“There are no solutions; there are only trade-offs.”
There are money tradeoffs in most aspects of our lives. We have many choices and cannot do everything we want to do. For every choice we make, opportunity costs require us to forego benefits for the option not selected. Opportunity costs are the loss of potential gains from other alternatives when making a choice.
Tradeoffs between time and money differ significantly based on age and lifestyle based on our unique set of values. With less time like Boomers as an older generation, you might place more importance on time while young people may favor money. That is not always the case. Based on this global survey, those in the 20s and 30s tend to lean more time than money, valuing experiences over possessions than boomers, as seen in this infographic.
Each of us has to decide based on our characteristics and circumstances. Typical examples of trade-offs between time and money as we ponder our individual decisions, we:
- Opt-in for a job requiring a longer commute for a substantial pay hike.
- Have one income with mom or dad staying at home with the kids.
- Go to a movie instead of working on an assignment due the next day.
- Job security with the government or seek a wealth opportunity with long hours and traveling.
- Attend a community college initially, then transfer to a four-year college.
- Work at home to spend more time with family.
Sure, we can try multitasking or combine activities when we face conflicting demands. However, there is often a price to pay when poor execution results.
Make Diligent Money Trade-off Decisions
Instead, we may inform ourselves by making diligent choices. How conscious are we when we make these decisions? For some money trade-off decisions, make complex financial calculations as needed. On the other hand, there are times when we may not even be aware of having made a choice. Time, money, productivity, and health may act as alternative constraints, reflected in your priorities.
Time is a precious finite resource we often waste. Even if we have unlimited capital available, we just don’t have the time to spend it fruitfully. We want to enjoy our lives to the fullest, with health on our side. Without taking care of ourselves, time is short, and no amount of money may cure our illness. Since we have longer life expectancies, we need to support ourselves by fulfilling well-thought-out financial plans.
Typical Money Tradeoffs We Face
Your Home: Buy or Rent
Owning versus renting your home is among the most common money trade-offs involving personal preferences, age factors, and your financial situation. Our family has rented and owned our home. After many years of ownership, we are renting a home in a lovely town, taking advantage of a great public school system.
If you seek to own a home, do you prefer stability, building equity, control over the home, and its responsibilities and tax benefits? Will you enjoy a sense of pride in ownership? These benefits come at a high cost based on a 20% down payment and mortgage loans for 80% of the home’s principal price, with interest rates strongly determined by your credit scores. The opportunity cost of owning your home may prevent you from saving for retirement and making other investments. Your home will not likely appreciate more than inflation.
The term of your loan can vary based on 15 years versus 30-year mortgages–another trade-off. The longer the loan, the lower your monthly payments. However, the 30-year mortgage raises your total costs compared to the 15-year loan.
Financial Implications For 30 Year versus 15 Year Mortgage
When comparing the different loan maturities on a $300,000 loan:
- The APR will be higher for the 30-year mortgage than a 15 year one, all else being the same.
- The monthly mortgage payments will be significantly higher for the 15-year mortgage, given the shorter period. If you can afford to pay the higher monthly amount, you are better off with the 15-year mortgage because you pay less in total interest.
- Assuming you have a 720 credit score, the total home price, including total interest paid and down payment, will be lower with a 15-year mortgage loan.
- The 30-year mortgage is much higher because you are paying interest on your loan longer, so the total home price or principal is $375,000 plus $189,622, equalling $564,620.
- If you opt for a 15 year mortgage, your total home price or principal is $375,000 ($300,000 loan + $75,000 down payment of 20%) + $76,012 in total interest equals $451,012 for principal and interest.
On the other hand, renting provides flexibility and freedom. Your rent is usually more affordable than home costs, not having to deal with the home’s repair and maintenance, freeing you to use savings to make investments, and not have to worry about potential declining home values. The downside of renting your home has restrictions to do what you want to make your place more livable. Your landlord could decide to sell the property and require you to move. There is always the risk of having a bad landlord whose actions force you to pick up and leave.
