should also be considering whether it fits your needs. Another good method is to talk with friends who have worked in similar situations previously. Ask them if they would make the same decisions if they could start over again; ask them what the biggest thing they learned in the role was. There’s little harm in gathering information.

Some of the time you’ll be in a tight position where you have to accept whatever is offered to you, but if you’re fortunate enough to have some flexibility, really consider how you’re going to come out better on the other end.

Don’t: Lie about your past experiences or skills.

I know this might sound simple, but you would be surprised by how many stories I’ve heard of people who feign expertise in certain areas and then get caught in lies during interviews or resume submission. Worse, some of them actually land the opportunities and then find themselves completely overwhelmed with tasks they claimed to be able to complete. Inflating your resume is just a bad idea; even if you don’t get caught directly, the negative impacts are going to catch up with you, and it’s not going to be pretty.

With that said, if you find yourself without certain core skills or experiences, there are ways to improve on those deficits without lying. For example, if you want a hands-on look at a marketing campaign, consider volunteering your time with a small local organization that’s a little understaffed. Perhaps it’s not quite as prestigious as a bigger-name company or a widely-sought internship, but it will show your commitment to your passions—and better yet, you’ll leave the opportunity better prepared for the future. If you lie, however, you might initially come off as impressive, but you won’t have the actual skills to back up your claims. And that shortage is going to catch up with you.

With these tips in mind, hopefully you’re more prepared to choose what to include when selling yourself and to position yourself for the opportunities you want. Of course, remember that what you do in the position is almost more important than the position itself—and that’s why intrinsic motivation and genuine interest matter so much. It can be tempting to give in to big-name offers, and some of the time those internships can be quite useful, but it’s important to take them for the right reason. If your decision is influenced heavily by prestige or some other extrinsic factor, you’ll likely be left unsatisfied with the work, and your job experience will suffer as a consequence.

Making the Most of Discount Opportunities

2013-01-23T18:59:00.001-08:00

As we approach April, there are going to be more articles related to pressing time-sensitive issues—things like completing your taxes, saving for coming months, and getting ready for summer. For now, however, we’re going to continue with the theme of one of the financial resolutions for the New Year: saving more money.

Saving money can be tough when it means cutting down on your purchases, so thankfully there are other ways to save your money as well. Perhaps the easiest is using different discount opportunities available online, either to students or the general public, to buy things that you were going to buy anyway.

Of course, following through on this recommendation is not always simple; that’s where this article comes in handy.

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One common mistake that people encounter when they go to purchase something online is that they forget to input a discount code or to access the retailer’s website from a certain discount link. I’ve had this happen to me quite a few times, and while I’ve occasionally been able to get the discount honored by producing the receipt, it’s much easier to just apply the discount from the beginning.

How can you remember to use discount codes when they’re available? An easy option is to consolidate the number of discount providers you use so that you don’t have to comb through a bunch of different websites to find out if you can, in fact, save money on the purchase. Instead, you can just quickly scan the core one or two that you use, and then you can be on your way.

The two discount providers that I most recommend for this purpose are Ebates and Student Advantage. I’ve written about Ebates before, but it’s essentially a platform to earn cashback on most purchases you make online. You also get a pretty nice check from them in the mail when you make your first purchase—I’ve done this and it actually works. As long as the lure of cashback doesn’t cause you to spend a lot more than you otherwise would have, you’re in a good position to be better off financially with Ebates.

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Student Advantage is a little different in that it is geared toward students and the types of purchases that they tend to make—books, clothing, school supplies—rather than those of the general population. It’s also different from Ebates in that there’s a membership fee to sign-up, but the resulting discounts are much larger. Plus, if you ever travel on Amtrak or purchase even one relatively big-ticket item through Student Advantage, you can earn back the sign-up fee very, very quickly.

It probably took me about a month to earn back the sign-up fee, but now I have the card for the next four years, and it continues to save me money. If you sign-up through here, you get a free $10 gift card, so it's even better.

Another good technique is to bookmark the different lists of discounts that are available to you through your various programs. Although it might seem intuitive, you would be surprised by how long it took me to realize I didn’t have to navigate through a series of websites and links every time I wanted to check for a purchase. Streamlining the process has made it much easier to earn the discounts that I’m entitled to without having to figure out how to reach a webpage, and it’s definitely saved me money in cases where I otherwise might have given up.

Discount websites seem pretty universally appealing, especially when they’re free, but people often fail to capitalize on them. Instead, they’ve wasted their time and given the website operator some of their personal information without much gain. By choosing fewer rather than more of these sites, and by keeping better tabs on those in which you do participate, you can overcome this trap and really start saving money when you shop online. There are few things that are truly free when it comes to e-commerce and different electronic purchases, but if you’re going to make a purchase anyway, it makes sense to get the best deal on the product that you possibly can.

Following Through on Your Finances

2013-01-16T12:37:00.002-08:00

It’s been a few weeks since the post about financial resolutions for the New Year. Have you been keeping up on yours? Or has something come up that’s caused you to “take a break,” “focus on something more important,” or just generally leave the pledge behind?

Setting New Year’s resolutions often seems appealing at the time, but by the end of January many people have left theirs behind. Some of the time this abandonment makes sense—you genuinely might not have time or interest in following through on your pledge—but other times this abandonment is an unfortunate loss of willpower that bumps up against our self-image. People don’t like to think of themselves as weak or lacking determination, so we rationalize our behavior with excuses and move on—even if it isn’t what’s best for us in the long-run.

With that said, how can you get back on track after leaving your resolution in the past? And in the future, what tactics can you use to help yourself stick to pledges that you want to uphold?

Make a public commitment to your pledge. Various studies have demonstrated that people are more likely to follow through on their resolutions when there is some public cost associated with not doing so—for example, knowing that people are aware that you failed to lose weight. This public cost could potentially be upsetting or humiliating, depending on to what degree you pledged yourself publicly, but that is only if you fail to follow through. On the other side of the spectrum, this pledge could be exhilarating and a real boost to your self-esteem, especially because it could increase the chance that you complete your resolution.

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Ask a friend for help monitoring your progress. Appointing a friend to help you fulfill your resolution operates on many of the same principles above, only with a reduced scope for your public pledge. Instead of relying upon many people, with some of whom you might not be very close, you will leverage your close relationship and use that as a check on your resolution. For example, when you have to justify yourself to someone else, it is less likely that you’ll be able to slide by with flimsy excuses for quitting. With a friend to monitor your progress, you’ll be more likely to stick with your resolution during the tough times.

Of course, asking for a friend’s help could have some problems when you’re dealing with financial issues. Depending on how close you are with the friend, you might not feel comfortable with their reviewing things like your credit card statement. You can solve this problem by reporting your results to them without their independently verifying the financials, but that approach also opens up the possibility that you could lie to them. Resist the temptation; you have appointed your friend to help you for a reason, and they have other important things that they could be doing if they weren’t helping you. Respect your decision—and theirs—and let your friend help you achieve your goals.

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Put something on the line with StickK. StickK is a free website that uses the principles of behavioral psychology to motivate people to follow through on their commitments. It’s one of my favorite applications of these studies, and I’m glad that it’s finally relevant to something on the site because it’s a tremendous resource that I think people should use more often.

StickK offers a variety of methods, but the main idea behind the site is that making a pledge, such as a financial inducement, can alter the incentives for someone following through on their commitment. By altering these incentives, you can give a person the strength to keep going with their commitments when they otherwise might have quit. For example, one setting on StickK allows the user to set a certain amount of money that will be given to an “anti-cause” if the user doesn’t complete the resolution—perhaps a rival sports team, or a person that the user dislikes. Other options include things like staking the money for a charity, although with a good cause on the line you might not be quite as tempted to stick with your goal. If you’re having trouble sticking with your resolution, you should definitely try StickK—or even check out the book by the site’s creator that hatched the whole idea.

Sticking with resolutions can be tough, but there are proven methods for success that you can adopt to increase the chances that you follow through. By making a public commitment, asking for a friend’s help, and raising the stakes a bit, you can achieve the goals you want—all while convincing yourself that you do have willpower and determination. That outcome sounds pretty much like a win-win.

Image above via.

Textbooks: Buy or Rent?

2013-01-08T16:50:00.000-08:00

As the school year approaches, students are faced with a complicated (and costly) question: Should they buy their textbooks, or should they rent them? The College Board estimates that the average student will spend well over $1,000 on textbooks this year, and that number is on the rise since the year 2000.

Of course, students now have much better textbook shopping options than they did in the past. Before the rise of the Internet, students were essentially forced to use their school’s university bookstore. They had little power to turn elsewhere, and they could be gouged for higher prices because they needed the store’s books. The Internet, along with its third-party textbook vendors, sites for resale, and other technologies, changed that.

Despite rising textbook costs, students have more power to keep their expenses down than ever before. There are a few factors that students should consider when deciding upon their textbook strategy, and their choices could add up to hundreds of dollars over the course of a four-year degree. Here are some important questions to consider:

(Don't need textbooks yet? Make sure to bookmark this page, and return to it later! To bookmark this page, press the Ctrl (PCs) or Command (Macs) and D keys on your keyboard.)
Will I resell my book after I’m done using it? Although book purchases often have larger upfront costs than book rentals, students can recoup some of that cost by selling the textbook to another student for the next term. Of course, this strategy can carry some risks. For one, you might be too busy with finals or other things at the end of the school year to sell your own textbook. In this case, you might be able to find a friend or someone else to sell it on Amazon for you in exchange for a cut of the sale, and that would be preferable to just throwing the book away. Still, you likely won’t recoup much money if you aren’t motivated to sell the book yourself.

Another risk is that the publisher will come out with a new edition before the next term and leave you with an essentially worthless textbook. I’ve rarely seen students angrier than those who are told by the school bookstore that their textbook is no longer valuable, and their frustration is understandable. Buying a textbook with the intention to sell it later is a big investment. If you plan on going this route, make sure to check the publisher’s website first to ensure that no new edition is coming out soon. You can also try emailing the author directly if you track down their email address.

Another factor to consider is that textbook value varies widely at different points in the school year. When you purchase your book, you will likely be paying top dollar because there is a lot of demand for the product: Everybody is scrambling to acquire one, so the sellers can charge higher prices. When you are at the end of the year and looking to sell your book, however, the dynamic works in reverse. Almost nobody is looking to purchase a textbook for September in June, but almost everyone who bought one is looking to get rid of it. You can make a lot more money by holding your books over the summer until demand for them returns, but that can also be inconvenient: you have to bring them home with you; you have to store them; you have to return with them. Consider whether the extra cash is worth the hassle to you and how you can keep your textbooks until their value returns.

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How important to me is an unused physical textbook? Unless your textbook is a new edition, you can likely acquire one at a lower cost by buying it used from an online source.

