Today’s lesson on Financial Intelligence is darn simple! And like all simple lessons, we tend to IGNORE IT! I just want you to focus on the definitions of the two items above:
ASSETS: ____SOMETHING THAT PUTS MONEY INTO YOUR POCKET
LIABILITIES: SOMETHING THAT TAKES MONEY OUT OF YOUR POCKET
Got it! Yes, you say! Nothing could be simpler…
Yeah right, you only THINK you got it.
Let’s have a quick quiz and see how much do you really understand.
1. Which of the following is an Asset?
(a) Your car
(b) Your house
(c) Your collection of books / antiques / gadgets
(d) Your money in the Current Account
2. Which of the following is a Liability?
(a) Your car loan
(b) Your housing loan
(c) Your credit card loan
(d) Your loan to your brother-in-law
3. When is an Asset a Liability? [Fake Assets]
4. When is a Liability an Asset? [Fake Liabilities]
Make sure you have answered all the questions in the quiz first! Remember the definition of ASSETS AND LIABILITIES? Yes? All right, ready? Please highlight the text below and here we go:
1. NONE OF THEM
· Your car takes you to work so you don’t have to waste time waiting for the bus. However, does it put money into your pocket? No! It’s not an ASSET, period.
· By staying in your house, you save on your rental expense. But does it put money into your pocket? No!
· Sure, you might think your collections are priceless. However, your wife might think they are a pile of junk. Besides, is it really putting money into your pocket? If might give you loads of happiness, but NOT MONEY!
· Oooh…money in the Current Account! Surely that’s an asset right? WRONG! Your money in the Current Account doesn’t earn you a single SEN! It’s not an asset! It’s actually a liability because the banks are going to charge you banking charges to maintain your Current Account facility.
2. ALL OF THEM EXCEPT FOR (D)
· Sure, interest rates on car loans are cheap. For those of you who can afford posh cars, interest rates are approximately on 3% per annum or less. Hey, that’s cheap right. It’s lower than the Fixed Deposit rates of 3.70% per annum the bank are giving. Hmmm… let’s think about it again. By taking out a loan of say RM100K, you are paying the bank RM3,000 per annum. Wait a minute. Does the car loan fulfill the definition of a liability to you? Is it taking money out of your pocket? Yes! Then it’s a liability. Who cares what interest rates of Fixed Deposits are? What you should be concerned is how much you are donating to the bank from your monthly salary!
· Ooohhh, you are buying a house. So what, if you are taking out a HUMUNGOUS LOAN to buy the house, you say! It’s an asset right, so the HOUSING LOAN IS NOT A LIABILITY. Really? Let’s see, you took out a loan worth RM300K at an interest rate of 8% per annum to purchase that house. You are currently paying interest of RM24K per annum (or RM2K per month). Well, you rented out the house to your tenants for RM2K per month. That's before deducting the insurance, quit rent, legal fees, maintenance and repairs on your house. So, is the housing loan a liability? Why YES! It’s taking money out of your pocket isn’t it? Even though you can finance the housing loan with your rental income, what about the other expenses? You might argue: What about the CAPITAL GAINS on your house? Are you sure you will make a capital gain by selling the house? Just ignore that since you haven’t sold your house…like they say – don’t count your chickens until they are hatched.
· Your credit card loan! Ooohh, I just LOVE the banks motto! SPEND MORE, SAVE MORE! Now, that’s an OXYMORONIC statement that sounds so good! How can you save more by spending more? Here’s the bank’s logic: Spend RM5,000 a month and I’ll give you 500 points. You can cash the 500 points for a gift worth RM50. In the meantime, since you overspent your budget, you can't afford to pay your credit card on time. Pay interest on the credit card debt amounting to RM75 (RM5,000 * 18% * 1/12). Fantastic! Thank you for donating to our local banks and stimulating our economy. So, is your credit card loan taking money out your pocket? Yes? Well, it’s a liability then!
· Assuming your brother-in-law will eventually pay back the loan with INTEREST, is it an asset? Yes, it is! Is it a good asset? That depends on how much interest your brother-in-law is paying you. If he’s paying you less than the Fixed Deposit rate of 3.70%, then forget it! The banks will pay you automatically and it’s virtually risk free. Your brother-in-law may need numerous reminders and nudges before he finally pays up.
3. An Asset may become a liability once it STOPS putting money in your pocket. For instance, your loan to your brother-in-law may stop becoming an ASSET if he decides to stop paying back to you, your principal and interest. ALL ASSETS can become LIABILITIES, so you need to monitor your assets carefully, especially investments in shares.
4. A Liability may become an Asset once it stops taking money OUT of your pocket and puts money INTO your pocket. Example, if you move your money out of your Current Account into a Fixed Deposit, you start earning FD interest on it. Another example might be if you have an interested buyer in your antique collection and can sell to the buyer at a higher price than you bought it for.
Before you buy or spending unnecessarily, remember: BUY ASSETS! NOT LIABILITIES!