Think about all the things you can do in 10 minutes or less. Check your bank account. Drive to work. Have a life-changing conversation. Or you could learn what financial mistakes to avoid, saving you thousands of dollars and years of wasted effort. Why go through the pain of self-experience when others have already provided a proven playbook?
The path to financial success generally follows a pattern. While your money situation is as unique as your personality, there are tried and true paths that will make you rich (some faster than others) and other roads that lead to financial difficulties. Averting financial pitfalls can sometimes be difficult, but you must know where they are to evade their grasp.
12 Common Financial Mistakes
Here are 12 of the most common financial mistakes. Sidestepping these financial pitfalls is a smart money move.
1. Not Creating Financial Goals
Creating financial goals is one of the most important tasks you can do. Most people try to do this at the beginning of the year. They set up a plan for how to reach their financial goals – save for an emergency fund, begin savings, start investing, or purchase a new home – and then reverse engineer how to achieve those financial goals.
Don’t have any goals? Nonsense. Take the time to think about where you are today and what you want to achieve in the future. If you need to jump-start the process, speak to a financial advisor (it’s free) about their recommended goals based on your age, income, and marital status. Who knows, you could already be ahead of your comparable peer cohort.
Financial goals dictate your operating system for the year. Being goal-oriented allows you to home in on the tasks that are needed in your annual and monthly budget. Your budget will give you the ammunition to tactically execute so that your dreams and goals become reality.
2. Waiting to Create a Budget
Learning how to create a budget is vital to your financial success. Making a budget can be easy (and fun with the right attitude). There are a variety of budgeting strategies you can adopt, based on your attention to detail, spending habits, and long-term goals.
The budget process is simply examining your income and expenses. The goal is to ensure you are not spending more than you make. Then you focus on tackling your short and long-term goals, like paying off credit cards or student loans.
Here are five budgeting strategies you can implement quickly:
Depending on where you are in your personal finance journey, any one of these could be a perfect fit. With budgeting, there is no one size fits all solution. The essential insight is that you choose a budgeting strategy and implement it in your life. Budgeting will help you avoid the lion’s share of other financial mistakes (more on those below).
Smart Money -> Budgeting 101: 7 Steps to Quickly Create a Budget
3. Spending Too Much
Frivolous and excessive spending can burn a hole in your pocket. Fortunes are incredibly difficult to make, but they are lost one dollar at a time or in one fell swoop. Spending on items you want is up to you (within reason), and if you have budgeted for these expenses, you can plan appropriately.
Prioritizing where you spend can make you feel rich. If you have high credit card debt, you probably shouldn’t buy $1,000 shoes. But, if you are successfully paying off your debt, reward yourself along the way. Go out to eat, see a movie, or go to a concert. Power down your excessive spending, and you will find that controlling your spending can give you financial satisfaction.
4. Relying on Credit Cards
Credit cards are a modern marvel. You can carry around little plastic cards, and sometimes just your phone, to make payments seamlessly: buy lunch, purchase a watch, or order new shoes. However, the ease of this frictionless payment method also has a downside. Without proper financial planning and budgeting, you can fall into the trap of relying on credit cards.
If you are not careful, the cycle of credit card debt can be tough to break. You might feel bad, so you use retail therapy to temporarily relieve your stress, only to add more credit card debt into your financial life.
Smart Money -> Best Credit Cards of 2023
The goal is to find the best credit card and use it diligently. Extract the best travel and cash-back rewards possible but be smart about how often and when you use your credit card. Make your credit card part of your finance quiver that helps you meet your money goals.
5. Barely Saving
Personal finance experts recommend saving an emergency fund to hedge against financial calamities. Historically, financial advisors have recommended at least a $1,000 emergency fund. With inflation and the rising cost of living, it is a Smart Money Move to save up to $3,000 in your emergency fund. This is more pronounced in places like New York, San Francisco, or Chicago, where emergencies are more expensive than $1,000.
If you are starting an emergency fund, push yourself to save more. Insufficient savings isn’t going to help your financial outlook. Instead, make saving an emergency fund one of your key financial short-term goals. This cash buffer will make you feel much more secure. After your emergency fund is saved, it is time to move on to saving your slush fund and invest. Saving will bring you peace of mind.
6. Investing Too Late
Investing at a young age is one of the healthiest financial decisions you can make. Investing early allows you to capture the power of compounding interest. The basic idea behind compounding interest is that compounding multiplies money at a highly accelerated rate. Your $1,000 investment becomes $5,000 without you having to lift a finger. It becomes $5,000 precisely because you don’t lift a finger and let your initial investment grow and compound uninterrupted.
Never depend on a single income. Make an investment to create a second source. – Warren Buffett
Not only does investing help increase your net worth, but investing diversifies your income streams. Now you can make your salary plus passive income through investing. In this way, investing opens a proven path to generating more income. Create passive income by investing in high-yielding dividend stocks.
Smart Money -> Compound Interest Calculator
Starting to invest too late will rob you of the magic of compounding interest and years of lost time. Only investing $50 or $100 per month, done early enough, can compound into hundreds of thousands of dollars.
7. High Unused Subscription Costs
Living a clean financial lifestyle increases your saving and net worth. Paying recurring monthly expenses for items you never own is not a smart money habit. These subscription services leave you with cash flowing out the door and no assets.
Car leases, audiobooks, music services, and cable bills siphon money out of your wallet and don’t leave you with anything. The alternative to car leases is to buy and own your car. The alternative to audiobooks is to buy books and build a library. The alternative to music services is to buy CDs or records. The alternative to cable bills is to buy movies and curate your collection.
