Four Financial Rookie Mistakes
When you're starting out, you may not make the smartest choices with your money because you simply don't know better.
Wallowing in ignorance can be costly. But learning to manage your money well will pay dividends for the rest of your life. Wise up by avoiding these four common financial gaffes:
1. Procrastinating. Don't be a slacker. In school, there may have been extra credit to make up for laziness, but you'll get no such break in the real world. Stop the procrastination habit now.
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Putting off the task of learning to manage your money carries costly consequences.
Fail to start investing soon and you'll miss out on years of compound interest. (Get started!)
Don't keep a budget and you could sacrifice control of your spending. (Get started!)
Buy now with the intent to pay off later and you'll dig a debt hole that’s tough to climb out of. (Get started!)
Pay your bills late and you could damage your credit score. (Get started!)
Put off saving money in a rainy day fund and you could be caught unprepared in a personal emergency. (Get started!)
2. Not diversifying. As a college student, in 1999 I started managing my own investments. Despite pressure from my young-adult friends and family to invest in the tech boom, I timidly divided my money among different types of mutual funds -- including a bond fund.
I didn't know much about investing at the time, and I endured much ribbing over my "ignorance" -- my friends compared my investing style to that of a 90-year-old woman. But I didn't feel comfortable putting all my eggs into one basket, even if it was a "sure thing." I admitted I was chicken -- and everyone took great pleasure in agreeing.
Turns out I wasn't chicken -- I was smart. Within months the tech bubble burst, taking the market down with it. Some of my friends and family lost as much as 60% of their money. My conservative investments took a relatively tiny dip and soon recovered. No, I didn't have some mystical foresight of what was soon to come. I had a gut feeling that spreading out my risk was the road to long-term success. Who has the last laugh now?
Diversifying can help you avoid chasing the latest fad and overcome financial peer pressure. See Diversify Your Investments Instantly to learn more.
3. Paying too much in taxes. If you're not investing in a Roth IRA or 401(k) -- or both -- you are paying Uncle Sam too much. The money you put in a Roth IRA, for instance, grows absolutely tax-free. You don’t have to pay a dime on any cash you withdraw in retirement. A 401(k), offered through many workplaces, is another sweet deal. You make contributions to this retirement account before taxes, reducing the amount of income Uncle Sam can get his hands on. You don't pay taxes on earnings now -- you pay later when you withdraw your 401(k) money in retirement. (Your employer may offer a match on your 401(k) contributions -- that's free money. Not taking advantage of that would be another big rookie mistake.)
The idea of saving on your taxes may seem a tad obscure, but it really can pay off big. Say a 25-year-old contributes $5,000 each year for 40 years to an investment account, making an average annual return of 8%. If she used a taxable account, she'd have more than one-fourth less money than if she'd gone with the Roth. (Use this calculator to see how far your savings can take you. Enter "0" in the tax-rate boxes to simulate the tax-exempt status of a Roth IRA.)
And speaking of taxes, did you get a big refund for 2008? That means you let the government take too much money from your paycheck all year long.
When you start a job, you fill out Form W-4, which tells the government how much tax to withhold from your pay. You can file a new W-4 with your employer at any time to adjust that withholding and put your refund money back in your pocket throughout the year. Use our easy calculator for help filling out the form and to find out how much money you can keep each month.
4. Going into debt. You're probably not going to inhabit the corner office at work, drive a fancy car or have a house full of nice things when you're starting out -- at least not without going into debt to pull off the charade. Too many young adults are content to spend their lives in bondage because they get antsy to live a better lifestyle. Repeat after me: Debt is not a way of life!
When you're in debt, you limit your options, and you have less control over your money and your future. You're forced to fork over interest to the bank or credit-card company instead of investing the money for your future. (See Young and Restless for Success for help overcoming feelings of financial jealousy).
Ideally, you should only incur debt for things that appreciate in value, such as a home or an education. And even then, you should pay off your obligations as soon as you can. See When is it Worth Going Into Debt? to learn more.