Fact from Fiction: Personal Finance Myths According to CFP® Professionals and How to Protect Your Clients
Myths and misunderstandings abound during a crisis, and the COVID-19 crisis has proven no different.
During this historic time in our lives, myths and misunderstandings also apply to personal finance industry. Vast numbers of news articles have been written about the recently enacted CARES Act and its implications on 401(k)s, student loans and rent payments, but many articles written also focus on how Americans should be managing their investments while the markets remain unsteady.
Even in times of relative calm, the average person often receives financial advice from social media, family members and friends about how the best steps to take to better manage money and investments. As a result, the takeaway from this type of advice often ends up in the (now virtual) offices of CFP® professionals, who are left with the task of educating their clients by deciphering fact from fiction.
To help CFP® professionals stay ahead of their client’s questions during this time of market uncertainty, CFP Board has asked its CFP Board Ambassadors some of the most prevalent personal finance myths and misunderstandings that rise during times of crisis.
BUDGETING AND DEBT
People may falsely believe that financial budgets are for people who are tight on money, according to Elaine King, CFP®, founder of the Family & Money Matters Institute.
“We should be encouraging all our clients, regardless of their income or financial situation, to establish a budget, an essential part of helping to grow their money.”
“One of the most common myths about personal finance is that all debt is bad debt,” says Charles Sachs, CFP® and Director of Planning at Kaufman|Rossin Wealth.
It often falls to the CFP® professionals to dispel the notion some forms of debt — whether investing in debt (bonds) as part of a fixed income investment strategy or taking out a mortgage as a long-term investment — may make sense as part of a financial plan.
In addition, while purposeful and strategic debt like a mortgage or a student loan can work as an investment strategy for some, credit card debt should never be encouraged.
Carly Carbonaro, CFP® and a Vice President with Goldman Sachs, says that she’s noticed that leaving a balance on one’s credit card has gained traction as a personal finance practice, particularly among millennials.
“Financial planners should advise their millennial clients to pay their cards off in full, every month, rather than carry any balance.”
MORTGAGES AND HOMES
There is a notion among consumers that buying property is always a better option than renting, writes EP Wealth Advisors’ Lynn Ballou, CFP®, who also serves as a CFP Board Ambassador.
“This simply isn’t true,” says Ballou. “We should proactively tell our clients that even if they seem to break even after the costs of mortgages, property taxes and the like, there are so many unknown costs of home maintenance that can overwhelm a family’s budget and weigh down any growth in the home’s value.
“Unless someone is staying in their home for many years and really digging into paying down the mortgage in a meaningful way, renting is a worthy option to consider.”
For those who do decide to purchase a home as an asset, some homeowners may be motivated to pay off their mortgage as soon as possible. Daniel Forbes, CFP® and head of Forbes Financial Planning, argues that this usually is not the wisest move.
“There are tax benefits to having a mortgage and with low interest rates, particularly in this environment. A client’s money is better served invested over 15 to 30 years rather than being put toward higher mortgage payments with the hopes of bringing it down more quickly.”
“People typically interpret the Four Percent Rule, a rule of thumb which suggests that a retiree should withdraw four percent of their portfolio each year, as gospel,” said Marguerita Cheng, CFP® and CEO of Blue Ocean Global Wealth.
According to Investopedia, the Four Percent Rule states that a retiree should withdraw four percent of their portfolio each year in order to lead a comfortable retirement. The rule was developed in the 1990s by financial advisor William Bengen who determined that no retirement account which executed a four percent annual withdrawal ran out of funds in 33 years.
“While four percent is a great starting point, drawing down four percent during a down market early in one’s retirement may not be safe for certain individuals,” adds Cheng.
Upon reaching their retirement, there is a belief among many investors that it is smart to take their social security benefit as soon as they are eligible. While this desire is likely fueled by well-informed commentary around the uncertain future of the American social safety net, Cheng argues that this may not be wise due to longer lifespans of aging retirees which means more money is needed to be spread out over time.
Speaking of the same issue, Daniel Forbes, CFP® makes the case that many retirees may not need the payments right away and can earn a much higher overall payment over time by waiting to take their Social Security benefit.
Buying the dip, particularly as equity markets enter correction territory as we have seen over the past couple of months, is one of the most prevalent and well-known myths in personal finance.
While common investment wisdom advocates to buy low and sell high, it is important to do so with moderation and careful thought during a stock market correction, argues Lynn Ballou.
“This wisdom has been so thoroughly engrained, that clients sometimes take it too earnestly,” adds Ballou. “Because there is a massive downturn in equity markets, it does not mean it’s automatically the right decision to jump head-first and buy low. Our job as CFP® professionals is to encourage clients to think carefully about every investment decision and consider exactly what makes sense to add to their portfolio. Rather than picking a specific day to buy, we should be telling them to think about the dollar cost average over a period of time.”
However, the focus on moderation should not push clients away from investing in markets. Charles Sachs, CFP® says clients often misinterpret that smart caution determine markets are too risky and that CDs are safe. Sachs says that CFP® professionals often need to counsel clients about the trade-offs between the two forms of investments and emphasize fact over fiction.
“Over longer periods of time, markets are one of the few investments that provide a decent expected return above inflation and taxes. On the other hand, CDs — while safe from a principal perspective — guarantee a loss of purchasing power due to inflation. For example, one could as much as half their purchasing power over a 20-year period,” said Sachs.
When it comes to investing and financial planning, CFP® professionals have a responsibility to help their clients be more thoughtful about finance, rather than following myths that may be outdated or just wrong for today’s investment climate.