If you don’t mind reading through someone else’s notes—sometimes they’re helpful—or if you plan on adding your own anyway, buying used can be a great way to keep the investment costs low. You have a much greater chance of recouping your purchase price by reselling a textbook that you bought used, rather than new.

Of course, there are other options to keep your purchase cost low besides just purchasing used books. E-textbooks, available through textbook sites like Amazon, are a lower-cost alternative to physical textbooks because they avoid the large costs of paper, ink, and physical distribution. Instead, you can download them directly, just as you would any e-book, and have the book stored for reading on your virtual device.

The advantages of e-textbooks: no more hauling around heavy textbooks; no more damage or replacement fees to the university bookstore; lower costs to purchase. The disadvantages: it can be hard to take notes in them, although publishers are improving software that allows for virtual notes; reading a virtual book can be less engaging than holding a physical book in your hands; not all courses have their textbooks available in e-book form.

Although e-textbook technology is not perfect, cost-conscious students should look into their options to determine what purchase makes the most sense for them. Buying used or virtual books is not for everyone, but for those willing to take the plunge, it can save quite a bit of money over buying every book brand new.

Where will I look to find good textbook prices? If you’re still limiting yourself to your university bookstore, then you’re likely costing yourself a large chunk of money on each purchase. Sometimes the university bookstore really will have the best deal, but it’s important to do your due diligence so that you can use other options if appropriate.

Before heading to the university bookstore, make sure to do research on Amazon or another textbook vendor about how much your books cost online. Consider whether there is an e-book edition or an older edition that might suffice. For example, my Intro to Econ course had an old textbook available that was virtually identical, except in the homework problems at the book. Our libraries had copies of the newer edition, though, so students could have saved a bunch of money by buying the old edition for cheap and just doing their homework at the library.

If you have friends who have taken a certain class before, you might ask them where they purchased their copy. If you know that you’ll be taking a certain class the next term—say, know in June that you’ll be taking it in September—it might make sense to buy in advance and take advantage of the lower price. Of course, this brings the same convenience difficulties as storing your textbooks for resale after the summer does, but depending on your situation the saved cash might be worth it.

There is no hard-and-fast rule for when to purchase a textbook, as opposed to renting one. Each option can differ in cost, convenience, and difficulty, and it is up to you to choose which path best fits your circumstances. Still, by taking advantage of the Internet and new technologies, you can put yourself in a much better position than someone who enters the textbook world blindly. That advantage will likely save you hundreds of dollars over the course of your education.

Photo from above is available here.

Financial Resolutions for the New Year

2013-01-01T14:29:00.001-08:00

Another year is in the books, and it’s been a wild one—marked most notably for you, I’m sure, by the creation of this website. Pat yourself on the back for a great year, and get ready to gear up for another one.

With a new year, of course, come resolutions for how to improve in the coming months: vows to lose weight, exercise more, be nicer to people, and plenty of other goals. With all that ahead of you, why not take the opportunity to set some financial goals for the upcoming year?

Next week’s article will focus on how you can achieve your goals at a higher success rate. For now, let’s discuss some viable financial resolutions and how they matter to your long-term financial health:

Strive to put fewer expenses on your credit card. The availability of “free” money can seem really tempting at first, but putting expenses on your credit card that you can’t currently afford is almost never worth it. In fact, unless you’ve recently lost a job and need to float some expenses briefly (at low interest) until you can support yourself again, there is almost no reason to spend more on your credit card than you can afford to pay in the near future.

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Credit card debt can easily spiral out of control, and it also creates a self-fulfilling cycle of debt for the future. Remember learning about the miracle compound interest? Well, with credit cards, it works against you, as payments that you put off making continue to grow with time.

Plus, even though the credit available on your card might seem “free” at the time, being able to spend more now means being able to spend even less in the future: You won’t just have to cover your living expenses for that month—you’ll also have to make payments toward your past debt. And with that hanging over your head, you might be tempted to push even more expenses on to your credit card, which only worsens your burden for the future.

What’s a simpler solution to using a credit card? Try to use your card only as if it were a debit card, to the extent you can afford to do so. In other words, try to only put expenses on it that you could afford if they were deducted automatically from your checking account. They won’t be, of course—you’ll still have to pay your bill monthly—but approaching the card with that mindset should help control your spending.

Aim to save a certain percentage of your income for the future. A lot of the time, the biggest barrier to savings is the belief that you couldn’t possibly forego a certain amount of your money. Fortunately, when the curtain is pulled back, the truth is often that you can survive on less than your total amount of money.

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For example, studies by behavioral economists have found that people believe they would have a very hard time saving 10% of their income—but that they could easily survive on 90% of their money.

What’s the problem with that reasoning? Well, they represent the same percentage of savings, just presented in different ways. By playing around with how you perceive and implement your savings, it’s possible that you too can gain a boost of determination and perseverance just by making the task seem more manageable.

Why does saving your money matter? Well, saving money now ensures that you will have money in the future to cover any unexpected hardships—for instance, a period of unemployment, or unusually high bills. For adults, financial planners typically recommend that people try to save up roughly 6-12 months of living expenses so that they can survive a financial hardship.

Teenagers are fortunate that they often don’t have as many major expenses, like a mortgage, but they do have more years ahead of them for which to plan. All of that adds up to a major reason to save for the future. And while you’re at it, why not consider investing some of that mutual in index funds and letting it grow for the future?

2012 is now over, but planning for 2013 is just beginning. With a whole new year on the horizon, put your best foot forward and make sure that you are on solid financial footing. Avoiding your credit card and saving more of your money require effort, but the work to accomplish those goals will be well worth it in the end.

Smart Shopping After the Holidays

2012-12-25T11:08:00.001-08:00

The holidays have come and gone, and hopefully you’ve gotten to enjoy the things that truly matter. You’ve gotten some time with your friends and family; you’ve gotten some much-needed rest off from work or school; and you’ve gotten to catch up on the sleep you’ve been missing.

Those are the things with a lasting impact during the holidays, but people also make a big deal of the shopping that comes with them. For stores looking to unload their merchandise, it isn’t enough to have big sales leading up to the holidays. Instead, when the holidays pass, they continue with the steep discounts to get rid of the inventory they still haven’t moved. It’s all one big cycle, but it’s one out of which you can make the most if you come prepared.

Here are some tips for smart shopping after the holiday season:

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Choose a certain amount of time to devote to shopping, and don’t go over it. Data from the website TrackYourHappiness.org demonstrate that people tend to be happier than normal during the holidays—except for when they are shopping toward the tail-end of the season, during which time they are far less happy.

Because such shopping trips can make you less happy (perhaps by reminding you of your limited or resources or by distracting you from more meaningful things), it makes sense to limit the amount of time you spend shopping. Additionally, by planning out in advance a schedule to which you’re going to stick, you increase the chance of your actually following through on the goal. Let your friends and family know your plans to limit your shopping time, and ask them to help you follow through on them. You’ll thank yourself for this later and for other tips to achieve your goals.

Decide upon a number of maximum spending rather than a list of items. If you don’t give thought ahead of time to how much you are willing to spend, you will likely leave the store with less money than planned. Stores are very good at getting you to snap up items you don’t necessarily need, and unless you’re okay with their taking advantage of you, you should work to prevent this.

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Committing to a number and explaining to yourself why sticking to that number matters is a great strategy to reduce your holiday impulse buys. For example, if you know that you can only spend $200 because you need to have money to make a credit card payment at the end of the month, you’ll be less likely to treat your budget flexibly. Instead, you’ll look for deals or ways to cost-cut that can help you be happy with what you purchase rather than ways to rationalize a budget change.

If shopping online, use Ebates to get free cash-back on your purchases. I’ve written about this before, but that’s because I think this is a really great program that people should use. How Ebates works is when you make a purchase through one of its partner stores, which include most major retailers, you earn a certain percentage of your purchase back in the form of a check from Ebates. Plus, when you make your first purchase of $25 or more, you’ll receive a free $10 check from Ebates. You essentially get paid for the shopping you would have done anyways.

Of course, any discounted deals site runs the risk that it will prompt you to shop more than you otherwise would have, but I haven’t found that to be the case with Ebates. The only difference for me is that now when I do shopping I would have done anyway, I save a percentage of my purchase, and that money can really add up over time. I highly recommend signing up for Ebates.

The holidays are about much more than shopping, but it makes sense to shop smart with the shopping you will do. Best of luck with your shopping excursions, and I hope the rest of your year ends on a great note.

Saving Money on Flights

2012-12-19T23:38:00.003-08:00

It’s now winter break, and many of us are headed home for the holidays. Soon, if not already, you will probably be booking plans for your return to campus. And that’s where this article comes in.

The recent boom in web technology and user interfaces has given regular people access to a ton of information about flights. With all those resources out there, it can be a bit overwhelming at times to book a trip. How do you know if you’re really getting the best rate?

Fortunately, there are a few tips that I can recommend for saving money on your next bit of air travel:

Use the Bing price predictor tool to figure out if the fare is going to change. I’m not a big fan of Bing, but this is one place where Microsoft really delivered a great product. When you search for flights with Bing, the search engine will return not only the current rates, but also an estimate for how rates are going to change in the near future: an estimate of the magnitude (often $50 or more) and a probability with which Bing is certain.

Unfortunately, the price predictor isn’t available for every flight. You have to be searching for round-trip tickets to access it, and some smaller regional airports aren’t included in the predictions. But all in all, it’s a great way to make sure that you aren’t buying right before a big price drop—or that if prices are escalating quickly, you can get ahead of the curve and book your tickets before they do.

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Use Hipmunk to cut through the madness of choosing a flight. I’ve always enjoyed using Expedia, and I still do most of my booking through them, but Hipmunk is tough to beat when I initially look for a flight. The site helps make choosing between itineraries easy by indexing different “pain factors” about flights—how early in the morning; how many layovers; total cost; total travel time—into one score and then sorting them from least to most painful.

This display makes comparisons between flights simple: for example, is it worth an extra $20 on your ticket to avoid getting up at 4 a.m.? By seeing the itineraries stacked on top of each other with the difference highlighted, you’re able to make a more-informed decision. Of course, if you’d prefer a more traditional view of flights—sorted by departure time or cost, say—Hipmunk can do that too. Sometimes you can find the same flights for cheaper through sites like Expedia or the airlines’ website, but Hipmunk is great for actually locating the flight you want. I highly recommend it for that purpose.

Use Ebates to get free cash-back on your travel plans. When you sign-up for a free account at Ebates and visit their site before booking your travel, you can earn free cash-back on the flight you would have booked anyway—completely free of cost. This cash isn’t much—it’s only a couple of dollars—but it’s essentially found money, so why not take it? Plus, Ebates offers a bunch of great savings on other products and shops you likely would have bought from anyway. Consider signing-up for Ebates today, and save an extra few dollars on your next travel plan.

