Learns who are you really borrowing from warns Limerick financial planner

When you want to buy something, particularly something with a big price tag, you have two options with how you can finance the purchase.
You can use your existing savings or if you don’t have enough or you’re not prepared to use them, you can borrow the money instead.
And if you do end up borrowing the funds, who do you think you are entering into a loan agreement with?
The majority of people I think would say, it’s with a bank or a credit union or whoever agreed to give them the money in the first place and of course they are correct. But there are those who look at it differently, me being one of them and argue that the agreement isn’t really between you and a financial institution at all, they are just a by-product of the purchase.
Yes, you got the money from them but you are really borrowing money from yourself, your future self to be exact.

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Let me explain further and explain to you what I mean.
I met someone about a month ago who had just signed a lease agreement to buy a new car. The rate was 8% and the loan repayments were €468 per month. She didn’t have enough cash to fund the purchase so she ended up financing it through her bank.
She did have enough money to buy a second-hand car though and could have bought one with cash for about €8,000 but she chose not to.
Anyway, she didn’t think much about the transaction or what implications it could have for her in the future. She was young and it was hard to see beyond the next five years not to mind the next 30 so she couldn’t see how a car repayment of €468 per month would have any impact on her income or quality of life when she was older.
However, what her present self was doing by making those payments to a car finance company was taking away a possible €886,152 from her future 65-year old self because that is what she would have accumulated if she diverted the €468 car repayment to her pension instead.
Let me give you the math on that number.
If she invested €468, the amount that would have gone into her pension fund would have been €780. Because when you factor in tax relief at 40%, the €780 going into her account would cost her €468.
That €780 invested over 35 years at an average return of 5% = €886,152
The 30-year old was taking €35,446 per year away from the 65-year old because that’s what €886,152 would pay her each year at 65.
I am assuming of course that she would have continued to make those repayments for the next 35 years and she may not and if she did they may not be as big as they are now. And I don’t know whether this girl would still have had a great financial future if she continued making car loan repayments or if she saved the money instead. It’s hard to look into the future and predict what things will be like, but what I do know is that she is giving herself a much better chance of a secure and comfortable future if she did.
Without a doubt though the choices we make today will shape what our future life will become and what options we are giving ourselves. And this applies to many other areas of our lives, like our health, our career, our relationship with family etc.
When it comes to any sort of decision making there is always an internal tug of war between our present and future selves. Our present self wants that short term fix of immediate gratification and in fairness we can’t help it because we are wired that way, but living in the now can be a dangerous strategy. Ideally what we want to achieve is a happy medium where our present and future self, coexist together in a way that satisfies both.
And doing something with an eye to the future doesn’t have to mean you make big sacrifices and end up miserable today either. That girl can still buy a nice car and enjoy it and save for the future as well.
But what you have got to consider and be aware of is that whenever you are tempted to enter into an agreement that locks away part of what you earn each month, take a step back and think about what you are doing.
Think about whether that money will impact your future quality of life. Will it hinder it, or will it have no impact? At least when you know the potential outcomes, you can then decide.

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A number of behavioural economists have been looking at this area in great detail to see what could influence and help people from making decisions that allow them to enjoy the present whilst setting themselves up for success in the future. Daniel Goldstein is one of them and he outlined in an excellent TED talk given in December 2011, how things like commitment devices i.e. locking away your credit card until you pay off what you owe, setting up a budget and sticking to it, help keep you accountable and on track.
Goldstein’s research has discovered that visualisation tactics help as well where computer programs help people see the impact current decisions will make on their future self. It shows a person's face ageing with various degrees of happiness based on their financial security. Another program shows images of different types of living accommodation you can secure based on different levels of income in retirement. And looking into the future and seeing what that might look like, influences people’s behaviour in the present.
If that girl I met was to look back when she is 65 and maybe, and I emphasise maybe, is struggling to make ends meet and looks at her 30- year old self making those repayments, I think she may regret what she did. And I encounter people like this all the time who are close to or in retirement who tell me the reason they are now struggling isn’t specifically because of difficult economic periods, they’re struggling because of the money they blew when it was available and surplus to requirements in good times, but rather than save some of it for when they were older, they spent it on their themselves instead.
I don’t think that putting your future-self first all the time will be the difference between success and failure for you. But from a financial perspective knowing the difference between your present and future self is important. I know it’s hard to imagine and hard to link the two and it may not become obvious for some time, but the people who recognise it now are those who will be able to create that happy balance of enjoying the present but having one eye on the future as well.

Liam Croke is MD of Harmonics Financial Ltd, based in Plassey. He can be contacted at liam@harmonics.ie