Are you one of the 30% of Americans who know this or one of the 70% who do not?

The following simple finance questions were asked by two economists, Annamaria Lusardi and Olivia Mitchell and reported in the Atlantic and 70% of Americans could not get all 3 questions correct:

  1. Suppose you had $100 in a savings account and the interest rate was 2 percent per year. After five years, how much do you think you would have in the account if you left the money to grow? A) more than $102; B) exactly $102; C) less than $102; D) do not know; refuse to answer.
  2. Imagine that the interest rate on your savings account is 1 percent per year and inflation is 2 percent per year. After one year, would you be able to buy A) more than, B) exactly the same as, or C) less than today with the money in this account?; D) do not know; refuse to answer.
  3. Do you think that the following statement is true or false? “Buying a single company stock usually provides a safer return than a stock mutual fund.” A) true; B) false; C) do not know; refuse to answer.

The correct answers are 1-A; 2-C; and 3-B.

Only 30% of Americans could answer all three of these questions correctly. Most people think they know more than they do when it comes to finance. I think people should know the basics of inflation (#2) and 2 basic rules about inflation for their personal finances.

  1. When you’re planning for the future, don’t forget about the effects of inflation.
  2. Don’t hate your mortgage if it is fixed and has a good rate. It’s got some upside!

Inflation makes your money able to buy LESS stuff in the future than it can buy now. That’s why a dollar is worth more today than in the future. Interest on the other hand, means that your investment grows because someone is paying you to use your money temporarily.

Why does this matter? If you put your savings in a low interest account or bond that doesn’t make at least enough interest to cover inflation, then your hard earned money will actually be worth less when you take it out than when you put it in. It has eroded. This matters a lot when it comes to retirement or savings planning (rule #1).

When you calculate returns on your savings, meaning you plan on having more money later than what you put in due to growth or interest, you have to remember your return will be decreased by inflation. That’s why answer C is correct for question 2 (again, rule #1).

People fear high inflation because wages may not grow at the same rate as inflation and then it feels like you’re being paid less because your money does not buy as much. They keep working and can’t buy much. That’s why inflation feels bad.

The good news: some things can actually protect you against inflation like your 30 year fixed rate mortgage (or any long-term fixed rate debt). Why? You are paying your debt back with dollars that are worth less. In effect you’re paying LESS for your mortgage in higher inflation because the worth of your payment (the basket of goods you could buy with your payment) shrinks (rule #2).

Did You Know Controlling Your Monthly Spending May Be about Controlling One Thing?

People know when they are spending too much. They know when they are living on the edge each month - spending just up to or maybe a little past what they make each month. These same people (maybe it’s you, too) don’t live extravagantly, no Porsches or yachts. Just regular people, so where does the money go?

When clients come to me and they suspect they’re spending up to the bleeding edge of what they make each month and therefore have no extra money to save for their goals, I always do a cash flow, where I put all their spending for the last month into about 20 categories (here’s a list of the categories I use) and VOILA! There are always one or two categories that seem ridiculously high.

I’ve already talked in previous posts about what those categories usually are. In this post, I just want to talk about why it’s important to isolate your “ridiculous” categories and monitor them specifically.

Let’s say you spend too much on “children’s activities” or “take-out and snacks.” Instead of feeling overwhelmed by having to keep your full budget every month and write down every stick of gum you buy and every tank of gas you fill, what if you just monitored your spending on your weak categories: children’s activities and take-out and snacks?

Instead of typing every transaction into an app or spreadsheet and worrying about leaving a light on accidentally and throwing off your electric bill, what if you said, “I’m fine on all my categories except x, and I’m not going to write down all my transactions and drive myself crazy. I’m just going monitor my ridiculous category.”

Budgeting doesn’t seem so daunting if all the other categories are fine and you just have to watch one or two. Maybe you can actually keep on your budget if you know you only have one or two weak spots that have to be trimmed back. We can all do that, right?

Try it for a month. See which category or categories you seem to spend a ridiculous amount of money in. I bet it’s not your electric bill, insurance or even gas, so why stress over your whole budget.

Find the difficult categories and watch them by either writing down each transaction in that category (or having an envelope with cash) and stopping your spending when you hit your specified amount .

There are many ways to curb your spending especially if you're only worried about one or two categories. You’ll see that staying on your plan is a lot easier when you know where you have a weak spot and don’t have to watch everything.

