Top Ten Financial Mistakes
Top Ten Financial Mistakes
On Monday I talked about forgiving yourself for financial mistakes that you have made in the past, and I also shared that every financial mistake can be fixed, so you should not spend too much time stressing over issues of the past. That being said, in case you were wondering what some of the worst financial mistakes I can imagine as a financial planner, here are some of them (For full disclosure, I see these ALL the time, and I see people fixing them all the time, so if you have made them, don't worry, just try not to keep making them.):
1) Credit Cards with High Utilization Rates
This is probably the most common financial mistake I see. When you are given a credit card, despite the fact that the credit card company is giving you a credit limit of $1,000, they really don’t want you to use $1,000. At any given moment, they would like to see you have somewhere between $350 and $500 on your credit card or only utilizing between 35% and 50% of your credit limit. Never think of your limit as your limit, you should always take at least 50% off of that and view that number as your limit.
2) No Healthcare
My friend John vented this week about the cost of providing healthcare for his family and it definitely sucks; however, it’s worse to not pay for it and have a medical emergency. The average hospital stay per day if you are uninsured is $8,300 or more than what it would cost to pay for a full year of health insurance, and this is only for one day. Medical bills can easily run out of control without healthcare coverage.
3) Poorly Funded Emergency Account
There are a number of rules of thumb on this one, but I like to see clients with 6 to 8 months of average monthly expenses in a readily accessible emergency account. So if you spend $2,000 a month, you should have a minimum of $12,000 in your emergency account. It does not all have to be sitting in a bank account, you can invest some and make your money work for you; however, you should have this money available in case something unexpected arises, and in my experience, something unexpected ALWAYS arises. Without a healthy emergency account, you are looking at running up debt or depleting retirement savings, or the worst case scenario, asking your family for help. No one wants any of these outcomes.
4) Buying or Leasing a Car with Poor Credit
Before you even think about financing a car, please check your credit score. I like Credit Karma, but there are many other free sites that will give you an idea of what your score looks like. If you have a credit score below 700, think about delaying your car purchase until you can work on getting your score higher. Your poor credit could cost you an additional $160 per month in interest costs, which means over one year this is $1,920 and assuming a four year loan, this would mean $7,680 in additional interest costs just because of your credit. At this point, you could have paid for a car in cash with what you paid in financing charges.
5) Buying a Home Without 20% Down Payment
Post 2008, it has now become very difficult to even buy a home without putting 20% down; however, if you somehow have the ability to purchase your home for less money down, I hope you do not take it. Even if you plan to live in your home forever, you never know what might happen in life, and the 20% gives you a buffer for market fluctuations and closing costs should you have to sell your home sooner than you imagine.The less equity you have in your home, the less flexibility you have in selling your home when the time comes. Not to mention the fact that you will have to pay PMI or private mortgage insurance which you have to pay; however, you get no benefit, as it only protects the lender.
6) Not Being Financially Prepared for Your Child
We have 9 months to plan for the arrival of a child and in those 9 months, you should not just think about the nursery and stocking up on diapers. After a child is born, you should expect your finances to rise, on average (depending on your child care option), $1,000 per month. This is a big chunk of change and the best way you can prepare is to start saving this amount as soon as you get two pink lines on your pregnancy test. Then by the time the baby arrives, you have a $9,000 baby emergency fund and you have adjusted your lifestyle to living without that extra income.
7) A High Debt to Income Ratio
Your debt to income ratio is the amount of monthly debt you have to pay over the amount of income you receive. This number should be as low as possible, and a good target is 35%. Therefore, if you make $3,000 a month, you should pay out no more than $1,050 in monthly debt payments (mortgages, credit cards, student loans, car loans, etc).I have seen people get approved for mortgages with a DTI of around 50%; however, I advise you to not allow that to happen. The more debt you take on, the more you rely on your salary and the less flexibility you have if some unforeseen job event should arise.
8) Not Getting a Credit Card
I have seen a number of clients who relied solely on student loan debt to fund college expenses, were then overwhelmed by the size when they graduated, that they never bothered to apply for a credit card. I have also seen clients who were just too scared to get a card because of fear they would ruin their credit before they started.I know that credit cards can be seen as the enemy; however, they are probably the best tool that you will have in building your credit history and the sooner you start, the better. A good credit score will save you money on anything from a mortgage, to a car loan to life insurance.
9) Taking Out Too Much Student Loan Debt
This is a problem that usually arises when you go to graduate school and you are allowed to take out living costs in your student loans. If you are taking out loans to fund graduate school and your cost of living, you need to make sure your cost of living is not beyond what is reasonable. While you are in graduate school, you should never assume that it’s okay to go to fancy dinners or take vacations and live excessively. The more debt you take out, the more headaches you have down the road. Revert back to your undergrad days and embrace ramen and cheap beer!
10) Using Your Credit Card When You Don’t Have the Money
Credit cards can lead to a number of problems, but it is not the card’s fault, it’s the user’s fault. If you are making a purchase with your credit card and you do not have the funds to pay for that purchase immediately, then you should not be using the card. I see a number of people buy with money they don’t have yet, assuming they will have the money down the road; however, they just create a slippery slope of credit card spending that is difficult to overcome later on. If you can’t use your debit card to make a purchase, then you shouldn’t use your credit card.Image Source: FreeDigitalPhotos.net Winnond