Use Student Universe to take advantage of student-only rates. I’ll be honest that I’ve never personally booked through Student Universe or other student-fare air travel companies, but I’ve heard great things about the discounts they can get you on flights, particularly internationally. I just played around with a comparison of the site and Bing, and I found a few itineraries for which using Student Universe saved about $60—a pretty tidy sum of money. Given how expensive air travel has become lately, I would definitely jump at a chance to get those savings.

Winter break is a time to relax, have some fun, and decompress from the semester before, but eventually it will come to an end. When it does, make sure that you aren’t spending more money than necessary on your travel back to school. There are great options out there to get you where you want and when you want, all while saving a bundle of cash.

The Importance of (Free) Tax Preparation Software

2012-12-10T17:04:00.000-08:00

After a brief hiatus from our series on taxes, we're back with a new article about how to make the process incredibly simple. In the past, filing your taxes required getting together a ton of paperwork, filling out forms by hand, tallying up all the numbers, and sending in the proper documentation. No longer. Today, over 80% of tax returns are filed electronically, either through a tax professional or with independent software. And the amount of people filing those taxes on their own is on the rise.

For young people, downloading free federal tax software is a must. There is no cost to it, as long as you earn below roughly $50,000, and if anything, it is another resource that could be used in conjunction with something like professional advice. Here are a few other reasons to use free federal tax software:

Tax preparation software helps you avoid mathematical errors. As silly as it sounds, one of the easiest ways to get the IRS to audit you is to make a mistake in your arithmetic. For example, if a business reports that it paid you $3300 across a series of checks, but you mess up in your addition and only report $3100, you’re going to set off an automated red flag. When that happens, you’ll likely be on the hook for taxes on the $200, plus penalties—not because of any intent to deceive, but simply because you added the numbers incorrectly. Why take the risk when software is so readily available to you?

Although calculators can and should solve this dilemma, filing taxes by hand carries other mathematical risks, too. For instance, if your handwriting is difficult to read, it is possible that the IRS could misinterpret a certain figure. If your notes about certain deductions and where they stem from are sloppy, the IRS could ask to see further documentation. As avoidable as some of these mistakes seem, people are audited every year for them. Avoid being one of those people, and just use software instead.

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Tax preparation software educates you about the tax system. Over the course of doing your taxes, you’ll be prompted with a series of questions and clarifications that will help explain what factors tie into your tax bill. For example, if you weren’t prompted with a question about your car mileage for business purposes, would you know that you could potentially claim a deduction for its use? Would you know that certain expenses, such as business meals, are deductible for certain kinds of jobs?

While tax preparation software might not educate you as well as shelling out for a tax professional would, it is far preferable to learning the tax code entirely on your own. Plus, many free tax services, such as the ones I’ve highlighted above, now offer around-the-clock customer support where you can get much of the tax professional service, all without leaving your home. Technological advances have made it much easier to learn about taxes than it was previously, and you should take advantage of those advances.

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Tax preparation software provides you with automated records and easy tax filings. Whereas in the past, you likely would have had to photocopy your tax return and store it away for the future, now you can take care of that process with the click of a mouse. You can easily download your tax return and store it in a secure location, never having to worry about misplacing it or losing it in the course of, say, summer moving.

Another advantage of tax preparation software is that it makes filing your taxes incredibly simple. This past year, I was able to pay from the comfort of my own bed by just entering my credit card information—no need to print out the forms, find an envelope, or mail anything by a certain date. I had the ease of mind of watching my submission go through, and I received a notification from the IRS that my tax documents had been received. What could have been a stressful waiting game of hoping that my envelope was received was instead an instant approval. The issue was out of my hair, and I no longer had to worry about it.

Taxes used to be complicated and difficult for young people, but the availability of free tax preparation software has changed that. Using programs like H&R Block's free software helps to avoid mathematical errors, teach you about the tax system, and make it simple and convenient to file electronically. Using these tools, there is no reason to be concerned about paying your yearly taxes.

Spotting Phony Investment Secrets

2012-12-03T12:24:00.000-08:00

I’ve written previously about what I think are the best investment strategies for young people (well worth another read), but this is a topic that needs rehashing. Especially as the country approaches the fiscal cliff (automatic decreases in government spending and increases in taxes that could harm consumer demand), people are anxious about the stock market. And because people are anxious, they are prone to making some poor decisions.

What’s the problem with people being anxious about the markets? Well, for one, they might be tempted to pay large premiums for “expert advice”—even though they would be better off passively managing their money. That is, instead of turning to an expert who promises to get them large returns in uncertain times (but fails), they could be putting their money in low-cost index funds and earning a higher, more consistent return.

There are other problems with fears about market conditions: People are more likely to buy at peaks of the market—when conditions seem to be going great—and to bail out of it at the bottom—when things seem as if they could not be going worse. The problem is then, of course, that people are buying high and selling low; they are losing a lot of money on their purchases by getting scared, instead of letting the market build back up. And that is just one mistake that people make with stock trading in times of uncertainty.

Even if you do not fall prey to the above problems with anxiety, it is still important that you can spot phony investment secrets. They will be prevalent over the next few months, and you should do your best to tune them out. Here are two recommendations:

1. If a strategy claims to consistently beat the market, especially by large margins, be very suspicious.

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It is incredibly unlikely for an individual investor to outperform the stock market consistently year after year. Consider what that would mean: They would need to have superior information (or luck) to the people around them to be able to consistently turn a profit on trades.

That information advantage is difficult, of course, with the rise of near-instant computer-initiated trades, 24/7 news coverage of economic trends, and the general democratization of stock-trading (companies like Schwab and E*Trade come to mind). It is incredibly difficult to beat the market because the market reacts almost instantly to incorporate public information into its pricing conditions.

For example, you might think that Coca-Cola is underpriced because the company has planned an expansion into some new line of drink for next year. But if that announcement has already been made publicly, then the market has reacted to that expectation and incorporated it into the price. The room for profit has been pushed out.

It is certainly possible for funds and investment strategies to beat the market in a given year, but that trend is very unlikely to repeat itself over time. Past performance can only indicate so much about a fund; there is always a component of luck and volatility involved, and you might not want to expose yourself to those risks. Instead, you should probably just take a passively-managed route and be content to grow with the market. In the end, you’ll likely earn better returns for it anyway.

2. Consider why somebody is willing to sell the secret to you.

If somebody truly came across a formula that could consistently beat the stock market, they would be sitting on a goldmine. Keeping the information private would let them turn considerable profit for themselves without fear—because they supposedly know how to beat the market. So, why would they be willing to sell you this incredible secret?

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For one, if the secret were real, selling it publicly would effectively ruin the secret’s efficacy. Because of the aforementioned market dynamics where public information influences stock prices, people could likely only exploit the system to a small degree before it caught up. This catch-up effect is true for the formula’s creator as well, but releasing the information to other people would speed up the adjustment.

In other words, if it became public knowledge that certain stocks were undervalued according to a foolproof formula, the stocks’ prices would rise. The market would adjust, and the opportunity for profit would be gone. Just by being publicly available, it is unlikely that the strategy will really return great profits.

Of course, there are some publicly-known investment strategies that do work out great for consumers—the passively-managed index funds, for example. But in those cases, the funds are overlooked because they don’t play into eye-popping advertising gimmicks or people’s drive to outperform the market. They also are not promising to exploit some faulty market dynamic for profit, but merely to grow with the market.

With the investment tips that are marketed online—and not just by random people, but by well-known names such as MSNBC’s Jim Cramer and Forbes’s Ken Fisher—you have to wonder why they would give away such lucrative information. Perhaps they are just being generous, but more likely they’re looking to develop a sales relationship with you or to earn profit somehow from your trades (this should not be read as specific accusations of Cramer or Fisher, whose intentions I cannot know with certainty). Either way, you should be hesitant to put your money in the funds. If the offer sounds too good to be true, it probably is.

You have the capacity to invest wisely for the future, even in uncertain times. What matters is that you remain calm and do not let fear-mongering salespeople influence your decisions. Those people very often have agendas that do not align with your interests, and it helps to be able to spot them and to think about why their secrets likely do not work. Armed with that information, you are far more prepared to make sound investment decisions.

Saving Money on Holiday Gifts

2012-11-26T11:19:00.000-08:00

Giving holiday gifts is about more than their cost. Gift-giving makes you feel good; it lets people know that you care about them; and it provides a great opportunity to bond with people that you otherwise might not get.

Of course, to say that gift-giving is more than the costs is not to say that the costs don’t matter. In fact, the costs are quite significant. Online spending was over $1 billion on Black Friday—a day known more for its in-store sales than for its online deals—and that amount isexpected to be even higher for today’s Cyber Monday.

In other words, people are spending veritable fortunes on holiday gifts. Because it’s so easy to get carried away in the holiday spirit and spend more than you expect, it’s important to take cost-saving measures where you can. And that’s where we can help.

Here are a few tips to save money on gifts during the holiday season:

If you’re going to give gift cards, consider buying from Cardpool at discounted rates. As discussed in our Guide to Giving Better Gift Cards, gift cards can be a great present if you think the gift-receiver knows their taste better than you do, but you want to avoid giving cash.

With gift card retailers such as Cardpool, which sells unused gift cards at reduced rates, you can give the gift of greater buying power without spending more yourself. It’s a win-win situation: The gift receiver has more options for their present, and you save a few bucks on a whole range of gift cards. I highly recommend it.

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Sign-up for Ebates and take advantage of cash-back offers. Ebates is an online shopping rewards website that gives you a certain percentage cash-back on purchases that you make through their links. I’ve used the site personally, so I know that it works. And best of all, when you make your first purchase of $25 through them, you’ll receive a check in the mail for $10. That means you’ll not only save a large percentage of your purchase in cash-back, but you’ll also get that $10 savings upfront.

Consider how it works: Ebates is currently offering 6% cash-back on purchases through Amazon, among offers to many other stores. You’re almost certainly going to buy something online in the next month with the holiday season upon us. Given that, you should take advantage of all the deals you can and capture that savings.

Remember, of course, that you should not spend money just for the sake of ‘saving.’ But if you’re going to make a purchase online anyway—online sales are already up 25% today as compared to last year--then Ebates offers some really great deals.

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Use sites such as RetailMeNot to find coupons to enter at the site check-out. I have less experience with these sites than with Cardpool and Ebates, but there have been times when a quick Google search before checkout has saved me 15% or more on certain purchases.

RetailMeNot is an example of a whole host of websites that exist to provide you with coupon codes. If those codes don’t conflict with other deals—remember that you can often only take advantage of one deal at a time—then there is little reason to leave the savings on the table.