Smart Money -> 14 Wacky Ways to Cut Expenses
Ask yourself if there is a better use of your hard-earned money when it comes to subscription services. We are often paying a premium for the perceived convenience of unlimited options. The reality is that we prefer curated suggestions. Cut spending on useless subscriptions and spend your money on building a collection of things you love.
Smart Money -> 7 Pros to Starting a Spending Fast
8. Paying Too Much for Rent
How much should I pay for rent? This is one of the most common questions when you are first moving to a new city, starting a new job, or trying to move into a nicer apartment. The reality is that there is no one-size-fits-all answer to this question.
What is universal, however, is the fact that paying too much for a fixed cost like rent can seriously hamper your progress on meeting other critical financial goals like paying off debt, saving for an emergency fund, building up a slush fund, or starting to invest.
A good financial rule of thumb is to pay no more than 30% of your monthly after-tax income on rent. This is a ceiling. Paying sufficiently below this amount will free up cash flow to tackle other important financial milestones. Even saving the difference in a high-yield savings account is a better financial decision than spending it frivolously on high rent.
Smart Tip:
It is easy to dismiss long-term goals. Set aside a percentage of your monthly income to meet long-term goals like saving for a down payment. Buying your first home will only feel like a distant goal if you don’t start saving. Once you do, it is only a matter of time before you become a first-time homeowner.
9. Buying a House That is Too Expensive
Buying a home can be a blessing or a financial disaster. Buying a house too early can morph homebuying into a disaster. Purchasing a home too early usually occurs when you are pressured into the transaction or believe building home equity is a smart money decision. Building home equity is important, but you want to feel comfortable with your monthly mortgage payments.
Before buying a house, think about the different elements the transaction entails. Unlike renting an apartment, being a homeowner ushers in a whole new fleet of costs. Here are some expenses that homeowners must consider:
- Homeowners Insurance
- Private Mortgage Insurance (PMI)
- Flood Insurance
- Repair Costs
- Mortgage Payments
- Property Taxes
- Annual Maintenance Costs
As a renter, you don’t have to worry about these costs. But as a homeowner, you must plan for them. This increases the cost of owning a home. When you are analyzing how much home you can afford, factor in all these costs, not just the mortgage. That is just the starting point.
Buying a house before you are ready can leave you house rich and cash poor. Speaking with a financial advisor can help you map your path to homeownership.
10. Not Saving for Retirement
The days of companies offering well-funded pension plans to reward their employees for decades of hard work are all but gone. In today’s do-it-yourself world of planning for retirement, starting to save early is a smart money habit.
Take advantage of employer-sponsored retirement account programs like a tax-deferred 401(k) account. Investigate a tax-deferred retirement account like a Traditional IRA if your employer doesn’t offer a 401(k) program. Alternatively, you could open an after-tax retirement account such as a Roth IRA.
Personal finance experts and financial advisors advocate for starting to invest early and often. A well-funded retirement plan builds a moat around your finances so you can enjoy a meaningful retirement.
11. Living Paycheck to Paycheck
More than half of Americans live paycheck to paycheck. Operating on this thin line puts millions of households in a precarious financial position because it could spell disaster. We want to avoid that.
Saving for an emergency fund, even $500 to $1,000, can help you distance yourself from living on the edge. Not sure how to save for an emergency fund? Make sure you use the right budgeting strategy to help you cut costs and pad your pockets with saving.
Smart Money -> 5 Apps to Help You Start Savings
Another hedge to the paycheck-to-paycheck lifestyle is to build upon your emergency fund and save a slush fund of 3-6 months of living expenses. Personal finance experts advocate for this type of saving because it can help tide you over in case of unforeseen unemployment. Escaping the paycheck-to-paycheck lifestyle is one of the best financial decisions you can make. Get out, and don’t look back.
Smart Money -> Try Budgeting By Payckeck. Here's How Payckeck Budgeting Works.
12. Not Earning Enough Money
Want to make more income? Well, you are not alone. A recent survey found that over 40% of Americans are trying to supplement their income with a side hustle to combat rising inflation and save more. While earning more income doesn’t fix every financial problem, it certainly helps.
At a certain point, there are only two actions to take when trying to improve your financial situation: cutting costs and increasing income.
Smart Money -> 29 Fast and Simple Ways to Earn More Money
Without a high income, cutting costs can only take you so far. If you are earning a salary of $40,000, it might feel like there is nothing to cut, and the only way to improve your financial situation is to earn more income. On the other hand, if you make $150,000, you might be able to slash costs and boost your income to meet your financial goals.
In either scenario, passive income can be a fantastic way to boost your income. Passive income is income earned or maintained with minimal labor. The IRS has specific guidelines for what constitutes passive income. Another way to supplement your income is to get a side hustle or put your savings in a high-yield savings account to earn interest income.
Smart Tip:
Controlling lifestyle creep, or the idea that you will want to spend more when you make more income, is one of the hardest parts of earning a high salary. Instead, save the different in income and stash it in a high-yield savings account or store it in an online stock brokerage account to invest.
Smart Summary
Common financial mistakes are ordinary for a reason. Most mistakes are avoided by fighting the urge to overspend, cutting the expenses eroding your savings, building up a financial moat through an emergency fund, and managing your debt levels. Being able to make a purchase is not the same thing as actually being able to afford it. Think before you spend, save consistently, and pay off your debts. Make a financial plan and consider it a priority to adhere to your goals. By avoiding common financial mistakes, you will save yourself thousands of dollars and financial headaches along your journey to financial health.
