Editor’s note: This article was first published in August 2010. The salaries, mortgage payment, house price and household bills it uses, and its remark that banks used to lend more than a home’s value, reflect Spain at that time.
To reach the financial freedom so many people long for, you undoubtedly need a financial education, and that is something schools, high schools, courses and universities simply don’t offer. The rich keep getting richer and the poor never manage to escape poverty. What stops us from reaching financial freedom?
To find the answers, I’ll draw on the more than solid fundamentals of our beloved Robert Kiyosaki. I’ll do it with two examples of the lives and paths of real people. One path leads to debt and the other leads to wealth.
The road to debt
Eduardo finished his university degree at 24 and got a job paying €1,500. At that age, a good-looking young man with a stable job decides to buy a nice car, albeit a mid-range one. He lives with his parents, so he can easily afford a car payment of €250.
He goes out at weekends and has fun like any young person. Money doesn’t worry him, because he has it. His income is far higher than his expenses, so he lives a carefree life.
One night Eduardo meets a girl, Estefanía, and they start a relationship. They date for a year. Both of them work and can afford nights out, dinners at restaurants and month-long summer holidays, and even so they are each starting to save, separately, to buy a home.
Two years go by and, since the relationship is going well, they decide to get married. They start looking for a house or a flat to live in. She earns €1,300, which added to Eduardo’s €1,500 gives them a household income above the average for couples: €2,800.
They decide to buy a house that is very well located and on offer. They’ve found a real bargain: right in the city centre, it costs only €200,000. They don’t think twice about signing, since their mortgage payment will be only €850. Now it’s time to furnish the house. Banks used to lend you more than the value of the house so you could furnish it with the mortgage money, but now it’s 2010. They’ve been lent exactly the amount the house was valued at.
Still, that’s no problem. They buy the furniture through an interest-free instalment offer. They can pay off the €12,000 over 12 months: €1,000 a month. It doesn’t worry them too much, because their salaries can easily cover it, and after a year they’ll have that €1,000 to save.
So their adventure begins. They pay for the wedding themselves, with part of it covered by their families.
Between the reception, the outfits and the ceremony, the costs are enough to cut the savings they both had by 50%.
Once they’re married and settled in their new home, their income and expenses look like this:
Income:
- Estefanía €1,300
- Eduardo €1,500
- TOTAL €2,800
Expenses:
- Eduardo’s car €250
- Estefanía’s car €215
- Mortgage €850
- Furniture €1,000
- TOTAL €2,315
Of course, Eduardo and Estefanía hadn’t counted on the fact that they no longer live with their parents, and that new expenses crop up, such as:
- Electricity €80
- Water €15
- Food €200
- Insurance €35/month (cars and home; a deliberately low estimate)
- Property tax on the house
- Clothes
- Medicines
- Etc.
Eduardo and Estefanía are short of money for the first time, even though they both have a stable salary. But they both think things will go back to normal once the furniture is paid off, so this is a temporary situation they will keep getting through with:
- Credit cards: let me describe what a credit card is. I know you think you already know, but you probably haven’t stopped to think about what it really is. A credit card is a way of spending money you don’t have, but since you’ll pay it back in small amounts month after month, you won’t mind maxing it out, because whether you spend €800 or €2,500 your monthly payment will be the same. You may even know that credit card interest isn’t that high. The problem is that the interest is applied to the whole outstanding balance of your card month after month, which makes it more dangerous than a personal loan. That is why, from the moment you activate a credit card, you’ll never finish paying it off: you’ve entered the credit game.
That is the problem Estefanía and Eduardo face. When they finish paying for the furniture, they’ll have another debt on their credit card.
Now Eduardo and Estefanía depend entirely on their jobs to keep up their standard of living, which is a life full of debt, like that of 90% of the population. If one of them ever lost their job, it would be a financial trauma, not to mention that two people with stable jobs will think twice before having a child, because financially they won’t be able to support one.
They have entered the circle Robert called the rat race, and without a financial plan they will never get out of debt. This example uses estimated costs, rounding the expenses down and the offers up.
To see how they could have taken a different path, read the example in our next article, based on the true story of an ordinary person like you.
Further reading
- Ideas for saving and making money by saving
- The mindset of an entrepreneur
- The four ways people earn their income: the cashflow quadrant
- How to lose your fear of starting a business
Featured image: Rlicul, CC BY-SA 3.0, via Wikimedia Commons.