A similar site is hip2save.com, which also focuses on in-store deals. You should be careful with these promotions, however, to not spend for its own sake and to not get sucked into an unnecessary purchase. These resources are outstanding for purchases that you would have made anyway. If they cause you to make more purchases, then they are likely costing you money. (See my article on Groupon for a more complete explanation.)

For the above tactics, as well as for in-store purchases, it is important that you maintain a tight list of items. Compile a list on your phone or on a sheet of paper, and keep it on you at all times. Try your hardest to not stray from it. Remember—there is much more to the holidays than the financial aspects of gift-giving, but the financials do have some importance. Use the above tips and tricks, and you will be well on your way to a successful holiday season.

The Importance of Giving

2012-11-18T16:02:00.000-08:00

In the spirit of Thanksgiving, I’d like to take a week off from the technical tax stuff I’ve been discussing, and instead talk about something potentially more meaningful: how to give effectively.

A lot of the material on this site talks about furthering your own finances—how to invest it wisely; how to save it for the future—but I don’t mean to suggest that hoarding is the only way, or the best way, to live life. I don’t think that there’s anything inherently wrong with having a lot of money; I think that a lot has to do with how you use your wealth. And to that extent, I think that giving away a portion of your money is a good social action.

Many philosophers have dedicated books (or even their whole careers) to convincing people about the moral virtue of giving. I’m not as well-read in the literature as they are, nor am I as educated in philosophy, so I won’t attempt to make that case better than they already have.

Instead, I want to focus on some of the hang-ups that young people face when considering giving, and hopefully help you resolve those issues. By making it easier—and more rewarding to yourself—to give your time or resources, we can hopefully create a world in which giving more is the norm.

Why should you give your time or money to help people? Beyond the moralistic accounts referenced above, an increasing amount of scientific studies show that giving is actually good for you.

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For example, the social psychologist Liz Dunn found that spending relatively more money on other people predicted higher levels of happiness, whereas spending more money on one’s self did not. This finding held true for people of all income levels.

In other words, even if you do not have very much money, you are likely to obtain more happiness from spending $5 on someone else than on yourself. If you believe that money is valuable as a means to an end—as a way to achieve happiness—rather than as an end in itself, then you have very good reason to give to others.

Now, I know that the above sounds like selfish reasoning that might be contrary to the idea of giving. But as a real person considering whether to give, you might be concerned about how that giving will impact your life. And the above shows that there is good news: It will benefit you in great ways.

This giving does not have to be material to help another person (and yourself) feel better. For instance, instead of spending an hour watching television, you might consider giving an hour to work at a nearby food pantry or to serve meals to neglected populations. Even if you don’t have any money to give, these are equally meaningful ways to get involved and to put your know-how and strengths to good use.

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Another hang-up facing prospective givers is the issue of where to donate. Thankfully, a series of meta-charities have emerged in recent years that attempt to evaluate the net good of donations to different institutions. In other words, they evaluate the efficacy of certain organizations and determine where your giving will do the most good.

The charity evaluator that I recommend is GiveWell. On their site they highlight two particularly effective charities targeting disease in the developing world: the Against Malaria Foundation and the Schistosomiasis Control Initiative, which helps de-worm children so that they are better nourished and can participate in things such as school.

Each is a terrific charity, through which you can save a life for a $5 donation. (This is not hyperbole—GiveWell explains exactly how the process works.) Having trouble deciding to which to donate? Flip a coin, or donate to both!

Of course, sometimes you might want to donate to a particular interest of yours. There’s nothing inherently wrong with that desire, but it still makes sense to consider how you can impact that interest in the most direct way. For this task, I recommend Charity Navigator and Charity Watch, which allow you to search by theme and a variety of other factors.

I know that taking on massive social issues can be daunting, even disempowering. You might think that your donations mean nothing, or that the world is doomed even if you do all you can to help rid it of disease and poverty. But economists such as Jeffrey Sachs have argued otherwise that eliminating these global problems is well within our grasps, as long as individuals contribute and do their share.

So, instead of thinking about the scale of global issues, focus on that individual whose life you are helping to save with a mere $5. Or think about a child in your community whose life you could help to improve via tutoring. By taking a series of small actions together, we can achieve a great impact—using your ambition and smarts to tackle big social problems. I wish you all a terrific Thanksgiving.

A Guide to Paying Your First Taxes (Part Two)

2012-11-12T18:57:00.001-08:00

In Part One, I discussed a few basic questions related to paying taxes. Here are a few more issues that young people often face:

Where can I go for tax assistance if I need help?

For people who make below $50,000, there are a few options available. One that I definitely recommend is taking advantage of free tax preparation software, which I will be discussing in the next post. You are also able to get free tax-preparation advice on top of that software, as outlined on the IRS’s website here.

Many local areas also have specific programs where volunteers can help low-income people such as teens. If you are still in school, you should consider reaching out to your Dean of Student Life and seeing what they suggest.

What does it mean to be audited?

An audit is when the IRS contacts you in some form and requests to follow up on verifying your tax information. A certain amount of the population is randomly audited each year, in addition to people who are audited for having suspicious-looking tax returns. Some of these suspicions are things like numbers not adding up properly; information that you’ve submitted not matching information that other people have submitted about you; and claiming an unusual amount of tax deductions/write-offs for someone at your income level (for example, earning $12,000 and claiming to have donated all of it to charity without submitting documentation to the IRS).

IRS audits have varying degrees of intensity. Some of the time you will simply get a letter from them asking for information, which is known as a correspondence audit. Other times, they will request for you to meet in-person with an IRS agent—these meetings are typically more serious. An audit will often require you to have information pertaining to your last four or so tax returns, in addition to any receipts or documentation that you need for deductions on those returns.

Some of the time, the IRS will request access to materials such as your bank account, but that request really depends on the specific circumstances. There is, unfortunately, no hard and fast rule to audits. In the case of any audit, however, it probably makes sense to seek professional help, either from a tax-planner or from a trusted adult; you should not try to handle the audit entirely on your own.

Why is my paycheck for less money than I thought it would be?

When you receive a paycheck from an employer, you will likely find that a certain amount of the check has been withheld from you. This withholding helps to cover payments for social programs such as Medicare and Social Security. Depending on whether you have illegally evaded taxes in the past, you might also have additional amounts of the paycheck withheld in anticipation of what you will eventually owe in taxes. Although this tax withholding can be frustrating, the social programs will hopefully come to benefit you one day; it is all part of a cycle.

My question wasn’t discussed here. Where can I get more information?

I encourage you to comment at the end of the article and start a conversation about the question. That way, the resource will be there in the future if other readers have the same question. Additionally, you can check out the IRS’s tax site for students here to get a better handle on any questions.

A Guide to Paying Your First Taxes (Part One)

2012-11-05T19:53:00.001-08:00

The tax-paying process often gets a bad rap in the media as complicated, difficult, and overly stressful. Those descriptions can certainly be true at times, but if you approach tax-paying with certain knowledge and the right mindset, you can handle it with relative ease.

Unfortunately, a lot information about taxes is convoluted and difficult to find. That is where this guide comes in. Although it is not a substitute for professional tax assistance—or better, the kinds of free tax preparation software that I’ll be discussing in a future post—this guide will attempt to cover the most important concepts for young people to understand to pay their taxes properly. (If you have any questions about a term discussed here, or one omitted, please add it in the comments section!)

Here is a list of common tax questions, and answers that are relevant to young people:

When do I need to pay taxes?

Taxes are typically due on April 15^th for the previous year’s income. You have to file taxes any time that you have earned income, whether it be from a minimum-wage job, a business that you have started, or just work around the neighborhood, such as shoveling snow for people. Typically people consider this threshold to be around a few hundred dollars’ worth of income. Of course, depending on some other factors discussed below, you might not actually owe money to the government, but you are supposed to file taxes. In fact, you might even be owed money by the government—what is called a tax refund. Unless you file your taxes, you won’t know if that is the case.

What is tax-filing status, and how can I determine mine?

In the United States, the tax code applies differently to people depending on their filing status. Typically, this status refers to whether you are single or married, and also whether someone else covers your expenses. Most teens and young adults are considered dependents under the tax code, meaning that someone else covers roughly half or more of their living expenses.

If you are unsure of your tax status, this free tax preparation software can prompt you with a few questions to determine your appropriate status. Also, this page has a pretty good description of what the different statuses mean and how they can impact your tax return.

How much do I owe on my income tax?

Your exact amount owed requires calculating a few different figures, but the US’s tax brackets can help provide a pretty good estimate of your tax bill. For the year 2012 (meaning the taxes due in April of 2013), here are the tax brackets:

In the United States, tax brackets show what is called your marginal tax rate. Someone who is a single payer and makes $25,000 in taxable income would not just pay 15% of her income. Instead, she would pay 10% on her first $8,700, and then 15% on the dollars between 8,701 and 25,000. In other words, while her average tax rate would certainly be higher than that of someone who only earns $8,700, she would not be overly penalized for jumping up to the next bracket. Going from $8,700 to $8,800, for instance, would not make her worse off by increasing her total taxes owed; she would only owe the 15% rate on the dollars between 8,701 and 8,800.

To calculate an estimate of your taxes, compute the amount of tax that you’ll owe on each segment of your income (for most young people, this probably means the bottom bracket or the bottom two). Of course, this calculation does not consider things like deductions, which are discussed below.

What is a deduction, and how can I claim one?

A deduction is a legitimate expense or write-off that allows you to legally reduce your tax burden. In general, there are two main kinds of deductions: above-the-line deductions and below-the-line deductions.

An above-the-line deduction reduces the taxable amount of income that the IRS considers you to have earned. For example, if you have put money into a Traditional IRA—a form of tax-advantaged retirement account—for the year, that amount of money would not factor into your taxable income. Another example has to do with being self-employed—say, as a coach in some activity, or as a private tutor: When you are self-employed, many of your legitimate business expenses can be subtracted as a deduction from the money you brought in, meaning that your taxable income is lower. (If you make $500 annually from a website but spend $50 on marketing the site, you would owe taxes on $450 for the site.)

A below-the-line deduction can also decrease your amount of taxable income, but the difference is in terms of whether you can take some of these deductions with other ones. In other words, above-the-line deductions can often be used in conjunction with one another without a problem, but you usually have to pick and choose between below-the-line deductions. (NOTE: I’m not 100% clear on this difference, so if you are still confused at the end of the article, you might want to read this Wikipedia entry on the differences between the two.)

For most young people, the largest below-the-line deduction is what is known as the standard deduction, which is a flat amount of money that you can subtract from your taxable income. The exact amount depends on your filing status, but for dependents the amount was roughly $950 in 2011; it is larger for people who are no longer dependents. If you earned $7,000 in income for the year 2011 but took the standard deduction, you would only owe taxes on $6,050 of it.

