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It’s essential to get your finances in order if you aim to eliminate debt, go on amazing trips, or save for retirement. The challenge, however, is that many people don’t know where to begin or feel like they lack the time. If you only have one day, we’ve got your back.
Personal finance is largely about behavior, so we won’t claim this guide will make you a financial expert in a single day. Anyone who has successfully achieved financial security will tell you that forming the right habits takes time. Nevertheless, you can still make significant progress in a day. If you’re new to managing your finances, here’s how to get started.
Create a Practical Budget and Begin Saving for Unexpected Expenses
A lot of us struggle with budgeting because we approach it in the wrong way. We see it as a set of rigid rules that prevent us from spending money on things we enjoy. Let’s throw that idea out the window and start with the key question that many financial advisors ask their clients: Why?
What’s your reason for wanting to manage your money better? Maybe it’s to travel, support a family, or save for a career change—whatever it is, your answer will be the foundation of your budget. Rather than a set of restrictive rules, your budget becomes a spending plan that supports what matters to you, even if it’s just saving for a new laptop. It’s much easier to stick to a plan that works for you, rather than the other way around.
Next up, it’s time to choose a budgeting strategy. Here are some options:
The 50/20/30 Method: This traditional approach allocates 50 percent of your income to fixed expenses like rent or your phone bill, 30 percent to flexible spending such as groceries or dining out, and 20 percent to financial goals, like paying off student debt.
The Subtraction Method: This one’s simple. Total up your monthly expenses, then subtract that amount from your income, and set aside more for savings. Whatever remains is what you have left to spend each month.
Ramit Sethi’s Spending Plan: Personal finance expert Ramit Sethi offers a variation of the 50/20/30 method with more detail. According to Sethi, 50-60 percent of your take-home pay should go to fixed costs, 10 percent to retirement savings, 5-10 percent to other savings goals, and 20-35 percent to guilt-free spending.
After you select your method, budgeting essentially boils down to a few simple steps:
List all your expenses. (Make sure to include the occasional ones!)
Figure out your monthly net income.
Allocate your expenses into categories based on the method you chose.
Develop a system for tracking. We recommend budgeting tools like Mint and You Need a Budget. These platforms simplify the process, but you’ll need your bank account login info. Alternatively, you can use Excel too.
Be practical when setting your spending limits for each category. For instance, if you spend $600 a month on dining out, don’t expect to slash that to $50 in just one month. Chances are, you’ll fall back into your old dining habits, overshoot your budget, and abandon it altogether. Allow some breathing room for reality. If you need to reduce your spending, go ahead, but you’ll likely see better results if you ease into it gradually. As money site Femme Frugality advises, be generous with your budget and cautious with your spending. Put simply, it’s wiser to err on the side of caution and overestimate your expenditures.
Here’s another crucial point: an emergency fund is essential. This is a separate savings account you can dip into when the unexpected happens, like your car breaking down or your dog needing surgery. Without one, many people resort to desperate measures when life throws a curveball.
Most financial experts recommend having 3-6 months’ worth of expenses saved in your emergency fund, but that may seem daunting if you’re just starting to save. So, begin small: save $100, then a few hundred, then a thousand, and don’t stress about how much your emergency fund should be just yet. For now, focus on building a small cushion to cover you during tough times. If you don’t have one yet, make sure to include this goal in your budget.
Cut Costs on Every Bill You Can
As a personal finance enthusiast, one of my favorite tasks is going through my bills with a fine-tooth comb to find savings. We’ve done the legwork for you with our bill-by-bill savings guide to help reduce your monthly expenses. It’s definitely worth checking out to find potential savings on everything from your mobile bill to utilities and streaming subscriptions. Here are some common bills that many people overpay and how to save:
Cell phone plans: There are tons of discount options available these days, so if you haven’t shopped for a new plan recently, it’s a good idea to explore. To keep up with the competition, even larger carriers are offering more affordable options. Use WhistleOut to compare plans and find the best deal.
Credit card interest: Surprisingly, 78% of customers who call to negotiate a lower interest rate end up getting a better deal. Since interest compounds, it’s worth making that call. Here’s a script to guide you through the process.
Car insurance: Many insurers offer discounts for bundling policies. If you have renters or homeowners insurance with a different provider, reach out to your auto insurer to see if bundling could save you money.
Start with these three bills—you may be surprised at the savings. Then, go through all your other monthly bills and check for more opportunities to reduce costs. The best part? Once you’ve done the work, you’ll continue saving month after month without lifting a finger.
Create a Debt Repayment Strategy
If you’re carrying debt and don’t have a clear plan to pay it off, now’s the time to create one.
First, list all your debts. You can use a spreadsheet or simply jot them down. Make sure to include columns for balances, interest rates, and minimum payments. Next, review your budget to determine how much money you can allocate toward paying off your debt each month. Establish a general target for how much debt you want to eliminate every month.
Next, choose a debt elimination strategy. Some prefer the Stack method, which involves tackling the highest interest rate debts first, and then focusing on the lower interest ones. If you have several smaller debts, though, the Snowball method might be more your style, as it prioritizes paying off debts with the smallest balances first. If you're undecided, research indicates that the Snowball method tends to be more effective. Seeing quick progress with smaller debts keeps people motivated, which makes it easier to stick to the plan.
