Bucks Blog: Kidding Ourselves About Our Financial Reality

Carl Richards

Carl Richards is a certified financial planner in Park City, Utah. His sketches are archived here on the Bucks blog and on his personal Web site, BehaviorGap.com.

In its most simplistic form, financial planning is the process of charting a course from where you are today to where you want to go. The first step is to become crystal clear about what I call your current reality, or where you stand now.

I used to think that being very clear about your current reality was the easy part of financial planning. Once you did that, the hard part started: Making guesses about other things, like where you want to be in 20 years, the rate of return you will earn and inflation.

Compared to those variables, defining your current reality should indeed be the easiest part of the process. It’s certainly a matter of fact. But apparently getting this clear is harder than I thought.

Based on a new study from the Federal Reserve Bank of New York, it appears that we have a problem: Many of us are actually far from clear about our current financial reality. According to the study, only 50 percent of households reported having credit-card debt, while credit-card companies indicated that the number is actually 76 percent of households.

In addition, even after adjustments were made for people paying their full balances every month, the average household reported credit-card debt of $4,700. Lenders, meanwhile, report an average balance per household of over $7,100.

While I haven’t read the entire study, my sense from the conversations I’ve had in the last couple of years is that these misunderstandings are indeed a problem. A number of reasons could explain the difference, but among them is the reality that many of us may not know where we stand with respect to our finances. In fact we may not want to know.

As the study’s authors point out, this result “could come from willful ignorance, as credit-card balances are not welcome information.” When you are overweight the last thing you want to see is a scale!

But how can you expect to make progress if you have no idea where you’re starting from? Over the years, I’ve noticed that the biggest differences between people who reach their financial goals and those who don’t is knowledge of where they stand in the first place. When I ask financially successful people for a balance sheet showing their assets and debts, not only do they know what a personal balance sheet is, they often have one that is relatively current.

The point here isn’t that a balance sheet leads to guaranteed financial success. But if we’re to have any hope of getting to a destination, it helps to start by being very clear about where you’re leaving from. In this instance, a balance sheet can help with that clarity.

If you’re unhappy with your financial situation and want to make a plan to change it, start today by defining where you stand. Take all the credit cards out of your wallet, flip them over to the back, find the phone number and call the credit card company to ask for your balance. Write the balances down on a piece of paper. Add up the total.

Now make a plan to deal with what you’ve just learned. There’s been plenty written about how to do that, but it all starts by getting very clear about where you stand.

Article source: http://feeds.nytimes.com/click.phdo?i=f4156a7ca2f6df64160edf3d7255b2b5