The Conversation: the Financial Talk Married (and Engaged) Couples Should Have

Maybe you’ve been married for 30 plus years or maybe you’re just engaged and planning your wedding. Either way, you are a team and that includes your finances. Yes, it’s a touchy subject; yes, it’s one of the main reasons for divorce; and yes, your parents did it differently, but you have to Have The Conversation.

You know the one. The one where you both communicate about your financial habits and goals. The one where you get some issues out on the table before they become crises so you don’t blow up your relationship. The one where you learn to communicate about something uncomfortable with the person you love.

Having the convo? Cover these topics:

Find some communication tools- "let’s have a finance meeting once/quarter." "Honey, can we talk about some upcoming expenses this weekend." "We spent too much last month, can we talk about where we can cut back."

Do not have the discussion when one of you is in the heat of the moment of being angry about some money issue. Get an unrelated, third party involved if it seems like you cannot do it on your own and it's affecting your relationship.

These are difficult topics to talk about even between married couples. Before you have the conversation:

  1. Check yourself - Do some real thinking about what you would say for yourself on all these topics. Try to make yourself comfortable with these topics before suggesting you have a talk together.
  2. Timing is everything - Don’t have the talk in the middle of big life change like a new baby, new job or new home.
  3. Don’t have the conversation when you know you have significant financial issue - It’s too late for the conversation to help you and you either need to concentrate on that specific issue or get a third party to help you with it. You still need to have the conversation, but after you’re out of the woods on that specific problem.

And lastly, DO NOT SNIPE! Don't throw sarcastic, mean or even annoying one-liners out about money issues. Have the conversation calmly, knowing you love this person.

Good luck and you will both be better for it afterwards. Fewer fights, less anxiety and more enjoyment of life when you’re not walking on egg shells or stressed out all the time about money.

5 Signs You Are (or Aren't) Financially In Control

Feeling financially secure is one of the most critical aspects of your overall psychological health and the health of your closest relationships. Yeah, I’m not telling you something you don’t already know… academically at least. You know being secure financially makes you easier to be around and less anxious, but are you financially secure?

When I first meet a client, I look for a few things right away to see if the person is in control of their finances. Here they are:

  1. You have a few thousand dollars put away for a rainy day. Not emergency savings for financial catastrophes like job loss, disability or divorce, but for typical life events, like brake jobs, summer camp, tax bills, new refrigerators, etc. You don’t have to charge life events like that, you can pay for them and be on your way.

  2. You don’t obsess about spending money on children’s activities, vacations, or fixing things around the house. You don’t fight with your partner about spending or savings. You don’t feel anxious when I introduce myself and tell you what I do for a living. You’re comfortable with the topic of finances if it comes up and you infrequently bring it up either with good friends or your partner.

  3. You know what you spend (approximately) each month to keep your household going. Your head is not in the sand about whether you spend less than you earn each month. If asked the question you would be within a few hundred dollars of the actual number.

    If your partner takes care of the money and you are blissfully ignorant of the finances, you are in deep trouble. Even if one partner tends to take care of bill paying or keeping up with the check book, both partners MUST know the overall amount spent per month otherwise you cannot control it. One partner (the one that doesn’t know) could spend more than he/she should accidentally. Ignorance or discomfort with money issues is no excuse.

  4. You (and your partner) put money away monthly or a sizable amount annually for retirement – consistently. You should know how much is in your total retirement accounts, but even if you don’t, you should know that you are putting money away regularly, which means your household is in the habit of saving and you have some plan even if the plan is not updated or adequate. You can and should update it through your working life.

  5. You do not have revolving debt or you have revolving debt that is 20% or less than the total amount of debt available to you. You may have more than one card and that’s okay as it is good for your credit score to have, regularly use and pay-off credit cards, but you want to make sure you’re not over that 20% threshold.

    For example, if your total revolving debt is $4000 and you have 3 credit cards each with a $5000 limit, you have $15,000 (3x$5000) of available credit. You have $4000 of debt and $4000/$15000 is 26% so you have too much revolving credit. You should pay down your credit to zero preferably, or to below 20% ($3000 in this example).

If none of these items describe you, you should get help sorting out your finances and relieving stress and anxiety. If some of the items describe you and some do not, try to focus on the ones that do not. If you don’t know how much you spend each month, figure it out. If you don't know what you have in retirement, ask. If you need help click here.