Financial Resolutions For The New Year

“It is not in the stars to hold our destiny but in ourselves.”

William Shakespeare

The year 2020 is almost here. It’s time to plan our New Year’s resolutions. You don’t need New Year’s to do financial planning, however, the beginning of the year is as a excellent time to review financial goals and improve our habits.

11 Resolutions To Get In Good Financial Shape

 

1. Financial Goals For 2020

How did you do in 2019 relative to your plans? Assess your current goals against your long term plans. A new year means you are one year closer to going to college or graduation, starting your career, going back to school, your kids going to college or your retirement. Any upcoming life events that require you to make changes to your financial goals, like having a baby, getting married or retiring? Revisit your goals and modify for new plans.

If you are getting a raise or bonus, allocate this incremental money among your goals: saving, spending, paying off debt or investing, whatever suits you. In Fidelity’s 10th Annual New Year’s Financial Resolutions study released late 2018, nearly 9 out 10 Americans feel positive about their financial situation. Regarding financial goals, 48% of those surveyed want to save more, 29% plan to pay down debt and 15% intend to spend less. Among mistakes made in the previous year, 28% said they dined out too much. The most significant concern cited by 50% of participants was unexpected expenses. Establish an emergency fund and leave worries behind.

2. Visit A Financial Adviser or Planner

Go to your financial planner before year-end to do tax planning. That may involve selling long term securities with capital losses to offset capital gains in order to reduce your upcoming tax bill. You want to review your 2020 financial goals with a planner. Consider major life events like a new baby and opening a 529 college savings account for college. You may need to add to your life insurance. Review your investment portfolio to make sure you are diversified and modify risk allocations, if appropriate. Allocate money based on contribution limits to retirement accounts (401K or IRA) if you haven’t maxed out.

Planning for retirement is important to do as early as possible to leverage compounding benefits with maximum contributions. Beginning to save for retirement in your 20s gives you a longer horizon to build your nest egg. Adjust your savings to be automatically taken out of your paycheck. If you are getting a raise or bonus, increase your savings amount.

2020 Contribution Limits For Retirement Accounts

For 2020, 401K contribution limits rise by $500 to $19,500  while catch-up contribution for plan participants age 50 or older rises by $500 to $6,500. The defined contribution maximum limit (including employee and employer) has increased $1,000 to $57,000 or by $1,500 to $63,500 for those age 50 or older. Regarding IRAs, the contribution limits are unchanged at $6,000 or $7,000 for individuals age 50 and over.

While you may not need a financial planner or adviser now, you may want to consult with one as you accumulate assets. See our post how to choose an financial adviser here.

3. Protect Yourself Against Unexpected Costs With An Emergency Fund And Insurance

Emergencies happen. They can put a serious dent in our budget and our lives. To save for unplanned costs, my parents kept money in envelopes around the house, under mattresses, and in cookie jars. That works for some of us. Having your savings in a bank generating interest income even at low rates is preferable.

According to the 2018 Report of Economic Well-being of US Households, 40% of adults, if faced with unexpected expenses of $400 would either not be able to cover it or would do so by selling something or by borrowing. Data from GoBankingRates.com says 62% of Americans have less than $1,000 in savings.

You need to have an emergency fund as a financial safety net for times of unexpected expenses that are necessary and urgent. How large it is depends on your basic living expenses, your debt load and lifestyle. Start growing your emergency fund gradually so you can be prepared for your family’s basic needs.

Excuses Won’t Pay Your Bills

Of course, we all have excuses as to why we don’t need to set up an emergency fund account. You may believe you have a stable job, your parents will help you out or you can always use your credit cards. You may not be able to fathom putting one month of savings, let alone the recommended six months of money in an emergency fund. It could simply be that you are procrastinating and intend to have one.

Unfortunately, you can’t time your financing needs for the unexpected situations when you need cash. Unplanned events such as sudden job loss, illness or surgery for your pet are fairly common.  Plan your emergency fund for six months or more as your goal. Your fund should be a big enough cushion to pay your monthly bills and costs such as food, rent or mortgage, utility, health care, car, property taxes, and pet care.

Your emergency fund should be invested in liquid accounts that provide some interest income but is readily available. If you put your money into a CD account, make sure you know the terms of the CD so it is available when you need it. You can read more about the emergency fund and how to invest it here.

Insurance Is Necessary To Protect Family And Assets

Along with having an emergency fund, you need to consider if you,  your family and assets are properly protected by insurance. Protect important areas notably life, home, health, and disability. We need to protect ourselves from events that happen out of our control. Shield your income, property and possessions from the possibility of financial losses that could result in bankruptcies. Unforeseen events like accidents, natural disasters, illness, injury or even death may present risks to our assets and families. There are 8 types of insurance you need.

