Did you know that April is financial literacy month? You may be asking yourself, what exactly is “financial literacy”? Financial literacy is often defined as “the ability to understand and effectively use various financial skills, including personal financial management, budgeting, and investing.”
You may be wondering how financial literacy is related to retirement planning. Simply, if you aren’t able to manage your finances and budget, you won’t have any money to invest for your future. In addition, people who are financially literate are generally less vulnerable to financial fraud. It is estimated that 66% of Americans lack financial literacy. Lacking financial literacy can lead to accumulating unsustainable debt burdens through poor spending decisions or through a lack of long-term preparation. This in turn could lead to poor credit, bankruptcy, housing foreclosure or other negative consequences.
Popular skills that fall under the umbrella of financial literacy include household budgeting, learning how to manage and pay off debts, and evaluating the tradeoffs between different credit and investment products. It’s also important to have at least a working knowledge of key financial concepts such as compound interest and the time value of money.
Thankfully, there are now more resources than ever for those wishing to educate themselves about the world of finance. One such resource is the government-sponsored Financial Literacy and Education Commission, which offers a range of free learning resources.
There are several strategies you can employ to improve your financial literacy:
Create a budget – two commonly used budgeting methods are the 50/30/20 and the 70/20/10 budgets. It’s their simplicity that makes them popular. In both methods, the first number (the largest) is for your needs (food, shelter, clothing, etc.), the middle number is for your “wants” and the third number, the smallest, is for your investments. If you have a substantial debt load, you could use the third number for extra payments to pay off your debt and then begin investing that amount after you’ve paid down your debt.
Manage your bill paying – make sure your bill payments are made on time to avoid paying unnecessary late fees. Consider taking advantage of automatic debits from a checking account or bill-pay apps.
Check your credit report and score at least annually – you’re entitled to a free credit report annually through the three major credit bureaus by going to www.annualcreditreport.com. If you find errors on your credit report, dispute them in a timely manner by notifying the credit bureaus of the inaccuracies.
Manage your debt – reduce spending and increase repayment. Develop a debt reduction plan such as paying down the debt with the highest interest rate first. If debt is excessive, contact lenders or credit card companies to renegotiate repayment, consolidate loans or even find a debt-counseling program.
Invest in your future – Be sure to take advantage of your employer’s 401(k) plan. At minimum, contribute enough to receive the full employer match. Increase your contributions at least annually by a minimum of 1% until you reach the IRS contribution maximums. 1% from your paycheck is a small amount of money, but invested over the number of years until you reach retirement can have a significant impact on your retirement savings!
To summarize, becoming financially literate involves learning and practicing a variety of skills related to budgeting, managing and paying off debts, understanding credit and investment products. Basic steps to improving your personal finances include creating a budget, keeping track of expenses, being diligent and timely about payments, being prudent about saving money, periodically checking your credit report and investing for your future.