As we head into 2021, we’d like to remind you of a few tactics to improve your finances. If you have additional questions after reading this blog, please reach out to us at taylorhoffman.com.
1. Eliminate high interest rate debt
One of the first steps to financial independence is to eliminate “bad” debt from your financial picture. “Bad” debts typically include credit cards, personal loans, and payday loans. When it comes to paying off debt, the general rule of thumb is to pay off the highest interest rate first. According to cardrates.com, the average annual percentage rate (APR) for outstanding credit card accounts as of May 2020 was 14.52%. With savings accounts barely earning 1% in interest annually, households with sufficient cash reserves (see #2 below) should consider using extra cash to pay off high interest rate debt.
2. Build up an emergency fund
The coronavirus pandemic served as proof of how critical an emergency fund can be. Generally, you should have between 6-12 months’ worth of living expenses saved in cash. Those who follow this guidance are in a much better position to withstand a reduction in income or job loss. According to Clever’s COVID-19 Financial Impact Series, roughly 3 in 5 Americans (61%) say their emergency savings have either already run out or they won’t last another 3 months.
Write down your specific emergency fund goal so you can track your progress and adjust your spending/savings decisions accordingly. Let’s say your goal is $10,000 for 2021. While that may seem like a large number at first glance, try tackling it in smaller bits; that’s $833 per month or $192 per week..
3. Consider funding a Roth IRA or Traditional IRA
Have some extra cash laying around? Contributing to a Roth or Traditional IRA may be a smart move. Just because 2020 is over doesn’t mean it’s too late to contribute to a Traditional or Roth IRA for tax year 2020. You actually have until the tax filing deadline of April 15th to make a contribution. For 2020, the contribution limit is $6,000 or $7,000 for those 50 and older. It’s important to note that you must have earned income and you may not be eligible to contribute if your income is over a specific amount. We recommend speaking with your tax advisor to decide the best option for your particular situation.
Check out this blog if you are unsure about the differences between a Traditional IRA and a Roth IRA
4. Check if you’re wasting on subscription services
Subscription-based services have exploded over the past few years. According to a 2018 survey by Louisiana Federal Credit Union, 84% of Americans grossly underestimate what they spend on subscription-based services. The study found that on average, people assume they pay around $79.74 a month on recurring monthly expenses. In reality, however, their actual costs were closer to $238 per month, or 3x more than they thought!
Make a list of all the subscriptions you currently pay for, and then cross-check it against your bank & credit card statements to make sure you didn’t forget anything. Then decide which services aren’t worth keeping. This could be an easy way to save serious cash each month without impacting your lifestyle.
5. Automate your savings- pay yourself first
Everyone has experienced feeling rich after getting a paycheck, only to magically watch your checking account dwindle away. An easy way to start saving is to “pay” yourself first by setting up automatic transfers that move money from your checking account (or wherever you receive direct deposit) to a separate savings account. At first you can use the 50/30/20 approach and tweak as you go. Allocate 50% to needs, 30% to wants, and 20% of your pay to savings/debt payments. This can take the stress of budgeting out of the equation and allows for more guilt-free spending.
6. Contribute to your employer sponsored retirement plan
According to personal finance site Motley Fool 20% of people are not contributing enough to their 401k to take advantage of their employers matching program. Receiving a company match is one of the easiest ways to get an immediate return on your money. For example, a company may offer a “dollar-for-dollar match up to 4% of your salary”. This means you must contribute at least 4% of your pay to receive the full match. For an individual earning $50,000 per year, this is $2,000 per year of “free” money your company is depositing into your account.
7. Increase your credit score
Buying a home is a popular New Year’s resolution for American families. Did you know that one of the main factors that determines your mortgage interest rate is your credit score? A credit score is essentially the rating of a lenders confidence in your ability to repay loans. Generally, the higher your credit score the lower your interest rate will be. Credit scores often range from 300 to 850. According to Experian.com, the average FICO Score in the U.S. rose to 711 in 2020. This is an 8 point increase from 2019.
Below are the 5 factors that impact your credit score based on importance (weightings from myfico.com):
- Payment history (35%) – have you paid your bills in full on time?
- Utilization rate (30%) – how much of your available credit are you using each month? The lower the better. Try to keep this number under 30%. If your credit limit among all your credit sources is $10,000, this means spending less than $3,000 per month in total.
- Length of credit history (15%) – How long you’ve been using credit. This often hurts millennials as most only start using credit cards after they graduate from college. Time is the only thing that can help this piece of the puzzle.
- Credit Mix (10%) – how many different credit sources do you have (credit cards, mortgages, auto loans, etc.)? Creditors like to see that you can manage multiple different lines of credit.
- New credit (10%) – how many times have you applied for new credit in the last 12 months? Opening multiple lines of credit in 1 year can have a negative impact on your credit score.
8. Reallocate/rebalance your portfolio
The coronavirus pandemic has certainly taken equity investors on a wild roller coaster ride in 2020 and reemphasized the quote “Expect the unexpected”. 2020 came to a close with the S&P 500 near all-time highs, despite what seemed like an endless supply of negative events. Now may be a good time for you to review your overall investment mix to ensure it’s in line with your goals. Do you have too much exposure to equities for your specific situation? Do you own one stock that makes up a large portion of your net worth? Depending on the type of investment account, rebalancing your portfolio may cause tax implications. We recommend speaking with your tax accountant or financial advisor before making any significant changes.
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