The alternative is to the standard deduction is what is known as itemizing your deductions. Instead of taking a flat amount of money out of your taxable income, this method requires you to calculate specific deductions for things such as charitable donations and to figure out exactly how much you would save on taxes by claiming those deductions. Tax software can make this calculation fairly simple, but for most young people, the standard deduction will likely be greater because their donations and other categories aren’t yet large enough.

Click here to download an entirely FREE tax preparation software from H&R Block--no hidden charges, trial periods, or surprise fees! Not sure if you're going to file taxes? Download it anyway, and just check it out!

Check back next week to read Part Two!

Image above is from here.

The Finances of Surviving a Hurricane

2012-10-29T13:12:00.000-07:00

A hurricane has hit much of the east coast, and people are being warned to prepare for the worst. If you live in the hurricane’s projected path, not only are you likely getting calls from worried parents telling you to stock up on water and non-perishables, but you might also be getting emails from stores trying to lure you in. Natural disasters present a big opportunity to increase spending, and businesses are not shy about using that to their advantage.

What makes natural disasters so difficult to navigate is that it is hard to assign a dollar value to your life or well-being. (Does the small chance that you might need another gallon of water justify its purchase?) Not only is it difficult to decide some value for your well-being, but it is also just uncomfortable. People don’t enjoy imagining the worst, and nobody wants to admit that, at a certain point, they might put money ahead of their well-being.

Consider this experiment from Richard Thaler, a professor at the University of Chicago (and who co-wrote the terrific book Nudge): Imagine that you might have been exposed to a disease that, if you have it, would cause you a quick and painless death within the next week. The probability that you have the disease is 1/1000. How much would you be willing to pay for a vaccine that would reduce your risk of death to zero?

The average amount that Thaler found was $200—an amount that strikes me as somewhat low, but is also in 1980 dollars. But here’s the more shocking finding: When Thaler ran the same experiment, but instead asked patients how much they would need to be compensated by a doctor to willingly expose themselves to the disease (with the same 1/1000 probability of contraction), they demanded an average of $10,000.

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What’s going on here? It seems that how the subject frames the decision makes a tremendous difference. In the instance in which the patient might already have the disease, the vaccine is framed as a potential gain. In the pay-for-exposure condition, however, the subject is healthy and frames the potential exposure as a loss. Consequently, the subject must be compensated at a far higher level for exposure, even though after exposure they would only willingly pay a smaller amount to eliminate their risk.

This model has a few predictions for behavior during hurricanes and other natural disasters. For one, the decision to hurricane-proof one’s house could be influenced by what the individual perceives as their default state. A person whose house is not already hurricane-ready might not be willing to pay a few thousand dollars to protect their house from possible damage.

On the other hand, the same person—who has already hurricane-proofed their house—might not be willing to take down their hurricane-proofing, even for a larger amount of money. They would perceive such an offer as a ‘loss’ of security, and thus demand more money. Accordingly, the market for hurricane-proofing and other services might be inefficient because consumer demand varies somewhat arbitrarily.

This discussion so far has been fairly abstract, but here are a few more concrete tips that you can use to be better prepared for your next natural disaster:

1. Invest in supplies ahead of time.

FEMA has a good list of supplies that you might need in the case of an emergency. The problem with waiting until a disaster is close is two-fold: For one, you might be subject to hiked prices (or decreased supply) in one form or another. Although different consumer protection bureaus have policies that prevent stores from gouging consumers with outrageous prices during emergencies, smaller changes can slip through the cracks. When you are buying mostly non-perishables, it makes sense to buy when you can get the best prices—not when the prices are likely at their worst.

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Second, you might find yourself vulnerable to over-spending or to impulse purchases that you don’t really need. For example, I used the hurricane as an excuse to stock up on some protein bars “in case I need food later.” I ended up snacking on the protein bars throughout the rest of the day, and all of sudden I needed to spend more money on those supplies. Had I kept an emergency kit ready to go, I would not have felt the pressure to buy those initial bars, and I wouldn’t have sunk so much money into them.

This advice is particularly important given how some chains use disasters as marketing tactics. CVS has been emailing me quite aggressively the last few days, warning me to stock up on emergency essentials and to make sure I don’t miss out on certain products. Of course, this advice is sound to some degree—if I need prescriptions, it would make sense to refill them now—but it also contains some items I don’t need. Using these marketing tactics to guide my purchases could cause me to spend unnecessarily, whereas deciding my own needs ahead of time might not.

2. Look for recovery opportunities if the disaster hits hard.

Depending on where you are in life when the hurricane hits (in college; living with roommates in the real world), you might have some good opportunities available for your recovery. For instance, my school is maintaining its emergency staff throughout the hurricane, and if I were to find myself in a jam, they could likely help out with emergency supplies of some kind. Of course, this assistance is funded in part by my tuition, but it’s also free now in the moment. If I really needed something, it’s good to know that there is help available.

A friend of mine also received an email from her bank last night informing her that if the hurricane has caught her off-guard, they are available for emergency cash and other ways to manage the next few days. It’s important to be weary of interest payments or other things in this case (lenders know that people are desperate, and they might be exploitable), but this seemed like a genuine good-faith effort. Not all banks will operate so benevolently, but it probably makes sense to call up your representatives and see how they can offer you assistance during the disaster. Worst case scenario, you decide that they can’t do much for you, and you’re in the same situation you were before.

Natural disasters can cause a lot of damage, and the amount you spend on preparation probably isn’t at the top of that list. But if you’re going to prepare regardless, it makes sense to go about that preparation as soundly as possible. It’s easy for small costs to add up over time, and by approaching your decisions thoroughly and thoughtfully, you can help to save yourself money in the long-run. Stay safe.

What to Watch Out for with Free Trials

2012-10-22T10:10:00.000-07:00

Last week’s article discussed situations in which free merchandise might not actually be so free. It could, for example, contain hidden costs of your time or health, or it could lock you into purchasing other complementary items. In other words, free isn’t always so free.

Despite these hidden costs, however, marketers often use the concept of free to lure in new customers—particularly with promises of “free trials” or “money-back guarantees.” These programs can offer great opportunities to explore a product and decide if it is for you, but they aren’t really risk-free. In fact, if not used properly, free trials and money-back guarantees can wreck havoc on your decision-making.

Want to get the most out of your free trials and money-back guarantees? Here are some important tips to keep in mind:

1. Watch out for dual-enrollment.

Many programs will condition your free offer on your also signing for some supplemental program. These programs, however, are typically not free. For example, the different advertisements you see for free credit score checking programs almost always require enrollment in another program—a program that is not free. That doesn’t necessarily mean the credit score programs aren’t worth it—I think it’s probably worth taking the free trial just to check your score once as long as you cancel it on time and avoid charges. But if you don’t know about the supplemental charge, it’s hard to make an appropriate decision.

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Where are these dual-enrollments often listed? A good place to look is at the bottom of the Terms & Conditions, where there will likely be a series of boxes for you to check off. One of these boxes will likely mention enrollment in some program other than the one for which you have attempted to sign-up. If you don’t recognize the program name, and you don’t know what it entails, then you should be weary of the offer.

2. Be prepared to talk to someone on the phone to cancel your membership.

Although many of the companies that offer free trials will also tout easy online cancelation, my experience with ending the relationships has usually been different. For instance, on a few occasions I’ve received pop-up notifications that the website is experiencing “server problems” and cannot cancel my request at this time. Needless to say, I’m skeptical when I get such messages.

What’s the solution to these deceptive enrollment practices? I’ve found the key to be calling up customer service and really advocating for yourself. Depending on the company and the scope of its unfair practices, the customer service representative might claim that they are powerless to help you; do not believe them.

In my experiences with getting free trials canceled, I’ve found that every representative backs off their claims of powerlessness when you threaten to report the company to the Department of Consumer Affairs. At that point, they usually apologize and say that they will fulfill your cancelation request. Make sure to get some identifying information about your customer service representative, as well as to record the date and time of the call, in case you need to refer to it at a later date.

Of course, this is a lot of effort required to cancel a free trial that you might not have even really wanted. With this knowledge going on, you might decide to enroll in fewer of the trials and thus commit yourself to fewer phone calls and confrontations.

3. Check your credit card or bank account statement.

Although I’ve seen this less frequently than the required-phone-call-to-cancel, some of the sleazier companies out there will bill you even if you cancel your membership on time. For that reason, it’s important to be vigilant in monitoring your financials after the cancelation.

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An easy way to do that is with a company like Mint, which categorizes your spending and will alert you to any unusual charges. For example, last week Mint notified me when I had improperly been charged an annual fee for my no-annual-fee credit card. Because I knew of the charge, I got it revoked, and I avoided a $40 fee.

Another way to make this easy is to set a consistent time each month to sit down and review your statements. It doesn’t take more than five minutes, and it helps to make sure that you don’t have any unusual activity. Given what’s at stake (your account balance; potentially your credit score), it makes sense to be attentive.

How do you go about getting the charge erased if you happen to find one? Although your bank or credit card might give you the option to dispute the charge/report it as fraudulent, I would not take this option right away. Instead, I would call up the company’s customer service and explain to them that you did cancel the account on time and that you will report them if they do not refund the charge.

It’s easier to get the problem resolved without the bank’s involvement, if at all possible, and this is a good approach to doing that. To aide in getting a potential charge waived, remember to use any past calls to your advantage. You should have some identifying information about your phone call on hand (as recommended in Tip Two), so make sure to advocate for yourself and insist that you did, in fact, cancel the account.

None of these tips really speak to why it can be so difficult to cancel a free trial even when you don’t need the product. That explanation will be coming in a later article. But for now, rest assured that you are better prepared to understand the free trials for which you sign up. Remember to be vigilant and to look out for your interests, and be careful in navigating what can sometimes be a deceitful marketplace.

Image above available here.

When Free Isn’t So Free

2012-10-15T16:38:00.001-07:00

Getting items for free can be great: there’s no apparent cost; you get to enjoy the item you receive; and your brain might even receive a small buzz from finding such a great deal. All in all, choosing to get something that is free seems like an obvious decision. If you want the item, then you use it. If you don’t, then there was no harm to the transaction—because it was free, right?

Unfortunately, free isn’t always so free. In fact, free can sometimes be downright costly. Consider this example from Dan Ariely, a professor at Duke University and whose book, Predictably Irrational, I cannot recommend highly enough:

A New York City nightclub recently promoted an event by giving out “free tattoos” with admission. Somewhat surprisingly, over 70 people signed up for these tattoos over the course of five hours. On the surface, this appears to be a great outcome: the club was able to attract customers for its event, and the customers who came out presumably had wanted to get a tattoo anyway. So what’s the big deal?

