5 Savings Mistakes People Make When Building Their Financial Life
By Kunyi Yang
The road to financial independence is not easy, and usually requires patience and diligence from the start.
For young people still trying to establish their careers, focusing on retirement or saving for the future may not seem like a top priority. But making the wrong money moves early on can be costly.
Here are the five most common mistakes young adults make when building their financial lives:
1. Waiting too long to start saving for retirement
Planning for retirement means finding a balance between saving money for later and having enough to pay for things now. But financial planners warn that the price of delay can be high.
Thanks to compound interest, even modest amounts of savings will grow exponentially over longer periods of time.
For example, someone who started saving $100 a month at age 25 could grow their money to around $150,000 by age 65, with a rate of return of 5%. Meanwhile, if you wait until age 35 to start saving $100 a month, you’ll end up with a little more than half as much money at retirement age.
But most people don’t start early enough to take advantage of this compound interest factor.
In a recent Natixis report, 60% of respondents said they would have to work longer than expected to retire, and 40% said it would “take a miracle” for them to retire in completely safe.
“Some people delay contributing to retirement because they still have student debt, but a bigger reason is that they think retirement is a long way off, but if they wait too long to start, they may have to be catching up or planning for later retirement,” said Jay Lee, Certified Financial Planner at Ballaster Financial.
2. Not Maximizing a 401(k)
A common mistake young workers make is not taking full advantage of their 401(k). Although retirement may seem a long way off, investing in a tax-efficient retirement savings plan like a 401(k) can give you more leeway to achieve other financial goals.
Plus, you could be leaving money on the table if your employer offers matching contributions.
“Many employers match contributions a 401(k), which means the maximum can significantly increase the money in your account,” Lee said, “And because contributing to a 401(k) is tax deductible, it can leave you with more money to invest or spend. ”
Besides a traditional 401(k), financial planners are also encouraging young adults to explore other options that might be better suited to them, such as a Roth 401(k), which does not initially offer a tax advantage, but is tax exempt when withdrawn. retired.
“A Roth 401(k) account might make more sense [for younger people] because they’re usually in a lower tax bracket than when they retire,” said Lamar Watson, a licensed financial planner based in Reston, Virginia.
3. Falling victim to lifestyle inflation
“Lifestyle inflation” or “lifestyle creep” occurs when people begin to perceive old luxuries as necessities.
“Social media creates the desire to follow others,” said Nick Reilly, a Seattle-based certified financial planner. “The fear of missing out, combined with an ‘I’ve earned it’ mentality, has led more Millennials to spend most of their income on things that provide short-term status and fulfillment.”
Young adults typically underestimate how much they can save on rent and food and how overspending can seriously derail other financial plans.
“Living in a walk-up apartment versus a building with elevators probably won’t feel all that different when you’re young, but it can save you a lot of money,” Watson said. He suggests keeping rent below 25% of your gross monthly income and food expenses below 15%.
4. Not having enough emergency savings
Emergency funds can be a lifesaver if you lose your job, become too sick to work, or have other unexpected bills to cover. However, young people can sometimes be overconfident and ignore these risks.
“It’s no surprise to see young adults without any emergency funds,” Lee said, “which is concerning because it’s a big financial buffer and can keep you from getting into more debt.”
Lee said any amount is a good starting point, but typically singles need to set aside six months of expenses for emergencies. For couples with two incomes, the amount must be at least three months.
5. Holding too many volatile assets like cryptocurrencies
While new investments like NFTs, meme stocks, SPACs, and cryptocurrencies can offer attractive growth potential, neglecting their volatility can seriously jeopardize your financial health.
“Thanks to social media, chances are everyone knows someone who got rich quick from at least one of these opportunities,” Reilly said.
Some financial planners also call this the “shining object syndrome”. High-risk, high-volatility investments are increasingly attractive to young investors looking to build wealth quickly and can make long-term, more established methods of wealth building, such as stocks, boring.
“But it’s extremely dangerous to put all your money in high-risk assets like NFTs or cryptocurrencies,” Watson said, “When it comes to financial planning, it’s more about preparing for the worst than seek the highest yield.”
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