WHY TEACH FINANCIAL LITERACY?

How the Quest for a Financial Dream Turns into a

Financial Nightmare

The classic story of hardworking people has a set pattern. Recently

married, the happy, highly educated young couple moves into one of

their cramped rented apartments. Immediately, they realize that they

are saving money because two can live as cheaply as one.

The problem is the apartment is cramped. They decide to save

money to buy their dream home so they can have kids. They now have

two incomes, and they begin to focus on their careers. Their incomes

begin to increase.

They’re now trapped in the Rat Race. Pretty soon a baby comes

along and they work harder. The process repeats itself: Higher

incomes cause higher taxes, also called “bracket creep.” A credit

card comes in the mail. They use it and max it out. A loan company

calls and says their greatest “asset,” their home, has appreciated in

value. Because their credit is so good, the company offers a billconsolidation

loan and tells them the intelligent thing to do is clear

off the high-interest consumer debt by paying off their credit card. And

besides, interest on their home is a tax deduction. They go for it, and

pay off those high-interest credit cards. They breathe a sigh of relief.

Their credit cards are paid off. They’ve now folded their consumer

debt into their home mortgage. Their payments go down because they

extend their debt over 30 years. It is the smart thing to do.

Their neighbor calls to invite them to go shopping. The Memorial

Day sale is on. They promise themselves they’ll just window shop, but

they take a credit card, just in case.

I run into this young couple all the time. Their names change, but

their financial dilemma is the same. They come to one of my talks to

hear what I have to say. They ask me, “Can you tell us how to make

more money?”

They don’t understand that their trouble is really how they choose

to spend the money they do have. It is caused by financial illiteracy

and not understanding the difference between an asset and a liability.

More money seldom solves someone’s money problems.

Intelligence solves problems. There is a saying a friend of mine says

over and over to people in debt: “If you find you have dug yourself

into a hole... stop digging.”

As a child, my dad often told us that the Japanese were aware

of three powers: the power of the sword, the jewel, and the mirror.

The sword symbolizes the power of weapons. America has spent

trillions of dollars on weapons and, because of this, is a powerful

military presence in the world.

The jewel symbolizes the power of money. There is some degree

of truth to the saying, “Remember the golden rule. He who has the

gold makes the rules.”

The mirror symbolizes the power of self-knowledge. This selfknowledge,

according to Japanese legend, was the most treasured

of the three.

All too often, the poor and middle class allow the power of

money to control them. By simply getting up and working harder,

failing to ask themselves if what they do makes sense, they shoot

themselves in the foot as they leave for work every morning. By not

fully understanding money, the vast majority of people allow its

awesome power to control them.

If they used the power of the mirror, they would have asked

themselves, “Does this make sense?” All too often, instead of trusting

their inner wisdom, that genius inside, most people follow the crowd.

They do things because everybody else does them. They conform,

rather than question. Often, they mindlessly repeat what they have

been told: “Diversify.” “Your home is an asset.” “Your home is your

biggest investment.” “You get a tax break for going into greater debt.”

“Get a safe job.” “Don’t make mistakes.” “Don’t take risks.”

It is said that the fear of public

speaking is a fear greater than

death for most people. According

to psychiatrists, the fear of public

speaking is caused by the fear of

ostracism, the fear of standing out, the

fear of criticism, the fear of ridicule, and the fear of being an outcast.

The fear of being different prevents most people from seeking new

ways to solve their problems.

That is why my educated dad said the Japanese valued the power

of the mirror the most, for it is only when we look into it that we find

truth. Fear is the main reason that people say, “Play it safe.” That goes

for anything, be it sports, relationships, careers, or money.

It is that same fear, the fear of ostracism, that causes people to

conform to, and not question, commonly accepted opinions or

popular trends: “Your home is an asset.” “Get a bill-consolidation

loan, and get out of debt.” “Work harder.” “It’s a promotion.”

“Someday I’ll be a vice president.” “Save money.” “When I get a raise,

I’ll buy us a bigger house.” “Mutual funds are safe.”

Many financial problems are caused by trying to keep up with the

Joneses. Occasionally, we all need to look in the mirror and be true to

our inner wisdom rather than our fears.

A person can be highly educated, professionally successful, and financially illiterate.

By the time Mike and I were 16 years old, we began to have

problems in school. We were not bad kids. We just began to separate

from the crowd. We worked for Mike’s dad after school and on

weekends. Mike and I often spent hours after work just sitting at a

table with his dad while he held meetings with his bankers, attorneys,

accountants, brokers, investors, managers, and employees. Here was

a man who had left school at 13 who was now directing, instructing,

ordering, and asking questions of educated people. They came at his

beck and call, and cringed when he didn’t approve of them.

