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Category:  Money

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How Tall Is Your Tree?

by Gary Foreman

The other day I was sitting in the courtyard of a tall hotel building. I happened to notice how small some palm trees appeared against the building. Then it occurred to me that I had similar sized palm trees in my yard. And compared to my split-level home they appeared huge. The difference? It's all a matter of perspective.

Our finances are also often a matter of perspective. Whether $500 is a lot or a little depends on what we compare it to. So let's take a look at some situations where our perceptions could have a big impact on our bank account.

We'll begin with something very familiar - our homes. According to the National Association of Homebuilders the average home size in the U.S. in 2004 was 2,330 square feet. That was up from 1,400 s.f. in 1970. So is your home large or small?

If you have a 1,900 s.f. home you might compare it to your friends and think that you're really quite cramped. In fact, it might be very important to you to find something bigger. Even if it means higher mortgage payments, insurance costs, utility bills and additional upkeep. Moving to a larger home could have a major impact on your budget and your bank account. But, if your friends' homes are the comparison, you'll probably talk yourself into moving.

On the other hand, if you compare your home to the one you grew up in, it probably seems spacious. No need to move to a bigger home. Just a matter of controlling how much stuff you try to cram under your roof. The savings could be significant. Not to mention the peace of mind. It's all just a matter of perspective.

Or let's try car payments. Suppose that you have a car payment of $400 per month. That doesn't seem like much. Especially when you  compare it to your neighbor's payment of nearly $650. And, it sure is nice having a nearly new car in the driveway for everyone to see. After all, you wouldn't want them to think that you couldn't afford a new car. Because you can handle those payments with no problem.

Of course if you should happen to lose your job that $400 a month payment will suddenly look like a huge mountain. Trying to live on unemployment is hard enough when there's only the mortgage and food to consider. But that car payment is going to make things very difficult. From this vantage point it looks like a big problem.

Here's another one. Two thirds of college graduates had student loans. And students with loans had an average debt of over $19,000 at graduation (source: National Center for Education Statistics). Depending on the type of loan the monthly payment will run $200 a month or slightly more. So is that a large debt for a college grad?

Depends on how you look at it. The U.S. Dept. of Commerce estimates that a college grad will earn about $23,000 more per year than someone with a high school diploma. So in those terms, a $19,000 debt doesn't seem so big. In fact, it might even seem cheap.

But, let's take another look. The first thing to note is that the difference in earnings for college grads is an average over their entire career. So they'll probably average less their first job out of college.

What can current grads can expect to be paid? That depends a lot on the job. So we'll select something that's fairly typical. The average business administration grad can expect to earn about $38,000 a year (source: National Association of Colleges and Employers).   Depending on state taxes and some other deductions, he'll take home about $2,400 per month.

That would mean that 5% of his take home pay is going to repay student loans. Now the debt seems a little bit bigger. Let's further suppose that our graduate wants to replace the beater he drove through school. Add a car payment to the mix and the budget starts getting pretty tight. Once again, a different perspective on the same situation.

Why is all this important? Many of us make financial decisions based on how we 'feel' about a situation. Those feelings are very much affected by what we're comparing to our potential financial transaction. Unfortunately sometimes we focus on that first perspective and don't consider any others.

It's important to our financial well-being that we get more than one comparison on any major financial decision. Let's give our feelings and our intellect a chance to see both sides of our potential choices. We'll be much more likely to make a decision that is comfortable in the future.

So how tall is that tree? It all depends on what it's standing next to.

Gary Foreman is a former financial planner who currently edits The Dollar Stretcher.com website. You'll find hundreds of ways to "live better...for less". Visit today!  



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