Unfortunately, personal finance has not yet become a required subject in high school or college, so you might be fairly clueless about how to manage your money when you’re out in the real world for the first time. I know when I graduated from college and got my first job making decent money, I thought I was rich. Still living at home, I was living it up, and not thinking about the future. I ensured I contributed to my 401K, and saved a decent amount of money, but I spent everything else. Cars, partying, food, alcohol, you name it, I was spending on it. Looking back, I should have been a little more controlled in my habits.
To help you get started, in this article, we will take a look at eight of the most important things to understand about money if you want to live a comfortable and prosperous life.
If you’re lucky, your parents taught you this skill when you were a kid. If not, keep in mind that the sooner you learn the fine art of delaying gratification, the sooner you’ll find it easy to keep your finances in order. Although you can effortlessly purchase an item on credit the minute you want it, it’s better to wait until you’ve actually saved up the money. Do you really want to pay interest on a pair of jeans or a box of cereal? If you follow the habits of Dave Ramsey, he’ll tell you, if you can’t pay cash for it, you can’t afford it. This is great advice. Living in the credit card age, or debit cards for that matter, have made us a lot less careful about how we spend our money. I suggest physically taking the money out of the ATM for the week, for whatever your budget is, and spending the actual cash. Having cash in hand will make you think twice about spending $4 on that coffee.
Take Control of Your Own Financial Future
If you don’t learn to manage your own money, other people will find ways to (mis)manage it for you. Some of these people may be ill-intentioned, like unscrupulous commission-based financial planners. Others may be well-meaning, but may not know what they’re doing, like Grandma Betty who really wants you to buy a house even though you can only afford a treacherous adjustable-rate mortgage.
Instead of relying on others for advice, take charge and read a few basic books on personal finance. Once you’re armed with personal finance knowledge, don’t let anyone catch you off guard – whether it’s a significant other that slowly siphons your bank account or friends who want you to go out and blow tons of money with them every weekend. Understanding how money works is the first step toward making your money work for you. The Rich Dad Poor Dad series is a great start, so is attending a Financial Peace University summit by Dave Ramsey.
Know Where Your Money Goes
Once you’ve gone through a few personal finance books, you’ll realize how important it is to make sure your expenses aren’t exceeding your income. The best way to do this is by budgeting. Once you see how your morning java adds up over the course of a month, you’ll realize that making small, manageable changes in your everyday expenses can have just as big of an impact on your financial situation as getting a raise. In addition, keeping your recurring monthly expenses as low as possible will also save you big bucks over time. If you don’t waste your money on a posh apartment now, you might be able to afford a nice condo or a house before you know it. If you haven’t started already, there are some great resources available online, for FREE, that will help with budgeting your money, and seeing where it goes every month. We personally use Personal Capital. www.personalcapital.com, and find its interface and ability to track monthly spending habits a breeze. You can create budgets and get warnings if you are going over your allotment. In addition, you can sync all of your banking institution information to Personal Capital, and see a total financial picture of your net wealth. Mint is another great solution, if you don’t favor Personal Capital.
Start an Emergency Fund
One of personal finance’s oft-repeated mantras is “pay yourself first.” No matter how much you owe in student loans or credit card debt, and no matter how low your salary may seem, it’s wise to find some amount – any amount – of money in your budget to save in an emergency fund every month. Having money in savings to use for emergencies can really keep you out of trouble financially and help you sleep better at night. Also, if you get into the habit of saving money and treating it as a non-negotiable monthly “expense,” pretty soon you’ll have more than just emergency money saved up: you’ll have retirement money, vacation money and even money for a home down payment. Don’t just sock away this money under your mattress; put it in a high-interest online savings account, a certificate of deposit or a money market account. Otherwise, inflation will erode the value of your savings.
This peace of advice is critical. You never know when something will come up. We try and save 5% every month, and put it into an emergency account with our Financial Adviser. The money goes into a protected money market account, that makes little interest, but some is better than nothing, and its relatively sheltered from market volatility. We recently had to use this emergency account when our A/C unit for our house decided to quit working.