Here was a man who had not gone along with the crowd. He was

a man who did his own thinking and detested the words, “We have

to do it this way because that’s the way everyone else does it.” He also

hated the word “can’t.” If you wanted him to do something, just say,

“I don’t think you can do it.”

Mike and I learned more sitting in on his meetings than we did

in all our years of school, college included. Mike’s dad was not booksmart,

but he was financially educated and successful as a result. He

told us over and over again, “An intelligent person hires people who

are more intelligent than he is.” So Mike and I had the benefit of

spending hours listening to and learning from intelligent people.

But because of this, Mike and I couldn’t go along with the

standard dogma our teachers preached, and that caused problems.

Whenever the teacher said, “If you don’t get good grades, you won’t

do well in the real world,” Mike and I just raised our eyebrows.

When we were told to follow set procedures and not deviate from the

rules, we could see how school discouraged creativity. We started to

understand why our rich dad told us that schools were designed to

produce good employees, instead of employers. Occasionally, Mike

or I would ask our teachers how what we studied was applicable in

the real world, or why we never studied money and how it worked.

To the latter question, we often got the answer that money was not

important, that if we excelled in our education, the money would

follow. The more we knew about the power of money, the more

distant we grew from the teachers and our classmates.

My highly educated dad never pressured me about my grades, but

we did begin to argue about money. By the time I was 16, I probably

had a far better foundation with money than both my parents. I could

keep books, I listened to tax accountants, corporate attorneys, bankers,

real estate brokers, investors, and so forth. By contrast, my dad talked

to other teachers.

One day my dad told me that our home was his greatest investment.

A not-too-pleasant argument took place when I showed him why I

thought a house was not a good investment.

The above diagram illustrates the difference in perception between

my rich dad and my poor dad when it came to their homes. One

dad thought his house was an asset, and the other dad thought it was

a liability.

Today, people still challenge me on the idea of a house not being

an asset. I know that for many people, it is their dream as well as

their largest investment. And owning your own home is better than

nothing. I simply offer an alternate way of looking at this popular

dogma. If my wife and I were to buy a bigger, flashier house, we

realize it wouldn’t be an asset. It would be a liability since it would

take money out of our pocket.

So here is the argument I put forth. I really don’t expect most

people to agree with it because your home is an emotional thing

and when it comes to money, high emotions tend to lower financial

intelligence. I know from personal experience that money has a way

of making every decision emotional.

When it comes to houses, most people work all their

lives paying for a home they never own. In other words,

most people buy a new house every few years, each time

incurring a new 30-year loan to pay off the previous one.

• Even though people receive a tax deduction for interest

on mortgage payments, they pay for all their other

expenses with after-tax dollars, even after they pay off

their mortgage.

• My wife’s parents were shocked when the property taxes

on their home increased to $1,000 a month. This was

after they had retired, so the increase put a strain on their

retirement budget, and they felt forced to move.

• Houses do not always go up in value. I have friends who

owe a million dollars for a home that today would sell

for far less.

• The greatest losses of all are those from missed opportunities.

If all your money is tied up in your house, you may be forced

to work harder because your money continues blowing

out of the expense column, instead of adding to the asset

column—the classic middle-class cash-flow pattern. If a

young couple would put more money into their asset column

early on, their later years would be easier. Their assets would

have grown and would be available to help cover expenses.

All too often, a house only serves as a vehicle for incurring a

home-equity loan to pay for mounting expenses.

In summary, the end result in making a decision to own a house

that is too expensive in lieu of starting an investment portfolio impacts

an individual in at least the following three ways:

Loss of time, during which other assets could have grown

in value.

2. Loss of additional capital, which could have been invested

instead of paying for high-maintenance expenses related

directly to the home.

3. Loss of education. Too often, people count their house

and savings and retirement plans as all they have in their

asset column. Because they have no money to invest, they

simply don’t invest. This costs them investment experience.

Most never become what the investment world calls “a

sophisticated investor.” And the best investments are usually

first sold to sophisticated investors, who then turn around

and sell them to the people playing it safe.

I am not saying don’t buy a house. What I am saying is that you

should understand the difference between an asset and a liability.

When I want a bigger house, I first buy assets that will generate the

cash flow to pay for the house.

My educated dad’s personal financial statement best demonstrates

the life of someone caught in the Rat Race. His expenses match his

income, never allowing him enough left over to invest in assets. As a

result, his liabilities are larger than his assets.