It seems that the people in line for tattoos were not wooed so much by the tattoos as they were by their freeness. In fact, Ariely found that of all the people on line, roughly 70% of them said that they were only getting the tattoos because they were free.

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Getting a tattoo is a costly decision—even when it’s free. For one, the tattoo will be on your skin for life. Sure, there are removal procedures, but they are often extremely expensive and can take years to repair the skin entirely.

So when you get a tattoo, even a free one, you’re either committing to a very long-term design, or committing yourself to expensive operations down the road. Neither one gets broadcast as a cost by the nightclub, but each is certainly important.

Not only do ‘free’ transactions sometimes have hidden financial costs (think of the ‘free’ furniture you might find at the end of a school year and then must pay to put into storage), but they can also have unexpected health consequences.

In the case of the free tattoos, it seems that the cost-cutting and fleeting nature of the gimmick had caused health standards to go out the window. The customers, attracted by the power of ‘free,’ probably would not have flocked to a club advertising ‘Free HIV’ or ‘Free Hep C.’ But when framed differently (getting a cool, new tattoo), these consequences were not apparent.

How could the tattoo-recipients have changed their behavior to figure out if they really wanted the tattoos? Perhaps the simplest recommendation is to pretend that the item is not free, but is instead very cheap. For instance, Ariely suggests considering that the tattoo costs $1. At that price, it is certainly below market value, but it no longer causes the whoosh in your brain of getting an item for ‘nothing at all.’

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In the above case, if the customer would still want the tattoo at a merely cheap price, then going ahead with the free deal might not be so bad. There is still a chance of bad consequences, but at least the customer is choosing to purchase the product—not just purchasing it because it is free.

Another suggestion to make better decisions is to outline the true hidden costs of a transaction. This can be difficult, because the costs are often disguised, but it is definitely worthwhile.

For example, if you happen upon a coupon for a free soda with the purchase of a hamburger, you might not be getting such a good deal. Similarly, if you happen upon a free set of speakers in the basement of your dormitory, but then must purchase a bunch of old connector wires, the deal might not be so great.

None of this is to suggest that you should always turn down ‘free.’ Some of the time free is a great option; you find exactly what you are looking for at exactly the right financial cost. But other times, the power of free can cause us to make decisions we would otherwise not make.

In those cases, it can be helpful to reframe the price as cheap rather than free, or to consider what hidden costs might be lurking beneath the surface. If the item still seems desirable, then—by all means—go ahead. But if it doesn’t, then you just might have found a situation in which free isn’t really so free.

Can Certain Passwords Cause You to Spend Less?

2012-10-12T09:12:00.000-07:00

Presh Talkwalkar of MindYourDecisions, one of my favorite sites about interesting decision-making dilemmas, had a great article recently (re-posted below) about how people's passwords could influence their rate of savings.

Although not backed with data, Presh muses that using passwords such as 'SaveforRetirement' or 'Thinkofthecollegefund' could cause people to spend less impulsively because they have to consider alternate uses for their money. I am a big fan of this approach because of the way it leverages what psychologists call priming.

What is meant by priming? By forcing yourself to consider your spending in terms of other goals, you distract yourself from the instant gratification of spending and focus as well on your long-term financial goals. (A non-financial example of priming might be posting pictures of your fitness goals on your refrigerator or pantry door.)

Passwords for websites are not the only possible means of encouraging better financial behavior; you could also set your desktop image to be an emotional reminder of your finances, or you could sign up for financial monitoring services that help alert you to your current standing. Of course, these are not particularly difficult methods of staying on top of your finances, but they can be emotionally fraught, and they do require commitment. The real challenge here is motivating yourself to act, not the action itself.

Here is Presh's post, followed by two questions to consider (credit Presh Talwalkar, MindYourDecisions):

There’s a story I remember hearing that inspired this post.

One day a woman was at a credit union and she wanted to make a withdrawal. The teller found out the account was password protected and asked her to verify it.

“The password is SAVE,” the woman sighed, “My husband did that so I would have to say the word ‘SAVE’ every time I got cash.”

The story is amusing, but it also got me thinking.

There is some research about how priming our brains can influence our decision. For example, just thinking about money makes us less likely to spend. Or, to cite another study, people who think about money are more likely to reject sales pitches.

If thinking about saving can help us save in stores, would we be doing ourselves a favor by choosing our passwords to be about money?

I admit I have never seen any research on this topic specifically. But I think this is an idea that could possibly work. Here are some ideas for passwords and places to use this tip.

Possible passwords and uses

I’m combining two tips here. These passwords are all about money or being responsible. As many passwords require numbers, I have also included some 0′s and 1′s because these are low numbers (anchoring to a low number so you might spend less).

Money000
Dontspend0
SaveforRetirement
BeSmartJustSave1
Thinkofthecollegefund
PayOfftheMortgage01

You can consider using variants of these passwords at any site where you might spend money. A few sites are eBay, Amazon/any online retailer, travel websites, car rentals, Facebook, and for banks and financial institutions.

Just remember if you do choose a money-related password, make sure it’s complex and not easy to guess. Bad passwords are an easy way to lose everything.

What are some other ways you can think of to manage your finances with priming? Have you thought of any novel solutions in your own life?

Earning Money in College: Don’t Sleep on Potential Gains

2012-10-09T13:43:00.000-07:00

I started college on the wrong foot financially.

One afternoon, I returned to my dorm and found my roommate tracking his sleep schedule on a spreadsheet. He had signed up for the university’s sleep study, he told me, and he was being paid to record his daily sleep and wake up times.

The sum was laughable: $1 a day, with a potential to earn more for streaks of compliance-—for example, an extra dollar after five consecutive days. He recommended that I, too, should sign up for the study, but I resisted. After all, was it really worth my time to track my sleep schedule for a mere dollar?

By the end of the semester, my roommate had earned well over $100—an opportunity that I passed up as ‘unworthy’ of my time. Of course, I surely would not have paid $100 to opt out of such a study; the recordings required minimal effort, and $100 is quite a sum. But if I would not have paid $100 to opt out, why was I so unwilling to participate in the study to earn the same amount?

The answer, it seems, is in the ‘difference’ between losses and foregone gains. When the money is theirs, people experience its loss more powerfully and are less willing to write off the cash. When the money is merely a sum to be gained, however, forgoing the amount triggers a less significant reaction: people view themselves as no worse off than they were before the opportunity presented itself, and thus do not feel bad about its loss.

Of course, $100 is $100, regardless of whether it was lost or merely not gained. Money is just money, and each situation results in a net worth that is $100 less than otherwise. Bank accounts do not differentiate between these methods, nor do credit card balances, so why should young adults?

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One step to correct this mental inconsistency is to consciously flip your perspective during decision-making.

For example, would considering the $100 of the sleep study as already being yours cause you to experience its loss more significantly and to thus participate in the study? If so, then to write it off as a foregone gain probably doesn’t make sense.

The above step works well if you want to motivate yourself to take the money, but what if you decide that you’re fine financially? Do you really want to be a slave to all potential gains—to experience them all as powerful losses? Such a perspective would likely commit you to caring about money and little else—a poor path to a fulfilling life.

More financially secure individuals can use a different strategy. If you decide that you can afford to spend a bit more freely, try conceiving of your losses as foregone gains. For example, if you’ve done a terrific job saving all year—scrimping on necessities; passing up fun opportunities—then to spend a lot on a birthday present for yourself might feel excruciatingly painful. In this case, try to think of the birthday spending as forgoing part of your next paycheck, rather than eating up your savings.

The tension between the two recommendations—conceiving of foregone gains as losses, and conceiving of some losses as foregone gains—illustrates the need for a caveat. There is not a one-size-fits-all solution to handling losses and foregone gains. Instead, you should consider what your real objective should be—either earning the money, because you need it, or perhaps spending some on a great experience, because you are secure. From there, you can manipulate your thinking to make your decision less psychologically painful.

The important component of this recommendation is to make the financial assessment objectively without allowing the label to influence your decision. I wish that I had considered the sleep study’s full reward before passing it up, but I have also been thankful since then to not be entirely wed to money. The appropriate decision depends on the situation; by learning about the mental effects of losses versus foregone gains, young adults are in a better position to discount the labels and consider their objective financial situations.

Looking for money to spend on meals, clothes, or other essentials? Concerned about budgeting your money for the future? Check out our newest FREE resource, Mint, to easily analyze and improve your finances! It works with credit cards, debit cards, bank accounts, and more! Sign-up for Mint today!

Image from above is available here.

Why Your Credit Score Matters More Than You Think

2012-10-01T09:41:00.000-07:00

Last week’s article discussed what a credit score represents and how young people can build up their scores. Now it’s time to get into a bit more detail about why your credit score is so important.

The FICO credit score—the most widely used credit score for individuals in the US, and the one discussed in the previous article—ranges from 300 to 850. Of all people, about 60% fall between 650 and 800. A fairly typical score is 720. These scores play a critical role in determining both what credit you are able to obtain and at what rate of interest. But a fair question remains: Just how important are these consequences in credit and rates?

Even the difference between a score of 650 and one in the mid-700s can have a massive effect on how much one pays on things like car loans and mortgages. (And your credit score can be much worse than 650!) For example, a borrower with a credit score of 650 would end up paying over $1,300 more than someone with a score of 750 for a three-year car loan of $20,000. In other words, the lower-scored individual ends up paying a premium of roughly 6.5% on top of the other person’s car payments. Those numbers definitely add up over time.

The impact on a mortgage can be even steeper. Taking the same credit scores, the person with a score of 650 could end up paying over $20,000 more than the other borrower over a decade of a $250,000 mortgage. These numbers certainly vary based on how aggressively you compare rates and work other advantages, but the point is clear: Starting off with a bad credit score puts you at a large disadvantage—one that cannot easily be overcome.

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The examples so far deal largely with big purchases that aren’t really on the radar of most young people, but your credit score also has a large impact on smaller purchases and decisions that we make much more routinely.

For example, well in advance of taking out a mortgage on a home you purchase, you will probably end up renting an apartment of some kind. Many landlords now demand credit checks for their tenants to ensure that they will pay their bills on time. If your credit is particularly bad, you might prevent your entire housing group from getting a good rate, which won’t make you very popular with your roommates.

Apartment rentals are not the only screening points for credit these days: Many cell phone carriers issue credit checks before agreeing to trust your payments over the course of two-year contracts; insurance providers can use them to gauge your financial well-being and responsibility; and employers are increasingly using them to screen less-focused applicants. You might not end up dressing up as a pirate, as those different credit report ads imply, but there’s a good chance you’ll miss out on a job you otherwise might have had. And considering the relatively low difficulty of keeping your credit score intact (provided certain financial stability, which I understand everyone does not have), there is little reason to let it run amok.

