If you're under 30 and already planning for your financial
future, you're ahead of the pack. Basically, at this point in
your life, you should think of your personal finances as a
company's balance sheet. You need to maximize your assets by
saving and investing, and control your liabilities by using
credit and debt responsibly.
Here are three simple yet important personal finance tips to
adopt while you're young. If you can get these three things right
early on, you'll be well on your way to a bright financial
Know where you want to be
The best thing you can do is set goals for yourself. If you're
just aimlessly saving money whenever it's convenient, it's easy
to break that habit.
Your goals don't need to be incredibly specific, but they
should be clearly defined and reasonable. For example, "I want to
open an IRA and contribute $3,000 this year" is a far better goal
than "I want to get better at saving money."
You should set specific goals related not only to savings, but
also to debt ("I want to pay down 50% of my credit card debt this
year"), spending ("I want to spend 20% less eating out"), and any
other aspect of your financial life you need to get in order.
Use the right kind of debt
Before you start saving money or investing, you have to get
your debt in order. Not all debts are created equal, and there
are three main types.
The best kind is debt with low interest that finances
something that will (or should) increase in value over time, aka
an "appreciating asset." A mortgage on a home is the most common
example of this. A loan that you've taken out to start or expand
your own business can also qualify as good debt.
The second category, which I like to call "acceptable" debt,
carries relatively low interest and finances something
worthwhile, like a car. A car gets you to work, allowing you to
earn money, so it's an acceptable form of debt to have. Student
loan debt also falls into this category. It's a relatively
low-interest "means to an end."
Finally, bad debt is what we want to avoid. This includes
high-interest and unnecessary debt, particularly credit cards.
Credit cards can charge interest rates well in excess of 20%, and
"starter" cards designed for younger people tend to charge some
of the highest rates.
Even if you're an excellent investor and can earn consistent
10% annual returns on your investments, you'll still be losing
money overall if you have high-interest credit card debt. Paying
off your credit card balances should be priority No. 1, and it
doesn't make sense to invest any new money until your debt is in
It's generally fine to invest while you're paying down the
"good" kinds of debt, so long as your interest rate is reasonably
low and you don't foresee any trouble making payments on your
loans. If you can borrow money to buy a house at 4% and your
investments average a respectable 8% annual return, you'll come
out ahead in the end.
Use your biggest investment weapon
As a younger investor, you have a powerful tool at your
disposal: time. The power of compound interest has been referred
to as "the eighth wonder of the world," and it truly is. You also
have the power to let your money compound tax-free in an IRA or
If your employer offers a 401(k) with matching contributions,
that should be your top priority. Contribute as much money as
your employer is willing to match. After you've maxed out your
employer match, an IRA is a good choice for any extra savings, as
it gives you a much wider range of investment options to take
advantage of. There are two main types of IRAs: traditional and
for a thorough discussion of how each type works. Both 401(k)s
and IRAs allow your money to compound tax-free, which lets you
take full advantage of the power of compound interest.
Let's say you want to retire with $1 million in the bank at
age 65. Your goal may be higher or lower, but let's stick with a
nice round number for the purposes of this example. We'll also
assume your investments will appreciate at an average of 8%
annually, which is actually conservative on a historical
If you start investing in an IRA or 401(k) at 25, you'll need
to contribute $322 per month in order to achieve your
million-dollar goal by retirement. If you wait until you're 30 to
start, your monthly savings requirement jumps to $484. Starting
at 35, you'll need to contribute $735 per month, or 2.3 times the
savings you would need if you started at 25. This demonstrates
the incredible power of compound investment returns, and you need
to use it to your advantage.
A final thought
The average American between the ages of 25 and 32 has $12,000
in retirement savings, and the average 33- to 44-year-old has
$61,000. According to
, the average 65-year-old needs 11 times his or her annual salary
in order to retire comfortably and make their money last, so you
should aim to save much more than average.
If you simply follow these easy personal finance tips, you
should be able to easily surpass those figures and set yourself
on the path to financial freedom. The most foolproof way to
create a stable future is to take control of your financial
destiny and save for yourself. That way, any other sources of
income down the road, like Social Security, should seem like a
nice supplement to your personal nest egg and will not dictate
your standard of living as you get older.
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3 Personal Finance Tips for 20-Somethings
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