Once you’ve chosen a method, the next step is to organize your debts by priority. Create a list of your debts, starting with the one you’ll focus on first. Of course, you’ll still need to make the minimum payments on all other debts (we don’t want any late fees piling up). When the top priority debt is paid off, roll that amount into the next debt along with the minimum payment. Continue this process until all your debts are cleared. It’s easier said than done, but a clear plan is your first step toward success.
Here’s a calculator that can tell you exactly when you’ll be debt-free. This spreadsheet is particularly helpful if you’re using the Snowball method to track your progress toward paying off debt.
Review Your Credit Report
Your credit is crucial, especially if it’s poor, as it can complicate many areas of life. With a low credit score, securing credit cards, loans, and even renting an apartment or getting a job can be more difficult. Additionally, service providers may charge higher fees for bad credit. It’s essential to understand where you stand by regularly checking your credit score and, even more importantly, reviewing your full credit report.
Understanding Your Credit Score
You can view your credit score for free through a variety of platforms. Popular options include CreditKarma and Quizzle, while Mint also provides free credit scores periodically. Additionally, Discover credit card holders can find their scores on their monthly statements. Once you know your score, it’s important to understand what it means. According to NerdWallet, here’s how credit scores are typically categorized:
300-629: Poor credit
630-689: Fair credit (also known as ‘average credit’)
690-719: Good credit
720 and above: Excellent credit
If your score falls in the bad or fair range, it’s time to take action, starting with a thorough review of your credit report. Even if your score is excellent, it’s still wise to check your credit periodically. This way, you can quickly identify any issues such as late payments or fraudulent accounts and address them promptly.
How to Understand Your Credit Report
The best place to obtain a free copy of your credit report is Annualcreditreport.com. You’re entitled to a free report from each of the three major credit bureaus—Equifax, Experian, and TransUnion—once a year. When you access your report, you’ll find several key sections:
Personal details: Includes your name, address, and other identifying information.
Public record details: Any legal judgments, liens, or bankruptcies.
Credit account information: This is the heart of your report, showing the details of your credit accounts.
Your accounts will be divided into two main sections: those in good standing and those that might be negative. If you’ve missed payments or have accounts that went to collections, they will likely be listed under “negative items.”
It’s important to go through these items carefully to ensure their accuracy. If you spot any errors, you can dispute them (the Federal Trade Commission provides sample dispute letters here). If there are too many negative entries, improving your credit is the way forward.
Paying off your debt on time and in full is the best way to boost your credit. However, FICO provides additional insights into how your credit score is calculated, and it’s useful to understand. According to FICO, five key categories determine your credit score:
Payment history (35%): This refers to your track record of paying your previous accounts on time. The better you are at keeping up with payments, the higher your score will be. According to the site: “A few late payments are not an automatic ‘score-killer.’ A generally strong credit profile can offset one or two instances of late credit card payments.”
Amounts owed (30%): Lenders want to know how much debt you still owe. If you’re getting close to maxing out a credit account, this could have a negative effect on your score, the site explains.
Length of credit history (15%): The longer your credit history, the better for your score, according to FICO. FICO also takes into account how long you’ve been actively using your accounts.
Types of credit (10%): FICO looks at how diverse your credit mix is, including credit cards, loans, retail accounts, mortgage accounts, and finance company accounts. It also factors in the number of accounts you have open. And remember, closing an account doesn’t erase it; it will still be visible on your report.
New credit (10%): When you apply for new credit, your score could dip, according to FICO.
In addition to making timely payments on your debt, it’s essential to keep any accounts in good standing open and aim to use as little of your available credit as possible. Improving your credit takes time, but the first step is to review your credit report.
Sign Up for Your Work 401(k)
A 401(k) is a retirement savings plan offered by your employer. You contribute a portion of your paycheck each month, and the money is used to invest within the account. Over time, the investments grow, and ideally, when it’s time to retire, you’ll have accumulated a significant amount of money. With a healthy 401(k), you could realize your dream of retiring on a houseboat or driving across the country in an RV.
Many companies that provide a 401(k) plan also offer a feature known as a 401(k) match. They will match a portion of your contributions, up to a certain limit. As Melanie Pinola explained:
A typical matching structure is a 50% match of your contribution, up to 6% of your total salary. For every dollar you contribute, the company adds 50 cents. For an employee earning $50,000 annually, the maximum the company will contribute (with the 6% cap) is $1,500 per year.
Calcxml 401 match calculator can assist in calculating how much you can maximize from your employer’s match program. (It’s also important to note that many companies have a vesting schedule, meaning you’ll only receive their contributions if you stay with the company for a certain period of time).
If your employer offers a 401(k) match, it’s a smart move to enroll, because otherwise, you're passing up free money. After you complete the sign-up forms, you’ll need to decide how much of your paycheck you want to allocate to your retirement savings. Most financial experts recommend contributing enough to get the full match. However, if that forces you to stretch your budget too thin, potentially resulting in late fees or overdraft charges, it might be worth reconsidering. Take another look at your budget and determine a savings amount that works for you.
