Becoming wealthy doesn’t mean you have to invent a billion dollar idea, become CEO of a company, or strike it rich. Even a meager salary can lead to long-term financial security if you make smart decisions along the way. However, you can just as easily derail your financial success if you make poor decisions and mistakes.
Over the past few years, the idea of “behavioral finance” has become increasingly popular among financial advisors and the finance community. Basically, it refers to how a person’s way of thinking or acting affects their money management – or lack thereof. While many different factors play into how well a person manages their finances, it’s becoming increasingly obvious that many troubles are byproducts of personality traits that don’t work well with saving and investing.
According to a Forbes.com article by Joe Mont, there are five personality traits that help people lose money: the overwhelmed, the distracted, the risk-takers, the wood-knockers, and the over-confident. This conclusion was made after conducting a nationwide survey of more than 3,000 U.S. residents ages 44 to 75. However, it’s what he writes at the end of his article that truly matters. He concludes by saying, “These personalities are not written in stone, however. People can always change and learn from their mistakes.”
This begs the question: what mistakes commonly lead to financial trouble? Are you making mistakes that could land you in trouble? Here are a few of the most common financial planning mistakes people make and how to avoid them.
One of the smartest things you can do for your present spending and future saving is to develop a budget – or at least a way of tracking your spending. By implementing a framework within which you can work, you will at least have an understanding of how much you can reasonably spend and when you’re overstepping boundaries.
Research by the University of Warwick showed that money only made people happier if they see themselves as being more highly paid than friends and/or colleagues. Don’t fall into this trap! Know what your goals are and have a plan in place to make progress on them.
This is a fixed cost that is really hard to get out of or modify once it’s in place. It is sometimes hard to know how much you are really comfortable paying before you take the plunge into your home purchase. Run the numbers and make a practice run on paying the new amount before you commit. Make sure that you factor in your mortgage payment, taxes and insurance, any HOA costs, and maintenance. If you’re not sure where to start, check out How Much House Can You Afford.
While Peter Lynch of Fidelity Magellan made the idea of investing in what you know, a popular practice in the 1980s, it’s certainly not the only practice. Just because you have expertise in or know a particular industry doesn’t mean that’s the only area you can invest in. As always, it’s about diversifying, and an affinity towards your own preferences forces you to put up restricting blinders. Familiarize yourself with other Deadly Investment Sins here.
It can be difficult to leave a 401(k) intact, especially when it’s just sitting there while you struggle through financial issues. If possible, leave the 401(k) alone. Borrowing from it can have serious tax consequences and lead to withdrawal penalties.
Yeah, I know it’s boring to look at your insurance, but if you are 20 years or more from financial independence, or you have family members that rely on your income, you need to take a serious look at your risk management. Disability insurance may be offered through your employer, but don’t assume that you are covered or that the coverage is adequate. Read up on your benefits through work to figure out if you have coverage, if you would need to opt-in, and what percentage of your income is covered. If it’s less than 60%, you may want to consider supplemental coverage.
Life Insurance is crucial if you have family members that rely on your income, or if you have debts that would stick around longer than you. Work can be a good place to get some coverage, but group term insurance rates usually rise as you get older, and they are only good if you are still working there. Consider getting life insurance outside of work in addition to the coverage through work.
Even if you are single, you still need a Healthcare Power of attorney to identify who can make medical decisions on your behalf, a Living Will where you designate important end-of-life decisions, and a Power of Attorney to designate rules for who can act on your behalf in case of an accident where you can’t take care of your finances or other business for an extended period of time.
If you have children, a will or trust is crucial to designate a guardian who will raise your kids, and a trustee who will manage the assets or life insurance proceeds on behalf of the kiddos. Don’t forget that retirement accounts and life insurance usually transfer outside of the will, so make sure you have the correct beneficiaries set up on those too.
At Your Richest Life, I believe everyone deserves the chance to secure his or her financial future. Whether it’s comprehensive financial planning, ongoing coaching, or help understanding a particular area of money management, I can help. Book a complementary call with me for more information.