Striking out on your own for the first time is exciting, and many young adults are overwhelmed with choices of where to live, what to eat, and, generally, what to spend their money on. Without the extra costs of a mortgage, kids, retirement, etc., they mistakenly think that their entire paycheck is fair game.
That, coupled with the fact that many young adults never learned the basics of personal finance growing up, means that many financial mistakes can happen. Here are some mistakes to avoid when entering your adult years.
Paying Too Much for Rent
The biggest expense for a young adult is rent. Many young adults don’t have any clue how much they should spend on rent, and could be drawn in by big apartments or fancy amenities that they don’t need.
When looking for a place to rent, make sure you aren’t spending more than 30% of your monthly salary on rent, otherwise you could get into a financial jam. Set a limit before you even start looking for a place to live, and don’t go over that set price. Your future self will thank you for showing some restraint.
Failing to Set a Budget
A social life is a big part of a young adult’s life, but eating out, going to bars and meeting friends for movies, concerts or weekends away can get expensive.
For expenses like food, entertainment, travel, etc., make sure to have a budget in place so that you aren’t overspending. Many banks, as well as a few apps like Mint, will actually track your spending for you, so you can see how much you are spending on, say, eating out.
Misunderstanding Credit
Credit is something that dictates our entire financial future, but many young adults don’t monitor their credit. Credit scores are used to determine how the cost of insurance, rent, or a mortgage, and can even prevent you from getting approved for loans or rentals.
Having a healthy credit score is essential, so here are three things to keep in mind when trying to build up your credit score.
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You need credit to build credit.
Many young adults are afraid of credit cards or don’t understand how they work, so they avoid them. If you don’t use a credit card, however, you essentially have no credit, which means a low credit score. Showing lenders that you know how to use credit makes you more trustworthy when it comes to being approved for loans and credit. Also, make sure you have a diversified credit portfolio beyond credit cards, with things like student loans and mortgages.
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Pay your bills on time. Always.
One of the main factors in your credit score is your credit history, which essentially tracks if you pay your bills or not. Any time you miss a monthly payment, you hurt your credit score. Even missing a payment or two can negatively impact your credit score.
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Zero out your credit card debt every month.
Make sure you are paying your entire credit card balance every month. One of the main factors of your credit score is your credit utilization ratio, which determines how much credit you are using. If you have an overall credit limit of $2,000, and you have a balance of $1,000, your credit utilization ratio is 50%. The lower your ratio, the higher your credit score. Paying off your balance also saves you from having to pay unnecessary interest on your balance.
Not Investing in Your Retirement
When you get your first job in your early 20s, it may seem like retirement is a long way off, and you have plenty of time to prepare later. While this is technically true, investing early can actually help you in the long run. Since investing returns dividends exponentially, if you invest just $10,000 when you are 22, you could have, at minimum, around $100,000 at retirement, even if you never invest another dime. It’s harder to get that kind of compound interest the closer you get to retirement.
Also, many companies will match whatever you contribute to your 401k, up to a certain amount. That is basically free money that you would be throwing away if you don’t contribute. Don’t have a 401k option? Look into an IRA investing account.
Keeping Things in Perspective
While being responsible is never fun, setting your financial future early can save you a lot of headaches as you get older. Having a sound financial plan can also help you more easily achieve the things you want in life, whether it’s a trip to South Africa or retiring at 55. Starting your financial adulthood on the right foot can open many doors for you in the future.