Make a financial plan in your 20s and reap the benefits later down the road
The financial transition of entering your early 20s is one of the biggest changes you’ll experience as you gain your footing in adulthood. Where before, you may have been a student with a part-time job, now, you earn a full-time salary. While you may have lived with and were financially dependent on your parents, now the responsibility of your bills falls on you. When you take all of this and add on things like saving for retirement, it can all feel overwhelming—but it doesn’t have to be.
While some steps, like budgeting and paying bills, are quite simple, other decisions, like finding affordable life insurance policies and starting your retirement fund, can feel complex. Let’s talk about both the simple and complex steps you should take in your 20s for even more financial freedom down the road.
1. Create a Budget and Stick To It
Keep your spending habits in check and your financial goals on track
The best way to begin laying a solid foundation for your financial life is to first start by creating a budget. Luckily enough, starting a budget is quite simple. Here are some tips to get started:
- Figure out your monthly net income – This starting number will be the base of the entire budget. For salaried income, the number is the final take-home pay after taxes and contributions have been deducted. For sporadic income—maybe from contract work or freelancing—keep a record of the monthly income and try to find a healthy monthly average.
- Take a look at how you’re spending your money – Review bank statements and categorize your spending. First, start by listing fixed expenses, which are regular monthly bills. Then, take a look at variable expenses, which are expenses that change monthly like groceries and entertainment.
- Set short-term and long-term goals – It’s important to set achievable goals, both for long-term plans and short-term needs. In the short term, you may want to work on establishing an emergency fund or setting aside money to pay for a future trip. Short-term goals should achievable within a couple of years. As for long-term goals, you may want to start saving money to buy a house or set aside money for retirement. Financial goals can, of course, change from time to time, but having clear goals can help you stay on track with your budget.
- Come up with a plan – With clear goals and a better understanding of how your money is spent, you can start to make a plan of how to spend your money on going. For example, if you have been spending too much money on entertainment and you know you want to start putting more money towards an emergency fund, you may want to set a limit on how much you can spend on entertainment each month.
- Adjust your spending habits – A plan is just an idea unless you act upon it. In practice, you need to make necessary changes to your spending habits in order to accomplish what you want and need. Look at ways you can cut down on your monthly bills. Opt to stay in rather than go out. Keep in mind that even small changes can make a big difference.
- Regularly reevaluate your budget – Situations change and so should your budget. It’s important to review your budget at least monthly to ensure you are on the right track. If you’ve had a change in income or an added monthly expense, take the time to revisit your budget and adjust to fit your new needs.
2. Get A Life Insurance Policy Early
The earlier you get a life insurance policy, the more affordable the monthly premium will be
Often overlooked by young adults, buying a life insurance policy as early as possible pays off in the long run. Someone single, young and healthy may not even consider life insurance. However, if they have large amounts of debt, like student loans and mortgages, they may want to consider it. Without these debts insured, those financial obligations will be passed onto others and those people may not be able to afford that payment. If they plan on getting married or starting a family in the next couple of years, getting a policy tends to be much pricier for the same amount of coverage after those big life events.
Insurance carriers consider both age and health when determining premiums. This means that if you’re 25 and in great health, you are more likely to have a lower premium than someone who is 45. So, the earlier you start looking for a policy, the more affordable your life insurance policy will be.
There are a couple of life insurance options for young adults to choose from, too: term or permanent. With term life insurance, your policy defines what will be covered over a specific period. You may decide on a policy that covers $300,000 over 30 years. You would then pay your premium monthly until that period is over. Should anything happen and you pass away while your policy is active, your beneficiary would be paid that $300,000. For young adults with sizable debt looking for an affordable policy, term life insurance is a great way to go.
On the other hand, permanent life insurance insures you for your entire life and can accumulate cash value, which is a benefit you can use while you’re living. Getting a permanent life insurance policy in your 20s can be a huge payoff later, however, premiums tend to be very expensive in comparison to term life insurance premiums. No matter if you decide term or permanent life insurance is the right choice for you, getting a policy early is the best way to ensure the most affordable premium rate.
3. Find a System For Paying Bills
Stay on top of your bills every month and make sure you never miss a payment
Bills, bills, bills. Unfortunately, these are a guarantee in life. Many people struggle to stay organized with their bills, and that’s not just young adults. Late payments and late fees can add up—not only forcing you to pay more but also damaging your credit score. Finding a system to organize bills that’s simple and easy to stick to is the best way to make sure you’re on top of your bills so you’re not paying any more than you need. Here’s a simple way to get started:
- List all of your monthly and yearly bills—and every bill in between.