The necessity of the tradeoffs of owning your home versus renting considers the tug between time and money differences. When buying your home, you are making a long-term commitment to the neighborhood, having greater responsibilities in maintaining the property, insurance, and keeping up with monthly payments for some length of time. Alternatively, renting is usually a shorter-term commitment that may require future moves but with less responsibility and costs.
For families who want to control their homes, buying is the way to go, especially if you can handle the shorter mortgage terms so you can pay off your debt sooner. Understand your long-term goals for your family and financial priorities for your money. Don’t take on too big a house that you can’t afford. Renting is a great choice, especially if you don’t want the headaches of your own home. We compare advantages and disadvantages in our guide to owning and renting your home here.
A Car: Buy, Lease or Borrow
If owning your home is seen as the American dream, our culture has long embraced car ownership as a faithful supplement to our lifestyle. When seeking a car, you have a few alternatives in your money trade-off decision. Do you want a new or used car, preferably certified pre-owned? Are you buying or leasing this car? If you are getting this car for personal rather than business use, the tradeoffs between buying the car with a loan or a lease are relatively straightforward. Assume you are getting a new car in a low-interest-rate environment and similar credit scores whether you are buying or leasing. About 30% of those getting a new car are leasing.
The Advantages And Disadvantages Of Leasing A Car:
There are lower upfront costs requiring a security deposit and usually the first month’s payment. Payments for registration and taxes are needed for leasing and buying the car. When leasing, you will make lower monthly payments for the lease term. Your credit score influences the amount, favoring those with very good to excellent scores.
The manufacturer’s warranty covers most of the leased car’s repairs.
Depending on your term, you are getting the latest technology available in safety, entertainment, and comfort. Those who lease can get a new car every 2-3 years.
There are mileage limits on the car though you may be able to negotiate a bit.
You don’t own the car at the end of your lease. Gap insurance is an optional add-on car insurance covering the difference between the amount owed on a vehicle and its actual cash value in the unforeseen event it is totaled or stolen. When returning the leased car, you may have to pay for excessive maintenance, wear and tear costs.
End-of-lease costs can be a bit shocking when returning the car. When we finished our lease recently, we were quite surprised at some of the hidden fees discussed when we initiated the lease. We incurred costs close to $1,000 to the lessor to reimburse them for taxes to the local municipality. These fees were relatively new to us, causing dismay. This lease was likely our final one.
Advantages and Disadvantages Of Buying A Car:
Higher upfront costs, including down payment and trade-in, if you have another car. Of course, the more the upfronts costs, the lower your monthly expenses.
Owning presents higher monthly costs than leasing, depending on term length. According to ValuePenguin, the national average of US auto loans is 4.37% in 60 months, though in recent years, buyers have increasingly extended their loan terms to 72 months, with 84 months gaining popularity. The longer the loan, the higher the total interest you are adding to the car’s cost. Experian has reported that new car buyers with the highest credit scores have average loans of 63 months versus those with the lowest scores taking out loans of 72 months.
As you own the car, there are no restrictions on mileage or what tires you want. While you can resell your vehicle, keep in mind that it is a depreciable asset that loses value in the early years and is impacted by mileage long term.
The tradeoff on buying or leasing a car is similar to owning or renting your home. A third option to buying or leasing a new car is buying a certified used car. Depending on its age and mileage, it may have remaining time left on the manufacturer’s warranty. After purchasing and leasing cars for years, we recently chose this third option. We paid cash for a 4-year-old certified Subaru as a second car, given its strong reputation for longevity. We are tremendously happy with it.
Spending vs. Saving
This money tradeoff’s concern is that it ignores the need to temper spending in favor of saving money. If you spend more than you earn, you either will be withdrawing from your savings and investment accounts or, worse, borrowing to pay for your purchases. On the other hand, if you spend less than you earn, you can better afford your living costs and enjoy life. Having money left over to build an emergency fund, save for retirement, and make investments provides you with more options over the long term.
Adopt an attitude that allows you to enjoy life but not be so costly that you can’t afford your bills. Avoid lifestyle inflation, which comes about when your earnings rise, and you increase your spending. The more you can delay spending and reduce impulse buying, the better your financial health. Many experiences are free, healthy, and worthwhile pursuits. Make room in your budget for a solid emergency fund, pay off your debts to manageable levels, and save for retirement.