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Your credit score has a lot of influence on the rates that you pay for different products. Unless you are fortunate enough to have been born with a large trust fund or have stocked away a ton of cash, it is very likely that you will have to borrow money at some point in your life.

Major purchases—higher education, housing, automobiles—are just too expensive for most people to finance out of their savings account. And even when you can manage to fund the purchases from that account alone, it might not be a wise decision to tie up so many of your assets in the purchase.

In other words, dealing with our credit score and its implications is a reality we will all face at one point or another. Given that inevitability, it makes a lot of sense to stay on top of it and to learn the ways it will likely affect you in the future. Just remember: Being responsible now will give you much greater flexibility and freedom in the future.

Image with courtesy of Free Credit Report.

Building a Strong Credit Score

2012-09-24T14:23:00.000-07:00

One of the most popular questions I’ve received since starting this site has to do with building and maintaining a strong credit score. For all the jingles and commercials floating around the airspace, many young people haven’t learned the basics of credit scores—how they’re calculated, how to build strong ones, and why they matter. Next week’s article will discuss why credit scores matter; this week's article tackles the prior two questions.

Did you know that there is not one universal number referred to as your credit score? In fact, there are three different major credit bureaus in the United States, whose task is to assemble information relevant to your credit rating. That information can be pieced together in different ways, potentially resulting in vastly different credit scores depending on a specific score’s algorithm. Some lenders even have their own proprietary rating formulas, which they use to assess potential borrowers. With all of this confusion about credit scores, how can young people begin to make sense of their own credit level? Fortunately, there's a way.

One good introduction to credit scores is to analyze the components that determine one of the most prevalent scores. I will focus mainly on the FICO credit score, the most widely used credit rating for individuals in the US. While it is not an exact model of the other scores, it does provide insight into the kinds of things that lenders care about in their borrowers.

Here is a breakdown of the different factors that affect your FICO score:

Roughly 35% of your score is dictated by your payment history. To maintain a strong rating in this category, avoid late payments, or worse—missing payments altogether. Lenders want to see that you can be trusted to pay your bills on time, whether those bills be for credit cards, a car payment, or a small-business loan. Have trouble remembering to pay your bills? Try setting a consistent time every month to pay your bills, and use your computer, phone, or some other method to set an electronic reminder. If your difficulty is that your bills are all due at different times, try calling up your credit card company and seeing if they can change your payment schedule; it doesn’t hurt to ask.

About 30% of your score is determined by your credit utilization ratio. This portion is a bit murkier than payment history, where the clear goal is simply to pay your bills on time. For FICO, your credit utilization ratio is defined roughly as the amount of your revolving balance (the unpaid amount on which you are paying interest) divided by your total credit available. In other words, if you leave a $200 balance on your card at the end of the month, and your total credit line is $1000, then your credit utilization ratio is 20%. A good benchmark here is to avoid any credit utilization ratio above 50% because it indicates that you’re really bumping up against the total amount of credit you have available.

Ideally, you probably want this ratio to be as low as possible to avoid paying interest on your balances. Sometimes people will recommend leaving a balance on your credit card to demonstrate your ability to pay it off over time, but that just costs you money in the meantime. Plus, you come off as a trustworthy borrower by simply paying off the balance upfront. Leaving a balance on your card, on the other hand, is costly both in terms of interest payments and in terms of your payment history.

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Approximately 15% of your score is based upon the length of your credit history. Unfortunately for young people, this fact means that it is difficult to build up an immaculate credit score, at least right away. Even if you pay your credit card promptly and in full each month, there will still be a ceiling on the size loan you can secure until you develop a more sizable track record.

On the bright side, though, this fact also means that if you establish good habits early, your credit score is likely to rise over time simply by maintaining those good habits. Plus, there are things you can do in the short-term to help your credit history build. For example, if you have a credit card, you should purchase something with it each month, even if you could make the purchase in cash, to keep the card active and to expand your payment history. Even if the purchase is just something small from a convenience store, it still demonstrates an amount of credit-worthiness, and that purchase history can really add up over time.

Roughly 10% of your score is determined by the types of credit you use. FICO considers a variety of different credit opportunities—for example, mortgages, payday loans, and revolving credit such as credit cards—and in general FICO wants to see an ability to effectively manage different types of credit. Of course, not all these types of credit will boost your score: A high reliance on payday loans, for instance, could indicate financial instability because of a constant need for quick cash to make your expenses work. I would not concern myself too heavily with this area for now; it is difficult to build it up until you are really in a position to be taking out car payments and the like. Your energy is probably better spent focusing on the above categories.

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Finally, the last 10% or so of your score is determined by recent requests for more credit. Applying for loans or expanded credit can negatively affect your credit, particularly if you undertake a bunch of these all at once. Such actions can indicate rough financial times to the different credit unions, and as such, you are likely to be perceived as a more risky borrower.

This impact does not mean that you should never search for more credit, however. For instance, getting access to a larger line of credit might push down your credit score when you initially apply, but it could later boost your score by lowering your credit utilization ratio (described above)—that is, your total credit would be higher, so your remaining balance would be a smaller proportion. In general, applying for credit is a necessary evil, and as long as you don’t overuse the practice, short-term drops in your credit score should not cause significant harm to your credit score in the long-run.

Although the factors above apply specifically to your FICO credit score, the advice for the categories holds true more or less across the board. The principles of building your credit score are fairly simple: Borrow a certain amount of money; demonstrate your ability to pay it back promptly and in the correct amount; and work your way up to greater trustworthiness over time by repeating the pattern and by paying off gradually larger amounts.

In general, a good rule is to think about what factors you might consider if one of your acquaintances were asking you for money. Would you be alarmed if they had asked 30 other people for money in the past week, but still had to turn to you? Lenders would be alarmed, too. With a better handle on this information, you are in a good position to build up your credit over time and become a trusted borrower in times when you need the money.

Title photo from above is available here. FICO breakdown photo is available here.

Meal Credits, Sports Tickets, and the Sunk Cost Fallacy

2012-09-17T12:30:00.000-07:00

Imagine the scene: It is 1:30 a.m., and the university dining options close in half an hour. You still have a meal credit remaining for the day, and it will expire at 2 a.m. if left unused. You aren’t that hungry, and it’s drizzling a bit out, but you have already spent the money on the meal credit. There are no refunds. Do you go out to spend your credit?

Or consider this scenario that applies to non-college students (as described in an article by Hal Arkes and Catherine Blumer, then of Ohio University): You have paid for a non-refundable ticket to a football game. Just before you leave your house, however, a blizzard begins. The roads are sure to be icy and dangerous, and you know that the commute to and from the game will be far more painful than any pleasure from the game itself. Still, you don’t want to waste your money. Would you drive to the game?

Many people would indeed go spend their meal credit or drive to the game despite the snow because of a problem known as the sunk cost fallacy. The sunk cost fallacy explains why people sometimes take actions contrary to their interests because they over-account for costs they have already spent.

In short, the student dwells on the money they already spent on the meal credit, despite its being unrecoverable, and decides that the only way to redeem the value is to use the credit. Using the credit, however, is net bad for the student because the additional costs of the decision (eating when not hungry; venturing out in the rain) exceed the additional benefits. Similarly, the sporting fan focuses on trying to redeem value for the ticket they purchased, despite the additional costs of attending the game outstripping the additional benefits.

Even when one knows the irrelevance of sunk costs, it can be difficult to wholly ignore them. For example, I recently misplaced my electronic meal card at a summer camp and was asked to pay $15 to replace it. Although I understood that my other card had been lost and was thus un-refundable, I was upset that I had to spend an additional $15 on food, the costs of which had already been factored into my salary. In fact, I was almost more upset about the lost value of the old card than I was about having to pay the replacement value for a new one, and I was tempted to not buy a new card.

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How did I end up resolving my dilemma? It was not until I discounted having already bought a card that the decision became clear.

The question I needed to ask myself was, at that moment without a meal card, was it worth it spend $15 to get access to the food? Because the costs of finding my own food, in addition to the time to walk into town, were far greater than $15, I decided that buying a new card was worth it, despite the prior costs. (And when I eventually found my old card and got a refund, I was even happier with my decision.)

I recommend using a similar approach when deciding what career options to pursue; how to spend your free time; which relationships to maintain; and lots of other choices in which people invest time and money and thus feel compelled to follow through on their decisions.

Here’s a relevant example given recent analysis of the legal market:

If you’re a year and a half into a law degree, but you’ve decided that you hate law and will not be pursuing it professionally, nor will it boost your earnings in the field you do choose, you should not feel forced to finish the degree. Finishing the program would likely cost upwards of $60,000, in addition to foregone opportunities, but there is little marginal (additional) benefit because you are sure you will not use the degree. People in this situation would likely feel committed to getting a JD so as to not waste their first year and a half, but continuing with the program only wastes another year and a half.

To be clear, sometimes costs in the past are relevant. For example, politicians might need to stick with inadvisable decisions so as to avoid ‘flip-flopping’ or admitting weakness. For most young people, however, it is a poor decision to continue throwing good money after bad, and they could come out ahead by separating unrecoverable costs from the marginal benefits moving forward.

Better Ways to Trade Stocks for Teens and Young Adults

2012-09-10T14:20:00.000-07:00

Stock-picking has long been glorified by the media. Even after the financial crisis and Occupy Wall Street, analysts such as Jim Cramer still have television shows where they go on the air and dispense ‘expert advice’ for an hour at a time. Stock-traders are paid very high salaries, and people are understandably captivated by them.

Of course, most people cannot successfully emulate these traders--nor should they attempt to. In a recent article, I explained why most investors should just put their money in low-cost index funds and let it sit for a while. I stand by that advice. Still, I know that stock-picking can be tempting, and some readers will surely try it—I, too, held some stock for a bit of time this year. Because some readers will try stock-trading, it is important to understand how to trade wisely without throwing away your hard-earned money.

If you are going to trade stocks, there are a few rules that you should follow to get the most out of your investments:

Find the lowest fees and commissions possible for stock trades. As I described in the index fund article, high fees can quickly eat away your investment. You are not just losing the upfront cost of the fee, but that loss can also compound over time. Stock-trading commissions operate similarly: High costs will cause slower investment growth because less of your actual money will be converted to stock.

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In particular, I recommend using a service like TradeKing to find low-cost trades. TradeKing offers trades at roughly half the price of larger firms; for six years in a row, it had been recognized as the Top Rated Broker by SmartMoney magazine, a branch of the Wall Street Journal. If you are going to trade stocks, I definitely recommend applying there and at least seeing what the service is all about.

Check your portfolio less often. Investors who check their portfolio less frequently tend to outperform frequent checkers. This fact might surprise you; frequent checkers presumably have more information about the market and can thus make better decisions. Quite the opposite is true, however: Frequent checkers tend to be scared off by periods of volatility in the market and often pull their money at the exact wrong time.