4. Net Worth And Budget Are Key Tools To Measure Wealth

 

Your net worth statement and monthly budget statement are the important financial statements to create, measure and update. They hold the key to your current financial life. Net worth is a snapshot of your financial condition. It is calculated using total assets, that is, what you own less total liabilities, or what you owe. Hopefully, what you own is in excess of what you owe.

This is your personal balance sheet measuring your net wealth at a point in time. As you add to your assets, hopefully outpacing your liabilities, you will be getting wealthier. Two ratios to review:

Net Worth Ratio= Total Assets Less Total Liabilities

Your total assets are what you own at its current market value. Total liabilities are what you owe based on your debt obligations, notably the balances on your credit card debt, mortgage, car loan and any other loans you have. The higher the positive number you have, the better off you are financially.

Targeted Net Worth Ratio (The Millionaire Next Door)

This ratio comes from one of my favorite personal finance books, The Millionaire Next Door. I have read it at least twice and refer to it often when teaching my college students about overspending. The book advocates for high savers who do a better job maintaining and building your wealth. They use age as a factor in the calculation as some other ratios do.

Targeted Net Worth Ratio= Age x (Pretax Income/10)

Your targeted net worth provides you with an indication of what you should be worth after liabilities.  For example, if a 30 year old is making $95,000 annually, his/her net worth should be $285,000. That amount is derived as 30 x (95000/10). It is a guidepost to help you reach your goals.  Although somewhat arbitrary, it gives you some context of what could be achievable if your goal is financial flexibility.

Budget Matters

The monthly budget is your income statement. It is based on your total sources of income less total expenses (fixed and variable expenses). When your income exceeds your costs, you have money to save, add to your emergency fund, pay down debt and invest for the future. On the other hand, if your costs exceed your income you will need to earn more income, borrow to pay costs, reduce spending or a combination of these.

Your monthly budget can be done on a spreadsheet or app, plugging in your monthly pretax income less fixed costs which are largely your living costs such as rent, utilities, monthly car payments, insurance, typical food/grocery,  and other debt. Your variable costs are often discretionary and include dining out, entertainment, travel, and potential costs. Another way to budget, is simply track your monthly expenses by reviewing your bills. You be surprised how much you spend on things you didn’t need.

 50-20-30 Budget Ratio

Alternatively, you can use the 50-20-30 budget ratio, a methodical way to budget. Harvard Professor, Senator, now Presidential candidate Elizabeth Warren is known as a bankruptcy expert. Warren popularized this ratio in her book written with her daughter in 2005, “All Your Worth: The Ultimate Lifetime Money Plan.” 

Essentially, you are allocating your after-tax income into three budget buckets:

• 50% of your spending is for your needs, notably housing, utilities, groceries, car payments and other needed fixed expenses.
• 20% for savings that can be used for paying down debt, emergency fund, and  investing or combination.
• 30% are for your wants, that is discretionary or flexible spending for entertainment, vacations, and shopping.
• This what is left after your allocations are made for priorities, notably needs and savings.

Whatever works for you, start budgeting early. Budgeting is difficult when you are younger, not making a lot of money yet and just starting out in your life. You may be carrying student debt and renting an apartment while your salary is at the beginner’s level. On the other hand, you have less costs to monitor so make it a good lifelong habit. Use it as a motivational tool to save more and spend less.

You should review your budget at least monthly with your spouse or significant other. Review each other’s expenditures in the various categories to make sure you are on the same page. Couples often spend differently and it is important that you are communicating with each. other. By sitting together, you may find ways to cut out costs and save more.

5. Spend Within Your Means

Spending can be the root of financial evil if you splurge too much. Only 46% of Americans report making more than they spend according to a Pew Research study. Overspending leads to borrowing, usually with higher cost debt associated with credit cards. How to better manage your spending should be a priority. To seriously cut spending, you need to examine your household budget.

Track your daily spending for a month and review it for items you may not have needed. Cancel subscriptions you no longer need or unused services. Consider negotiating better rates for services, especially if there is competition. Just asking whether a lower rate is possible even if it means less premium services you didn’t need can produce savings. Make savings a habit by saving a little at a time. You should budget for 10%-15%  of your income going into savings. Part of those dollars should go towards unexpected needs. Here are some ways to save, ” 25 Ways To Save Money And Feel Good About It.

