by Lance Aligo, CPA, MSA
I bet you’ve thought about saving for retirement, growing a savings account, buying a house, and paying off debts. These financial goals are all worthwhile, but as a young professional, you have only so much income. The good news is you can accomplish these goals, if you take control of your finances. The following four steps can help you get started.
The crucial first step in getting your finances in order is to have a budget, which is an estimate of your income and expenses for a period of time. Start the budgeting process by writing down your income and expenses for a period of time. Then review your expenses and determine which are essential, or necessary, and which are discretionary. Necessary expenses are those that need to get paid no matter what and may include your rent, transportation, or health insurance. Discretionary expenses are what I like to call “the negotiables,” and may include tickets to the ballgame, a weekend getaway, or dinner out with friends.
Creating your budget is the easy part. The harder part is sticking to it. Compare your actual spending each month to your budget. If you're off track, you may need to adjust or prioritize your spending. Microsoft Money, Mint, or Wally are all great budgeting apps that can help you track your spending. My personal favorite is to use a good old-fashioned Excel spreadsheet for budgeting and tracking.
An emergency fund is exactly what it sounds like: money saved to be spent only in case of an emergency. When your car breaks down, you have to pay a large medical bill, or you lose your job, your emergency fund is your financial cushion. Setting aside three to six months income should be your goal.
It's important to understand that, like anything else, this fund won’t be built overnight and you’ll need to factor it into your budget. To get started, try putting a portion of your paycheck into a separate bank account every pay period. You may be able to set up an automatic payroll deposit directly to this account, so that the money doesn’t touch your personal bank account where you might be tempted to spend it.
The sooner you start saving for retirement the better. One tip is to set up automatic paycheck deductions to go into your company's 401(K) account. If your employer offers a matching 401(K) contribution, make sure you are at least contributing the minimum to take advantage of this benefit. Employer's matches are usually about 2% to 6% of your salary. Work this into your monthly budget and contribute a percentage of your paycheck that works for you.
Compounding is one of the keys to building your retirement savings. Compounding is basically earning interest on your interest. When you contribute towards retirement, your account will earn interest, dividends, and capital gains. As these earnings are reinvested, they also earn interest, dividends, and capital gains. So the longer you're invested, the bigger and faster your money will grow.
Always pay off debts with the highest interest rates first. These are typically debts incurred on credit cards, which can have interest rates as high as 10% to 30%. Student and auto loans generally have lower rates, so you can pay them off once your credit card debit is under control.
With credit card or loan debts, most banks or financial institutions encourage you to make the minimum payments. When you think about it, the longer you're in debt, the more money the lender is making – that’s why they want you to pay the minimum. Break out of this habit and start paying at least double the minimum every month. You should also investigate consolidating your debt to fewer cards or loans with lower interest rates.
Analyzing your debt situation monthly, keeping track of how much you pay, and setting realistic payment goals will go a long way to helping you get your debt under control. Spending less is also important. Just because you were given a limit on your credit card doesn't mean you have to spend to that limit.
It's never too early to take control and get your finances in order. Creating good habits now will keep you on track and help you reach your financial goals. Good luck!
Lance Aligo, CPA, MSA, is a senior accountant at KRS CPAs, LLC, located in Paramus, NJ. You can reach him at firstname.lastname@example.org or 201-655-7411.