Next, you’ll choose your investment options. Typically, your employer will partner with a broker who provides a list of available choices. That means you’ll be limited to what they offer, which isn’t always ideal. Investor Place outlines five main types of funds you’re likely to encounter:
Stock Funds: These funds allow you to invest a portion of your account in a range of stocks. As Investor Place points out, “Most 401ks only offer a limited selection of stock funds, so it’s not difficult to choose. Focus on expenses (lower is better) and long-term returns (higher is better) to find the right option.”
Target-Date Funds: These are simple, straightforward funds. You select your target retirement year and choose the corresponding fund. Since they’re designed for ease, they don’t require much ongoing management, as the fund automatically adjusts your asset allocation over time. Keep in mind, however, that these funds can have higher fees.
Blended-Fund Investments: These funds consist of a fixed ratio of stocks and bonds, which you can choose based on your risk tolerance and how many years you have until retirement.
Bonds/Managed Income: These funds aim to protect your capital, but don’t offer much growth.
Money Market Funds: According to Investor Place, money market funds are like “glorified CDs.” These funds typically provide no growth, barely keeping up with inflation. If you want your money to grow, they suggest steering clear of money market funds.
We offer a guide to set-and-forget investing to help you decide which funds to invest in. However, the 401(k) paperwork itself may also give you a general idea of how to get started. In the end, your choice depends on factors like your age, risk tolerance, and how far away retirement is.
After opening your 401(k), keep a few things in mind. Often, when you first open an account, the default investment option will be a “money market fund,” which offers little to no growth. This default isn’t tailored to your needs or risk profile, so make sure to select investments that suit your financial goals. And if you ever leave your job, don’t forget about your 401(k). You’ll need to roll it over into a new retirement account. When the time comes, check out our guide on how to do it.
401(k) fees are another consideration. Many 401(k) plans have high maintenance fees, but you can use online calculators to estimate and compare these costs over time. While it’s still worth getting the match, if your plan’s fees are steep, you may want to invest any additional funds elsewhere.
Consider opening an Individual Retirement Account (IRA).
If your employer doesn’t offer a 401(k), don’t worry. You can still save for retirement through an Individual Retirement Account (IRA). Even if you do have a 401(k), an IRA is a great option for setting aside extra savings or for more flexibility and control over your investments.
What if you’re juggling debt, though? Should retirement savings take priority? While experts don’t all agree on whether debt or saving for retirement should come first, you can read more about that here and then decide what makes sense for you.
Similar to a 401(k), an IRA is designed to help you save for retirement. There are two primary types of IRAs: traditional and Roth, each offering distinct tax benefits.
Traditional IRAs Provide Tax-Deferred Growth
A traditional IRA allows your savings to grow tax-deferred, meaning you don’t pay taxes on your contributions or earnings until you withdraw the funds (likely in retirement). You contribute with pre-tax dollars, and if you qualify, you can deduct your contribution amount from your taxable income when you file your taxes. Essentially, you’re paying less in taxes now.
Roth IRAs Provide Tax-Free Growth
Unlike a traditional IRA, a Roth IRA doesn’t let you deduct your contributions from your income. However, the big advantage is that when you retire, your withdrawals are tax-free. You contribute post-tax dollars, meaning you pay taxes on the money you contribute now, but all earnings grow tax-free. Not everyone qualifies for a Roth, but you can check your eligibility here.
A simple guideline is: if you expect to be in a higher tax bracket when you retire, go for a Roth IRA. If you’re in a higher tax bracket right now, a traditional IRA is the better choice. This is just a basic approach, so read our guide to IRAs for more details on what’s best for your specific circumstances. There are other types of IRAs, like a SEP-IRA for the self-employed, but a traditional or Roth IRA is typically the way to go.
IRAs come with contribution limits, so be sure to factor those in when planning your savings. Here are the contribution limits for 2017:
$5,500 ($6,500 for individuals 50 or older), or
the amount of taxable compensation you earn in the year.
It’s important to review your budget to determine how much you can save. Many experts recommend saving at least 10 percent of your income for retirement. While this may seem challenging for some, it’s important to remember that every little bit helps. If you need more guidance on how much to save, check out our detailed guide here. The key steps include:
Decide at what age you’d like to retire.
Estimate how many years you’ll need to plan for (i.e., your expected lifespan).
Calculate your anticipated expenses during retirement.
Take stock of your current assets and savings.
Once you’ve worked out the numbers, you’ll open an IRA with a financial institution like Vanguard (which offers very low fees). Setting it up online is quick, but it may take some time to link your bank account to the IRA for contributions. While you wait, do some research on investment options. We suggest some simple mutual funds you can begin with here.
Mastering financial management takes time, and much of it is about forming better habits and routines. But, why not start with the essentials now? Along with these steps, make a daily goal to learn more about personal finance. The more you focus on financial literacy, even just for fifteen minutes a day, the easier it will be to stick to a budget and your debt reduction goals.
Images sourced from: Picjumbo, Pixabay, Pixabay, Unsplash, Negative Space, Pixabay