Healthcare FSA: Are You Under The Limit? Spend Before Yearend

There is one place you may need to spend more. It’s for healthcare expenses using pretax money. If you have a healthcare flexible spending  (FSA) account through your employer, you may need to spend more pre-tax dollars on healthcare costs if  you are below your FSA limit for the year. This is a nice tax benefit. The 2019 FSA contribution limits are $2,700. Health FSAs may be used for a wide range of out-of-pocket healthcare expenses for medical, dental, vision, co-pays, deductibles, and prescriptions. For 2020, FSA contribution limits rose another $50 to $2,750.00

6. Manage Your Debt More Wisely

Be ready to tackle some tough choices and trade-offs regarding your debt management. It is hard to accumulate wealth if you have too much debt. To strengthen your financial health, you need to deal with your debt wisely.You will accumulate debt in your lifetime. Borrowing is not always a bad thing especially for good reasons like for your college education, furthering your career or buying your home. Make sure you are getting the right loan.

If 2020 is the year for buying a home, consider the 15 year fixed mortgage vs. the 30 year fixed mortgages. The shorter mortgage term will cost more per month but your total cost for your home will be lower. Have you considered renting over buying a home? Buying a home is not an investment, it is the place you and your family live and hopefully enjoy.

However, if you are looking at your home as an investment, you may want to look at your borrowing rate versus the investment returns you might have earned over the same timeframe. There are trade-offs between owning a home, paying a mortgage and not being able to make investments for the long term.  There are some pros and cons to consider whether to buy or rent your home here.

Opt for shorter loan terms if you are buying a car unless you are paying cash.. The typical term length for auto loans is 68 months according to ValuePenguin.  Loans of 72 and 84 months are increasingly more common with 96 months available. The longer the loan term the higher the interest costs that is added to the price of the car. Find another car you can better afford than adding all that cost.

Using Credit Cards Require Discipline

You need good financial habits when dealing with borrowings, especially with credit card debt. Don’t overleverage yourself with credit card debt. Have rules you can keep. Pay off your credit card balances off in full every month. Paying the minimum on time avoids hits to your credit score and penalty payments, however you will be paying higher borrowing costs over a longer period. Make sure that you automate all your loan and bill payments.

According to FINRA’s 2015 financial capability study, 32% of consumers pay only the minimum monthly card balance as compared to 52% that pay the balances in full. Paying the roughly 2.5% required minimum on a $3,000 balance can take over 20 years to pay if off. The average US consumer has 3.1 credit cards with an average balance of $6,354 plus an additional 2.5 retail store cards with $1,841 average balance according to Experian’s 2018 study. About 41.2% of all households carry some credit card debt.

If you can’t pay your monthly card bill in full each month, cut your spending. When you pay only the minimum balance on your cards, you are paying high interest payments for a longer time. You will be wearing a financial noose around your neck far longer than you want. When you get overwhelmed with your credit card balance and your debt balances, make reducing your debt levels your top priority. The stress levels of having too much debt can engulf us, resulting in higher absenteeism at work and an inability to fully function.

Two methods to reduce debt: the Avalanche Method and the Snowball Method

Assume you have the following debt balances:

• Credit card debt of $3,500 @ 15%
• Student federal loan#1, of $5,000 @ 4.5%
• Student private loan#2,  of $7,000 @ 7.5%
• Car loan of $13,000 @  5%
• Miscellaneous debts of $1,500 @ 4% average rate

Using the avalanche method, you would prioritize your high cost debt first. That will likely be your credit card balance by targeting the credit card debt at the higher 15% rate.

If you are only able to pay $1,000 per month, it would take you 3.5 months to bring down your balance to zero.

Mathematically, the avalanche way makes sense to rid yourself of high cost debt. That debt grows faster and your total interest costs will likely be lower using the avalanche method.

The snowball method is gentler. You begin to pay down your smallest debt amounts. This should motivate you to get into the habit of paying down debt and feeling accomplishments sooner. Here, you would pay the smaller amounts in the miscellaneous total before challenging yourself with the bigger amounts at higher rates. You will likely be paying more in total borrowing costs.

Which method to use?

One way to look at debt reduction is to look at as a trade-off in investments. Paying down debt with higher interest rates of over 15%, is like making a 15% return! That already feels like an easy choice.

For those who are highly motivated, analytical, and ready to take on the task to lower their borrowing costs, the avalanche method is better.

It is truly a personal choice. The best choice is to get started on addressing your debt so you can move on to better financial health.