Just as you headed off to kindergarten with your parents’ hope to prepare you for success in a world that seemed eons away, you need to prepare for your retirement well in advance. Because of the way compound interest works, the sooner you start saving, the less principal you’ll have to invest to end up with the amount you need to retire and the sooner you’ll be able to call working an “option” rather than a “necessity.”
Company-sponsored retirement plans are a particularly great choice because you get to put in pre-tax dollars and the contribution limits tend to be high (much more than you can contribute to an individual retirement plan). Also, companies will often match part of your contribution, which is like getting free money. Try to put in the MAX contribution you are allow to, typically up to 20% of your gross income. At a minimum, put in the full amount to get the maximum match from your employer. If you are able to, try to increase your contribution amount by 1% each year. That small 1% increase, due to compound interest, will make a big difference over time.
Get a Grip on Taxes
It’s important to understand how income taxes work even before you get your first paycheck. When a company offers you a starting salary, you need to know how to calculate whether that salary will give you enough money after taxes to meet your financial goals and obligations. Fortunately, there are plenty of online calculators that have taken the dirty work out of determining your own payroll taxes, such as Paycheck City. These calculators will show you your gross pay, how much goes to taxes and how much you’ll be left with, which is also known as net, or take-home pay.
For example, $35,000 a year in New York will leave you with around $26,399 after taxes without exemptions in 2016, or about $2,200 a month. By the same token, if you’re considering leaving one job for another in search of a salary increase, you’ll need to understand how your marginal tax rate will affect your raise and that a salary increase from $35,000 a year to $41,000 a year won’t give you an extra $6,000, or $500 per month – it will only give you an extra $4,144, or $345 per month (again, the amount will vary depending on your state of residence). Also, you’ll be better off in the long run if you learn to prepare your annual tax return yourself, as there is plenty of bad tax advice and misinformation floating around out there.
Guard Your Health
If meeting monthly health insurance premiums seems impossible, what will you do if you have to go to the emergency room, where a single visit for a minor injury like a broken bone can cost thousands of dollars? If you’re uninsured, don’t wait another day to apply for health insurance; it’s easier than you think to wind up in a car accident or trip down the stairs. You can save money by getting quotes from different insurance providers to find the lowest rates. Also, by taking daily steps now to keep yourself healthy, like eating fruits and vegetables, maintaining a healthy weight, exercising, not smoking, not consuming alcohol in excess, and even driving defensively, you’ll thank yourself down the road when you aren’t paying exorbitant medical bills.
Many employers now work with health insurers to provide programs and competitions that you can participate in, which will lower your month premiums. Gym memberships, Fitbit contests, and other events help to guard your health, while also guarding your wealth.
Guard Your Wealth
If you want to make sure that all of your hard-earned money doesn’t vanish, you’ll need to take steps to protect it. If you rent, get renter’s insurance to protect the contents of your place from events like burglary or fire. Disability-income insurance protects your greatest asset – the ability to earn an income – by providing you with a steady income if you ever become unable to work for an extended period of time due to illness or injury.
If you want help managing your money, find a fee-only financial planner to provide unbiased advice that’s in your best interest, rather than a commission-based financial advisor, who earns money when you sign up with the investments his or her company backs. You’ll also want to protect your money from taxes, which is easy to do with a retirement account, and inflation, which you can do by making sure that all of your money is earning interest through vehicles like high-interest savings accounts, money market funds, CDs, stocks, bonds and mutual funds.
Another suggestion, is estate planning. When we had our first child, we met with an attorney that was recommended by our Financial Advisor. The attorney helped us put together our estate, trusts, living wills, power of attorneys, and other documents that are critical to ensuring your estate is guarded against any unforeseen circumstances.
Remember, you don’t need any fancy degrees or special background to become an expert at managing your finances. If you use these eight financial rules for your life, you can be as personally prosperous as the guy with the hard-won MBA.