- Mark all bill due dates on your calendar.
- Keep your bills in one place—whether you get bills in the mail or electronically.
- Schedule times regularly to sit down and pay your bills.
- Throw out old bills after you’ve ensured the payments are correct.
Even if you choose to set up automatic payments from your bank account, it’s still a good idea to stay organized with your payments and understand how much money is coming out of your account. While you may need to change around the above process to fit your needs, find a process that works for you. You’ll thank yourself in the long run.
4. Make A Plan To Pay Off Your Debt
Find a strategy that works for your financial situation to start chipping away at debt
Large, lingering debt can loom over you. No matter if it’s debt from student loans or credit cards, paying these large debts off as soon as possible will give you so much more financial freedom. The way you manage your debt depends on your own financial situation, of course, but there are some strategies to help you make the most of your money.
- Pay smallest debts first – Still paying the minimum amount on all of your debt payments, chipping away at your smallest debt first can help you eliminate a monthly bill as you work to pay everything off.
- Focus on the highest interest rate first – Large interest rates will always make you end up paying more in the long run. Start paying off the debt with the highest interest rate, and after that is paid off, start focusing your payments on the next highest interest rate. While you are paying off your debt with the highest interest rate, be sure to keep paying at least your minimum monthly payment on all of your other debts.
- Consolidate your bills – If you have a lot of debt from different providers with many different, high interest rates, you may want to consider consolidating all of your debt. This normally helps you find a lower interest rate and manage your monthly payments in a much more efficient way.
5. Build Your Credit
A strong, healthy credit score will pay off when it comes time to make the biggest purchases in your life
Establishing, building, and maintaining credit can be difficult and frustrating, especially if you have no credit history. With that being said, good credit pays off later down the line when it comes time to make big purchases, like buying a house or a car. Without good credit, you may rely on someone else to co-sign on your large investments and you can expect much higher interest rates, costing you much more in the long run.
So, how do you build credit if you have no credit in the first place? Many people find secured credit cards to be a great place to start. To get a secured credit card, you must make a cash deposit, and that deposit amount is then used as your credit limit. Then, you can use your secured card just like any other credit card. Use it to make purchases and make payments on it monthly. It’s best to pay it off in full each month your bill will incur interest if your balance isn’t paid in full. Secured credit cards are generally used up until you’ve built a good enough credit score to qualify for an unsecured credit card. Of course, there are many other ways to build your credit, but many find secured credit cards to be the easiest and most accessible way.
Once you’ve built a little bit of credit history, it’s crucial that you maintain and continue to build that credit over time. Your credit score takes into account your entire credit history, so failing to make payments on time frequently or using more credit than you can realistically afford can cause a lot of problems.
The best way to keep your credit in good shape is to make your payments on time, pay the minimum balance at the very least (but pay more if you can!), try to utilize a low amount of credit, and keep your credit card accounts open.
6. Start Saving For Retirement
Start contributing to your retirement accounts to earn as much interest as possible
Retirement may feel like a dream away, but prioritizing retirement planning in your 20s can be a huge benefit. It’s estimated that, in order to retire and live comfortably, you’ll need to have between 10-12% of your salary at retirement age saved. Starting in your 20s is really the perfect time. At this point, you maybe don’t have children, a large mortgage payment, or any other large financial obligations. So, start paying now while you have a little more wiggle room in your budget.
Setting aside money for retirement as early as possible ensures you get the most out of compound interest, or the interest you earn on interest.
The easiest way to get started, and probably the most common, is to start contributing to your employer’s 401K. The money that you contribute is from your pre-taxed income, so less of your income gets taxed as you start contributing. Many employers offer to match a certain percentage of your contribution, too. If this is the case, it’s best to contribute at least the percentage that the employer is willing to contribute.
Let’s say your employer doesn’t have a 401K option or you want to save for retirement across multiple accounts. In this case, a Roth IRA is a great solution. When you put money into this account, it is from your taxed income. However, when you take that money out when you retire, it is entirely tax-free.
Your 20s are an exciting time, and financial obligations should not take away from that. With just a few simple steps and structures set in place, you will have a much better handle on your finances. On top of that, taking some extra steps, like finding cheap life insurance and the right retirement plan for you, will pay off in the long run. Getting your financial obligations in order now will only make it easier for you in the future.