Personal Finance 101: Money today versus money tomorrow, which is worth more?

Personal Finance 101: Money today versus money tomorrow, which is worth more?

Pay Now or Pay Later? Property is not the same as Buy Now, Pay Later

Last week, a young friend (as in early 30s) asked me if he should quickly pay up his home loan so as to reduce interest payment or just follow the monthly repayment until the end of the 30 year period. I told him that there is no right answer to this question because it depends on many circumstances. However, the typical advice is to save on interest payment. So that means pay everything as early as possible to save on interest payment.

However, on the other hand, it also depends on whether he has any other investments which he wanted to invest which could provide to him a better return than the interest he was being charged for his home loan? If there are options where the returns are higher, then he could also decide to invest versus just using it to pay for his home loan. If he has no other options, then perhaps paying up his home loan faster is an option.

As for the the value of money, read on.

#1 – According to Investopedia, Understanding the Time Value of Money

• The time value of money is a financial principle that states the value of a dollar today is worth more than the value of a dollar in the future.

— end of explanation on time value of money — Feel free to read the whole explanation here: Investopedia, Understanding the Time Value of Money

What the above statement says if we change it to ringgit versus dollar is that RM2,000 today is worth MORE than the RM2,000 in the future. Need another example? When I was younger, receiving a RM2 angpow is perfectly fine! Today, if I receive a RM2 angpow, I will quickly tell myself to appreciate the gesture and not the value of the RM2 instead!

#2 – According to Investopedia: What Is Present Value in Finance, and How Is It Calculated?

• Present value states that an amount of money today is worth more than the same amount in the future.
• In other words, present value shows that money received in the future is not worth as much as an equal amount received today.

— end of explanation on the present value (of money) —

What the above tells us is that the present value of money is DEFINITELY worth more than in the future. In other words, if someone is to pay you RM2,000 today, you will be by far happier versus if the same person pays you the same amount of RM2,000 10 years in the future. Tell me, if someone owes you RM2,000 and they say they want to pay you 10 years later, would you still accept the same RM2,000 or would you tell them that they must pay you more?

#3 – It’s all about the Opportunity Cost. According to Investopedia:

• Opportunity cost is the forgone benefit that would have been derived from an option other than the one that was chosen.
• To properly evaluate opportunity costs, the costs and benefits of every option available must be considered and weighed against the others.
• Considering potential opportunity costs can guide individuals and organizations to more profitable decision making.

— end of the explanation on opportunity cost —

RM450,000 loan but RM800,000 by the time the mortgage payment ends in 30 years!

Just need to look at the image below to understand why that RM450,000 loan will become RM800,000 by the end of the period. Principal payment is RM450,000 which is your loan amount. Meanwhile interest alone is RM347,000. Thus total paid to the bank for this loan is RM450,000 + RM347,000 = RM797,000 or around RM800,000. This is the reason we should not buy a property then? It’s better to rent then? the below stops AFTER 30 years. Renting meanwhile regardless of how cheap it is will be forever.

Monthly repayment for this RM450,000 loan is RM2,214 per month. At the first year, only 28% of this amount goes to principal while 72% goes to interest. Wow… tough life indeed. However, this RM2,214 stays the SAME… by the 10th year, this RM2,214 will become easier. By 15th year, assuming your salary only doubled after 15 years, this RM2,214 is becoming smaller. By 20th year, with your 20 years increments, this RM2,214 is really nothing every month to you.

Now imagine… if you pay rental of RM2,000 per month today. What’s the likelihood that this rental would stay the SAME for 10 years, 15 years or even 25 years? Same rental??!! 🙂 Your landlord is a very nice person. Please do not move out and please continue to rent and stay at his / her home.

It’s your decision yeah. Everyone has their own circumstances

Do not over-stretch just to buy a property. The same applies to buying a car. Do not over-stretch just because you want to show off. The same applies to buying a smartphone. If you need a 36 months installment to buy that smartphone, it’s better to rethink because that’s not a financially smart decision to do. However, if we fail to grasp the value of money, then we will have to make sure we are earning by far more money than what an investment could bring us. Look at Elon Musk or Warren Buffet… both of them never needed to do property investment. Happy understanding…

Please do share if you believe others could benefit too. Thank you.

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