Ways to find cash to pay down debt: 

• Annual tax refunds
• Sale of an investment earning lower returns than what you are paying
• Your annual bonus
• Spending below your earnings and resultant savings can help

 

7. Review Your Credit Report And Raise Your Credit Score

As part of your new year’s resolutions, make sure to review your credit reports via AnnualCreditReport.com. You can rotate among the 3 credit bureaus to review your report every few months. Errors on your report can hurt your credit and need to be fixed promptly. Our financial lives depend on our creditworthiness. When we go for a loan, lenders review our credit report and our FICO credit scores to determine what our annual percentage rate (APR) should be. Generally, the higher our score on a 300-850 score, the lower the borrowing rate we will pay on our loans for our car, mortgage or college tuition.

Your credit report may contain errors that you need to fix quickly as our credit standing is required for many aspects of our lives:

• Knowing where you stand before making important financial decisions.
• Borrowing for a home purchase.
• Car loan or lease.
• Student loan.
• Checking for inaccuracies, identity theft and fraud.
• Getting a job.
• Renting an apartment.

 

Can You Improve Your Credit Score?

The short answer is yes, you can! Read our post on how to the FICO Scores is formulated and six ways to raise your score here.

8. Investing As Early As Possible

As you save more, allocate some money for investing purposes. Small amounts invested in your portfolio in your 20s can make a big difference long term through compounding of returns. Make sure that you diversify your portfolio so you are not concentrated in one or two stocks in the same industry. When you are young, you can take more risks and afford to have a greater percentage in stocks.

The best way to achieve diversification is to buy low cost index funds or ETFs of your choice. Vanguard is one of the best mutual fund companies with low costs and diversification of all kinds. If you don’t want to deal with changing allocations of assets you may try target date funds.

You don’t need a lot of money to begin investing in stocks. Read our guide on investing for beginners to learn some basic fundamentals here. You can open up a free account at Robinhood to begin investing. Many of my college students use Robinhood to buy stocks. I always suggest that you research a bit before buying stocks, learn about financial markets through some experts like Jim Cramer and of course Warren Buffett. We have a lot of resources in several posts on investing. Make sure you are investing money you don’t need for your living expenses.

9. Review Your Designated Beneficiaries and Estate Planning Documents

Create your estate plan so you will have control over your asset distribution to your loved ones during your lifetime. Aim for your plan to be as litigation-free as possible. Beneficiary designations are an important way to distribute most of your assets effectively. You should review your beneficiary designees annually or in the event of major life changes so they reflect your wishes.

Most of your assets can be easily transferred to your intended heirs quickly. You will avoid often painful and lengthy probate court procedures. Your will actually doesn’t control who inherits all of your assets. In reality, the majority of the average person’s assets are transferred by contract.

Transferring Assets Outside Of Your Will Is More Efficient

Many of our assets are nonprobate property. As such, they are transferable to survivors by contract immediately upon death rather than under a will.

The advantages of contract transfer over the distribution of assets by a will are less time, cost and more privacy. Transfers to loved ones by a will could take 6 months-1 year if probate is not required. If contested in court, the distribution could take longer. Even worse, your will would be made public through court documents.

We explain how to make proper beneficiary designations so that our intentions are carried out.

For many of us, the majority of our assets can be transferred out via designated beneficiaries. However, if you have a lot of assets, you need to create and review your estate planning documents.

10. Charitable Donations

The end of the year is the time to make donations to your favorite charities, give unworn clothes away, canned goods, and look for volunteering opportunities in the new year. To satisfy the IRS deadline for yearly tax deduction eligibility, your contribution needs to be received and processed by December 31. Read Schwab instructions carefully as there may be earlier timeframes depending on the assets.

Others depend on us. We make a living by what we get, but we make a life by what we give.  Winston Churchill

11. Be Grateful

There is a lot that has happened in the past year for all of us. Take stock of those events. Take time to be grateful that you and your loved ones made it to another year. Thank others you work with, your clients, doormen, those invisible folks in your workplace that empty your trash and who keep your place clean, those who wait on us in restaurants and service, including our military who keep us safe. Say thank you to your friends and loved ones and in your heart for those who are gone.

Gratitude is a healthy attitude to have. Yes, it can lead to better finances. It’s free and doesn’t take up a lot of time.

Final Thoughts

Starting the year with financial discipline is a great way to achieve your financial goals. Set the stage for a prosperous and healthy year by jumpstarting the planning process. Hopefully, these 11 money tips inspire you to take action, make needed adjustments and be on the right path to accumulating wealth. Wishing you and your family a happy and healthy new year’s!

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