As you work to improve your finances, some things will become much easier. For example, creating a realistic budget for us took some time to figure out, but now it’s pretty easy to manage as we’re becoming accustomed to our needs and spending habits.
The other side of the coin is that, as you progress, you’ll find that you’ll encounter some situations you hadn’t thought of before. If you have successfully paid off your debt after years of work and have an emergency fund in place, what do you do next? Do you invest all that money for retirement or do you pay off your mortgage sooner?
I wanted to highlight some of the specific hang-ups people have with building up their finances. Some may be very familiar to you, while others could be challenges you’ll face down the road. I’ll also include some ideas as solutions to those problems.
Developing a spending plan
Having a budget or a spending plan is important if you want to build your net worth. You need some sort of accountability for how you handle your cash flow.
There are two big issues with budgets that I’ve seen (and experienced). While they may seem daunting, you can overcome them.
Making plans, but not following through
You can whip out budgets and spending plans quickly and easily. You’ve read every personal finance book from Dave Ramsey’s “Total Money Makeover” (which you memorized) to J.D. Roth’s “Your Money: The Missing Manual.” You know exactly what you need to do.
Unfortunately, many people stop right there, and don’t wind up doing anything different. They may have the best spreadsheets and the know the numbers, but actual change doesn’t happen.
Fix it: Be accountable to someone. Share your goals with your family or friends and create a buddy system to help you stay on task. For myself, I’ve found that writing a blog has been extremely helpful.
Perfectly planned budget
You’ve written the ‘perfect’ budget, with very penny accounted for and no unexpected cushions included. Unfortunately, you and your family love to eat out, but you’ve budgeted nothing for that category. You believe you’ll be gazelle intense and will NOT eat out at all. Two weeks later, your budget is broken.
Fix it: Base your budget on your real life, not the ideal situation. Do you have an older car that needs repairs from time to time? Set up a recurring payment that you transfer into savings for when it happens.
If needed, use a tool like Mint or Quicken to keep track of all of your transactions.
Paying off debt
You’ve reached a point where you’ve had enough and want to be out of debt as soon as possible. Besides getting started with reducing my debt, I had a hang up with my debt snowball.
Where to start with your debt snowball
People can have a hard time figuring out what debt needs to be paid first and how they should pay their debts off. I wasn’t sure if I should pay off my credit cards first, or if I should pay off my car loan (both had bad rates).
Fix it: Figure out YOUR priorities instead of adhering to some financial guru’s view. If you have a family loan at 0% that you want to pay off vs. a credit card debt at 23%, that’s your choice. Just take action.
The advantage of paying off your smallest debts first is that you’re getting some quick wins, which can spur you on to continue with your debt reduction plan.
On the other hand, if you pay of the highest rate first, you’ll save money in the long run. Only you know what would work best for you. That’s the benefit and responsibility with personal finance.
Sooner or later, you’ll want to stop be reactive (eliminating debt) and start being proactive (building your savings). Two of the most common issues are having too small of an emergency fund and having no plan to save.
Inadequate emergency fund
People don’t save enough because they aren’t realistic with what their needs are. They imagine that it will be fixed magically or by someone else. Instead, some people put themselves back into debt by using credit cards to bail them out.
Fix it: Review your budget and see how much you really spend. Choose how many months you would like covered if you lost your job. How long do you think it would take for you to get back on your feet?
Go ahead and set up a transfer into your savings account to cover for those unexpected expenses, and don’t touch it unless you’re facing a true emergency.
No structured savings plan
As you get familiar with building some savings, you begin seeing that there is more than just putting aside money. You have goals for your money. Many of us will have the a lot of the same expenses – people get married, buy houses, take vacations, etc.
Fix it: Planning ahead and saving for these events makes financial sense, even if they are years away.
How can you accomplish it?
- List all upcoming expenses. Do you plan on buying a house within the next 5 years? Do you want to travel to Italy next summer? Write down all your future plans on paper to make it concrete.
- Research the average price for each. Look online, ask friends, or check sources to see about how much you should put aside for each goal. A wedding in New York City is probably more expensive than most places.
- Automate your savings.
Go ahead and transfer a set amount from your checking account into savings for that specific purpose.
Worst case, you won’t use the money for the specific purpose that you envisioned, but now you have a nice chunk of money to spend on something else that you love.
Investing for the future
You’ve taken care of your debt, you have six months of savings, and you have monthly transfers for the dream car you always wanted to buy. Now you’re trying to optimize your investments. What are some problems you may encounter?
Following the latest stock tips
Some people love invest in hot stock picks. Every month, personal finance magazines highlight the best funds to buy or the top companies to add to your portfolio. TV gurus are even worse, as they do this on a daily basis.
Fix it: Ignore the hype and simplify your investments so you can stay on track for retirement. Focus on investing in low cost investments with solid returns like index funds. Also, you should regularly review your asset allocation to make sure your portfolio isn’t too conservative or too aggressive for your time horizon.
Pay off the mortgage or invest?
Some argue that you should invest any extra money that you have on hand since the stock market has returned a historical averaged of 11%. Others claim that paying off your mortgage faster is better since you’re eliminating a big expense from your budget and you’re saving interest from paying it earlier.
Fix it: Congratulations, friend, you have a great problem. Either option will benefit you. Investing the money while keeping your current mortgage can give you more money when you retire due to compound interest and the historical return on investing in the stock market. But paying of the mortgage gives you a guaranteed return, and can also provide you with peace of mind.
Thoughts on achieving financial freedom
The evolving nature of our finances is exactly why personal finance bloggers can write about the topic for years on end. It’s a dynamic topic. Everyone has to tackle their own financial issues and celebrate their personal victories.
I’d love to hear your thoughts. What difficulties have you faced as you’ve been working to improve your finances? Any tips for overcoming these obstacles? What about milestones that you’ve achieved? Is there anything you’d like to brag about?