Graduation for the Class of 2014 is here. Some college graduates have studied physics and will pursue rocket science as a career. Others plan to become doctors, memorizing every bone in the body, while a few are walking encyclopedias when it comes to history. But how many of them can – and do – balance a checkbook?
The National Center for Education Statistics reports that 1.6 million college graduates in 2014 will be unprepared for financial independence. A large percentage of the Class of 2014 have never paid their own rent, balanced a checkbook or created a budget, much less learned to live on one.
The good news in this grim statistic is that learning the basics of personal financial management isn’t really all that difficult. Here are seven personal finance strategies that can help you get your post-college life off to a good start:
- Learn how to create and live on a budget. We’ve listed this as the first strategy because it will provide the foundation for everything else you do from a personal financial management standpoint. Until you have some knowledge of and control over how much money you’re earning and spending, you won’t be able to implement any other personal finance strategies.
The concept of budgeting is actually very simple — it’s the execution that’s often difficult. The first step is to determine your total monthly income and expenses. Then subtract the former from the latter to see whether you’re currently spending more or less money than you make.
Hopefully you’re spending less, in which case you can start thinking about how you’ll save and/or invest your excess money (see the next two strategies below). If you’re spending more than you make, it’s time to take a hard look at your expenses and figure out some areas where you can cut back a little — or maybe a lot. Additionally, you might consider a part-time, second job to boost the income side of the ledger.
- Make saving your top financial priority. As they embark on their professional careers, new college graduates often place saving at the bottom of their priority list, since their income is probably relatively low. But making saving a top priority instead will instill strong financial habits that can last a lifetime.
Regardless of how small your paycheck is, you can probably afford to save something. The amount isn’t as important at this stage of your life as building the discipline of saving. One strategy is to save a percentage of your income — this way, your savings will automatically increase as your income grows.
Set an initial goal of saving between three and six months’ worth of living expenses in an FDIC-insured bank or money market account. This can serve as a “rainy day” savings account that you can tap into if you have a financial emergency, like an expensive car repair, hospital bill or extended time of unemployment.
- Learn the basics of investing. It is important to realize that saving money and investing money are not the same thing. After you have built up your emergency savings account to a comfortable level, you can start thinking about how you might want to invest some of your excess money in stocks, bond or other financial instruments.
Investing involves accepting the risk that you might lose some (or even all) of your money for the potential of earning a higher return than is offered by savings and money market accounts. In general, the riskier your investments are, the higher the potential return might be. It might make sense to assume a little more risk when investing for long-term financial goals like retirement (see the next strategy below).
- Start thinking about retirement. Yes, we said retirement. While retiring might seem like it’s the last thing you need to think about now, the reality is that the sooner you start saving for retirement, the more time you have to benefit from compounding returns and tax benefits.
In fact, time is the retirement saver’s best friend. Look at the difference that getting an early start on saving for retirement can make: John started contributing $90 per week to his company’s 401(k) plan when he was 25 years old. If he continues doing this for 40 years and earns an annual return of seven percent, he’ll have a retirement nest egg worth $1 million when he turns 65.
But Jane didn’t start contributing to her company’s 401(k) until she was 35 years old. She will have to contribute more than twice as much money to her 401(k) every week ($190) to accumulate $1 million by the time she turns 65 — simply because she waited ten more years to get started.
Since investing for retirement is, by definition, “saving” (our Strategy Tip #2), you will be killing two birds with one stone if you put money into a 401(k) or IRA.
- Get — and then stay — out of debt. Excessive debt could be the biggest detriment to your long-term financial security. So paying off any debt that you have when you graduate college should be another top financial priority.
If you have any student loans, start with them. Set a goal for having these paid off by a certain date in the future — maybe five years from now. If you have racked up any credit card debt while in college, also pay this off as quickly as possible.
Then make a commitment to staying out of debt, especially high-interest credit card debt. One way to do this is to pay for all purchases with a debit card or cash. If you do use a credit card, pay the balance in full each month to avoid paying interest charges.
- Build a strong credit history. Your credit score will become one of the most important parts of your financial life -- either positively or negatively -- going forward. It will affect everything from whether you are approved for a car loan or mortgage (or even an apartment lease) to the interest rate you will pay on these and other types of loans. Some employers even check credit history before offering a candidate a job!
The best way to build a strong credit history and keep your credit score high is to pay your bills on time. You can monitor your credit score by ordering a free copy of your credit report once a year at www.annualcreditreport.com. Examine your credit report carefully and contact the appropriate credit reporting bureau (TransUnion, Experian or Equifax) if you spot any errors or mistakes to get them resolved quickly.
- Establish the discipline and humanity of giving. Take the same approach to giving that you do to saving by committing to give away a percentage of your income. It doesn’t matter where you give the money — it can go to your church or place of worship or to charitable causes that you support. By establishing the discipline of giving away money early in your life, you’ll adopt a more generous attitude in other areas of your life.
The first few years after college graduation can be the most exciting time of your life. By learning and implementing basic personal finance strategies like these during this stage, you’ll build a solid financial foundation that will last for the rest of your life.