I routinely write about financial rules of thumb for building wealth and making your money work for you. Without fail, I’m met with comments that argue, “Those rules only apply in certain cases” or “That’s only the case if certain assumptions hold true.”
Certainly, financial rules of thumb don’t work 100% of the time, and situations are not always cut-and-dried. But sometimes the impulse to parse every assumption or possibility is overblown and leads you to make poor decisions.
Personal finance writer Jean Chatzky wrote a new book called “Money Rules: The Simple Plan to Lifelong Security.” In it, Chatzky offers 94 rules to help you govern your finances. There are some great gems of advice here, including:
- Treat your job as your most important investment
- Rebalance your portfolio every six months
- Remember that even “good debt” isn’t free
But beyond those individual financial lessons, what struck a chord with me was one of the underlying principles Chatzky refers to throughout the book: Money is simple, but people make it complicated. That is, we miss the forest for the trees.
Here are two examples I can think of how we often overcomplicate money matters to our detriment.
Obsessing over the future tax treatment of Roth IRAs
Will you have a larger salary, earn promotions, win bigger business and the like through the remainder of your career? I hope you and I both do. If that is what happens, then I’ll be in a higher tax bracket later in my life, when I plan on withdrawing money from my retirement funds.
So if I can pay my taxes on that money now at a lower marginal rate, why would I wait to pay taxes later when my tax rate will be higher? That alone drives me to maxing out my Roth IRA, even before I invest in my company’s 401(k) retirement plan. Note that I don’t receive a matching contribution from my employer. If your employer does offer a match — the best 401(k) plans come with generous matches — then the 401(k) contributions should probably come first. But if you don’t get matching contributions, a Roth IRA is a great alternative, assuming that you qualify.
When I make this argument, I’m rebuffed by certain financial planners. Why? Many financial planners are worried that the federal government will change the rules about tax-free withdrawals on Roth IRA earnings if you withdraw after turning 59 1/2 years old. To me, this is worrying about something you can’t control and will most likely not happen. Can you imagine the voter backlash across the political spectrum if Roth IRAs’ tax-free withdrawal status is ever seriously challenged?
Instead of getting riled up about the hypothetical policy changes that Congress may have in store for Roth IRAs down the line, it’s smarter personal finance to focus on the big-picture principle: Save diligently for retirement, and choose the vehicle that you think will give you the best after-tax return in retirement as the rules are currently written.
Short-term stock market reactions
Apple’s stock (AAPL) suffered a recent dip in share price. The stock has gone from its high in April of $636 per share to a low of roughly $530 per share. This drop in share price meant Apple now had a market capitalization of about $495 billion instead of its high of $594 billion.
Was the company really worth $99 billion less than it was just a few short months earlier? I would argue that it wasn’t. It’s the same company with the same products and a pipeline of products on the way, just like it was before, and yet the company’s stock has gotten caught up in short-term speculation by traders. And guess what? As of today, it’s trading around $610 per share.
To trade on short-term news like this is to let up-to-the-minute factors hold undue sway over your financial decisions (assuming, of course, that you’re like most individual investors who are looking for long-term stock value and not a speculative trader yourself). If you thought Apple was a good bet at $630, it was probably still a good bet (better, even) at $530.
In the big picture, what you should do to manage your money is not really that complicated. We often make our personal finance decisions more complicated than they need to be by letting our personalities, preferences, bias, and what we read in today’s paper — the “trees” — get in the way of recognizing the forest. (Incidentally, things can get even more convoluted when you add financial advisors who are sometimes paid by selling us specific products. But that’s another topic.)
Have you ever gone too deep in parsing all the what-ifs of a personal finance decision? Did you look back and feel that weighing all the details distracted you from the big picture?