Here’s an example, as illustrated by a recent study of investor behavior: Although the S&P500 posted annual returns of over 8% from 1989 to 2009, the average stock investor only made returns of 1.9%. Some of that discrepancy is attributable to fees, but it’s largely because of poor emotional timing. People are far more prone to purchase stock at the height of the market, when everyone is bubbling over with enthusiasm, and far more likely to sell their stock at the bottom of the market, when things look their bleakest. The problem? Investors are paying top-dollar for stocks, but cashing out for mere pennies.

Over the past century, stocks (or rather, index funds composed of stocks) have far outperformed more ‘conservative’ options, such as bonds, which offer lower risk but also lower reward. (picture to illustrate) Despite that overwhelming trend, many investors prefer bonds because they offer more consistent, shallow returns (illustrated by the lesser slope of their graph). Investors get scared off by the sharp jumps of stock returns, despite the general positive direction. If investors, however, were to check their portfolio less frequently, they could eliminate a lot of the day-to-day jumps on the chart and instead see the overwhelming growth that exists.

Diversify your choices. I think that the low-cost index funds mentioned previously are a great option to achieve diversification without requiring expert knowledge or intensive research. If you are going to pick stocks, though, you should try to avoid picking too many options in the same sector or whose fates are interlinked. For example, betting too heavily on both Facebook and Zynga could be problematic because if one takes a downturn, the other is likely to as well. Of course, it is also possible that great news for one could bring great returns for the other, but in general your money is far less safe when it is not spread widely.

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Another goal here should be to own stock in a relatively large number of companies, rather than investing heavily in two or three. When your money is spread across more companies, it is much harder for any one aberration or collapse to be catastrophic because it would be offset by a larger number of stable investments.

For example, consider what might have happened had you owned a large amount of stock—say, 30% of your portfolio—in Enron, a Houston-based oil company that went bankrupt in 2001 after a huge corporate scandal: Your net worth would have been decimated, whereas you would not have been that badly off had Enron only been 3% of your portfolio. (Unfortunately, many of Enron’s lower-down employees were in the former situation because they had been talked into buying large amounts of Enron’s stock.)

What's the conclusion here? I still recommend investing in index funds over stocks, but I recognize that some people will trade stocks regardless. If you are going to trade stocks, make sure to seek out low fees, give yourself fewer opportunities to jump ship, and diversify your holdings. By following these guidelines, you will be in a good position to outperform the average stockholder.

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Mutual Fund Madness: A Simple (and Successful) Investment Strategy

2012-09-03T14:04:00.000-07:00

It is widely accepted that individual investors should diversify their assets so that they aren’t too prone to a downturn in one sector. For those investors, it’s hard to beat the diversification of mutual funds: Instead of individually buying up and monitoring stock in a bunch of companies to ensure that their portfolio is balanced, investors get to pool their money with others and buy into a fund that does those processes for them. Sounds simple enough, right?

Well, not quite. In trying to decide the “Best Mutual Funds for 2010,” US News and World Report assigned scores to over 4,500 different mutual funds. My Charles Schwab account (which I love, by the way—their service made it incredibly simple to start investing) lists over 9,000 matches for a broad search of mutual funds. There are a lot of options to sort through.

With all of those choices, how could a young adult, busy with school or a job, possibly comb through them all and make the best decision?
Thankfully, you don’t have to comb through all of them; there’s a choice that is both simple and highly effective. That choice is investing in what are called low-cost index funds.

Whereas most mutual funds are actively managed—that is, they have fund managers who research specific stocks, react to market trends, and do other similar things—index funds are, by definition, passively traded. Instead of micro-managing their holdings and assets, these funds attempt to replicate a certain market—for example, the S&P 500—and just grow with the market. And get this: these index funds regularly outperform actively managed funds.

It might be hard to believe that a hands-off, ‘uninformed’ investment strategy could beat the supposed wealth gurus of Wall Street, but it happens very consistently. It happens so frequently, in fact, that behavioral economists—academics who analyze the psychology and behavior of stock-traders—overwhelmingly recommend index funds as an investment strategy. (The book Why Smart People Make Big Money Mistakes and How to Correct Them is a great example of such advice.)

Here are just two of the reasons why index funds regularly beat actively managed funds:

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Index funds have far lower fees. Actively managed funds have much higher overhead costs than index funds and thus use more of your investment to cover those costs, rather than simply investing the money.

For example, the funds have to pay high salaries to the managers, purchase research resources, have the office space and equipment to conduct trades, plus a variety of other services. Index funds, on the other hand, are quite minimalistic: there are rarely lavish manager salaries or research purchases because the fund is dictated largely by the market. Thus, index funds’ net expense ratios—the percentage of your investment that goes toward covering costs—are typically far, far lower.

Don’t think that fees matter if you’re getting ‘expert’ guidance on your investment? Well, think again. Over the past 23 years, active funds have trailed the benchmarks they’ve attempted to beat by an average of one percentage point. In other words, the ‘expert’ funds that attempt to beat the market’s general performance have routinely lagged that performance. Index funds, on the other hand, routinely match the market’s performance (and outperform active funds) because that is their purpose and they have few fees to get in the way.

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Still not convinced? Here’s an example that illustrates how even relatively average fees can erode your investment over time, compared with a low-cost index fund:

If you invest $1,000 at the start of every year without any fees, after 40 years your investment would be worth about $213,000—a pretty tidy sum. If your fund has a net expense ratio of 1.25%, however, you would be losing $12.50 out of each $1,000, plus your money would be compounding less quickly. The effect? After 40 years, your money is worth only $153,000. And keep in mind that 1.25% is below the average expense ratio for an active fund.

A typical index fund has far lower fee structures, so you keep more of your investment. My initial S&P500 index fund with Schwab was down at 0.09%, so there’s plenty of room to scrimp. And as I mentioned above, it isn’t really scrimping, because you’re likely to outperform those expensive funds anyway.

2. Active trading is largely random. Although it can be very tempting to invest in the hot new funds that magazines are touting, it is important to remember that short-term performance of a fund is no guarantee of future performance. In other words, just because a fund has had a very solid three years does not mean that it will have a solid fourth.

Here is some evidence that success in actively managed funds is largely random: A paper by Eugene Fama and Kenneth French—faculty at the University of Chicago and Dartmouth Business Schools, respectively—created a series of artificial mutual funds by running a program that randomly selected stocks to purchase and trade. The result? When the average performance of these randomized mutual funds were compared with the performance of actual mutual funds, the figures were nearly identical.

Of course, even in the Fama and French example, a few active managers did happen to outperform the randomized funds. The issue for individual investors, however, is determining whether that happened because of luck or skill. If it is skill, then the trouble for investors is identifying that skill before the manager beats the market, not after they have and thus boost their fees or jump to a higher-paying fund. Even if there are skilled fund managers out there, it is incredibly difficult for a normal investor to identify them, and investors will pay quite a premium for choosing incorrectly (as discussed above in the fees section). Most investors will get far better returns from index funds.

What’s the takeaway of this post? Most investors, particularly young people with limited knowledge of the stock market, should invest in low-cost index funds and let their money grow with the market. It is incredibly difficult, if even possible, to predict which higher-cost funds will manage to beat the market in a given year. And even when those funds do beat the market, a large amount fail to in the next year. Flipping a coin will eventually yield ten heads in a row, particularly when there are thousands of coin-flippers participating. You are far better off putting your money with the market than you are in taking a loser’s gamble.

And if you need one last reason to invest in index funds? Even Warren Buffett thinks that most people should just put their money in index funds. Enough said.

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NEWS: Law-Makers Consider New Standards for Financial Advisers

2012-09-01T11:58:00.000-07:00

The Wall Street Journal's SmartMoney site recently featured an article (posted below) about proper standards for financial advisers. At issue is whether advisers should be free to sell their clients any "suitable" investment option (and perhaps claim a larger commission at their expense), or should be fiduciaries for their clients--agents legally required to act in their clients' financial interests.

Although most young people are not yet hiring financial advisers, there are a few questions to keep in mind if you plan on hiring one in the coming years, or even in the long-term, as changes proposed now could stick around until our generation hits retirement planning:

First, you should ask yourself what incentives your advisor has to get you to act in a certain way. It might even make sense to ask your adviser directly to explain their interests in your investments. For example, if your adviser takes a certain percentage cut of transactions that you make, then their interest could be in your making more deals than you otherwise should.

On the other hand, if your adviser charges a flat fee regardless of how many transactions you make, then they likely won't be pushing investment opportunities on you for their mere profit. They could, however, offer you fewer opportunities than you should otherwise take so that their work is less for the same flat pay-out.

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The conclusion of this analysis is simple: It is hard, if not impossible, to imagine a financial adviser without some vested interest in your undertaking certain behaviors.

That fact does not mean that you should avoid all financial advisers, nor does it mean that you should do the opposite of what they suggest; it does, however, mean that you should reflect critically about your advisers' interests and consider whether they are pushing an option for their own benefit, or because it truly is the best option.

Second, when considering an adviser, you should ask what their legal obligation is to their clients. Although the potential changes would require financial advisers to act as fiduciaries, the practice is not prohibited in the status quo. Some advisers do opt to serve as fiduciaries (in return, likely, for higher fees), and you can seek out these advisers if that is your preference.

There are certainly pros and cons to the fiduciary model, and it is unclear whether one is better across the board. Because of that uncertainty, you should consider the factors that matter to you--knowing that the advice is in your 'best interest' vs. constraining the adviser from certain risks because of legal liability--and evaluate how you value them. You currently have the freedom to choose either model--fiduciary or a standard adviser--and you should exercise that freedom to make the best decision for yourself. Without knowing your adviser's rules, however, choosing correctly is far more difficult.

Here is the post in its entirety (credit SmartMoney's Matthew Heimer):

One of the wonkiest debates in retirement planning is arguably also one of the most important. It’s about whether financial advisers who sell IRAs should be required to follow the so-called fiduciary standard. A fiduciary is required to act in a client’s best financial interests; someone who doesn’t follow the standard can sell a client almost any investment product that’s “suitable”—even if it’s expensive, or if selling it earns the adviser a fat commission.

Opponents of the fiduciary standard say that it would generate red tape and liability issues that would make the system more expensive for consumers. And recently, that side of the debate got some valuable support, in the form of a third-party study that concluded that retirement-account clients whose advisers followed the fiduciary standard were already paying as much as 70% more than their peers. The report has had a lot of influence in Washington, D.C. policy circles. But as SmartMoney.com’s Ian Salisbury reports today, it includes some notable flaws in its methodology—and consumer advocates aren’t pleased.

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