Emergency Fund Vs. Debt Payoffs
You should be put savings aside for an emergency fund to cover at least six months of essential living costs. This habit will eliminate the stress of the unknown and reduce your need to abuse your credit card. Many people lack $1,000 in savings to pay for unforeseen costs like a job loss, an emergency surgery for a favored pet, or a damaged car. Having to pay for these costs often leads to higher debt, especially credit card debt with higher interest costs. Set small savings amounts aside earmarked specifically for an ample emergency fund and invest this money in a readily accessible liquid account.
Paralleling these savings, you need to pay your monthly student loans and your credit card bills. If you can’t pay your credit card balances in full, reduce your spending. It is easier said than done. However, committing to keeping debt at a manageable level is critical.
Saving For College Or Retirement: A Tough Choice
When faced with helping your children with their college funding or tapping your retirement money, it becomes a tough choice you don’t have to make. If you are in your 50s or more, you should not touch your retirement account. True, you want to avoid burdening your kids with student loans early in their lives. The average student loan is $31,172, a significant amount of debt to carry. However, they have the benefit of a longer-term horizon than you.
As a young couple, your earnings are rising through your 20s, 30s, and beyond. To avoid having to make a difficult choice, later on, save, and invest now. These are the years you should make your money work for your future. It may mean spending less now, so you have more money to address critical areas of your lives later consciously. These involve essential trade-offs.
Don’t ignore what you can do now to provide plenty of benefits to you and your family long term. Handling money allocation into key baskets for college funding, retirement, and investments early will improve your financial outlook.
Save For College Early Using A 529 Savings Plan
When you expect a child, put aside some money into a 529 Savings Plan or other plans you can read about here. You get tax benefits using pretax money invested in several options based on your preferences. The more money you can put into these funds, the greater likelihood of lower borrowing in your children’s college years. Most states have their plans and have a lot of investment choices. Prioritize saving early in your child’s life so that you don’t have to borrow from your retirement funds.
Retirement Savings In Your 20s
You should begin to save for retirement as soon as you enter the workforce, if not before. Most employers offer 401K retirement plans that make it easy to fund your account through your paychecks. Automating these payments is simple though it may require an opt-in process. Setting this up at work is among the first things you should do when you start your first job.
Many employers will contribute to your retirement account based on a pre-determined match formula. For example, if you save a targeted percentage of 6% of your paycheck to your company-sponsored retirement plan, they may add 50% of that amount or an additional 3% of the money to your account. Separately, you should also set up an IRA or a Roth IRA and focus on contributing up to the maximum amount allowed.
Saving for retirement in your 20s allows you to have a sizable nest egg with compounding returns when you are ready to move to the next stage of life. On the other hand, catching up to saving for retirement in your 50s, while possible, is very difficult. It may mean working longer or tapering down your lifestyle in your later years. The risk you have of waiting too long to accumulate retirement money is that of losing your job in your 50s or if, for health reasons, you no longer can work.
Facing these tradeoffs head-on and early in life create a lot of flexibility and freedom in your later years. Make your money and time work for you as productively as possible. It is easier to sacrifice some choices for the more significant wallet needed later on. Long-term comfort in retirement is a worthwhile aim.
Making tradeoffs that consider time and money may be intuitive or involve financial calculations balanced with your financial priorities. Addressing many major decisions early in life may provide you with financial flexibility and the freedom to choose an array of lifestyle options. The more you delay thinking about your choices, the harder the trade-offs you have to make. Your 20s and 30s are golden times to tackle savings as your earnings rise. Avoid finding more things to spend on that don’t positively add to your comforts.
Thank you for reading! Please visit us at The Cents of Money to see other such posts and subscribe to our weekly newsletter.
What kind of tradeoffs have you been facing? Did your choices involve your lifestyle or career? We would love to hear from you!
With a passion for investing and personal finance, I began The Cents of Money to help and teach others. My experience as an equity analyst, professor, and mom provide me with unique insights about money and wealth creation and a desire to share with you.