You work hard for what you've got, so don't let budget pitfalls creep in.
You've got a basic budget sorted and your bills are paid on time, but there are still some pretty hefty financial mistakes that might creep up and ruin your hard work. Bad habits are hard to break, especially if you don't know they exist or how they can affect your future. With a better budget, you'll get control of bad habits and take steps to correct them before real damage is done.
Here are three common financial mistakes and the ways to avoid or stop them in their tracks:
Affording a Payment vs. Affording a Purchase
Large items such as a home or vehicle aren't feasible cash purchases for most people. But some buyers get swept away by the idea of smaller payments that seem to fit into the budget. Although you can meet those monthly payments, the long-term investment is sometimes stunning, and not in a good way.
Interest accrues from Day One. Each time you make a payment, you're paying only a portion toward the actual selling price of the item, called the principal. The rest of your payment goes to interest. In the early years of a large loan repayment, the majority of that payment is allocated to interest. Payments only start reducing the principal amount to a larger degree later over the term of the loan. With a vehicle, it might be a few years before the payments really start whittling away at the principal. With a home loan, it might take more than a decade.
When you can afford a payment, that doesn't mean the item itself is affordable. On a $150,000 home loan with 4.5% interest and a 30-year repayment period, you'll actually pay $273,610.07, with $123,610.07 of that being interest. In 30 years, you've almost paid for the house twice.
Interest is a part of life, but there are smarter ways to use it. Instead of buying the most you can afford based on monthly payments, consider the life of the loan and how much you'll pay through the years. A modest home with a substantial down payment and a shorter term means more of your money stays where it belongs - in your possession.
When you can make a purchase in cash, you know that you can really afford it.
Expanding Buying Ability vs. Living within Your Means
Credit cards are easy to use, and hard to pay off. When there's not enough cash in the budget to make a purchase, credit cards can make expensive items seem attainable. But what's really happening is you're gaining things and losing wealth hand over fist.
Credit cards should not be used as a routine means to buy what you can't afford in cash, or can't afford to save up for. Saving takes time, but it means you'll spend less to purchase the same item. The rules of interest apply here, the same as with a larger purchase.
Minimum payments are where many credit card spenders get into real trouble. If you can purchase an item on credit, earn some rewards, and then pay off the item before the interest outweighs the rewards, you're gaining ground instead of losing it. But when credit cards are always teetering on being maxed out, and you rely on them to buy more than you should, you'll potentially spend years paying thousands of extra dollars in interest. Saving costs less and takes less time than paying off credit card debt.
Planning to Save Later vs. Saving Now
When you're young, you might think retirement is light years away. In many cases, that's true. But why wait until later in life when you can start now and save without as much difficulty.
The longer you wait to start saving, the more determined you'll need to be, and more money you'll have to save every month. People who start saving for retirement early feel less of a pinch. Fidelity Brokerage Services recommends that by age 35, you'll need at least one year's salary saved.
By age 45 you'll need 3 years' worth saved, and at 55 you should have 5 years' earnings in the bank. Retirement might be a long way into the future, but you've got a lot of saving to accomplish between now and then.
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