Even if you have a financial plan in place, it's not uncommon to veer off course now and then.
Here are six common personal finance pitfalls, along with practical tips for navigating them so you can stay on track toward your long-term goals.
It's fun to indulge in dining out, concerts and travel once in a while, but lifestyle creep can easily occur unnoticed over time as spending that may have been infrequent becomes a habit.
Tip: A good rule of thumb is to keep essential spending at 50 percent of your income, discretionary spending at 30 percent and save the remaining 20 percent. Consider increasing the amount you put away to be on track to hit your short or long-term financial goals, such as increasing your emergency fund or retirement savings.
A couple thousand dollars in a savings account may seem like a good cushion, but not having enough money saved to cover an unexpected expense like a car repair, job loss or medical event can snowball. For example, redirecting funds could negatively impact your other financial goals, like building your retirement savings.
Tip: The general rule of thumb is to have at least six months' worth of your household income set aside for unexpected expenses. If six months sounds intimidating, start with three months and grow your savings from there.
It can be tempting to lease an apartment or buy a house beyond your budget, even if you’re approved to pay more. Taking on too much in rent or mortgage payments could mean forgoing other financial goals or feeling financially pressured.
Tip: It’s commonly suggested that you spend no more than 30 percent of your gross income on housing. That benchmark can serve as a reminder that households have many expenses besides housing costs that need to be planned for. It’s important to also consider whether the purchase will hinder your ability to meet other financial goals.
It’s natural for parents to want to help their children with college, but it’s important not to sacrifice your own financial goals to do so. While children can take out loans and apply for financial aid to help cover their school expenses, your options for funding your retirement are much more limited.
Tip: Prioritize your retirement savings. If you have access to an employer-sponsored retirement account, take advantage of the contribution match if one is offered. Also explore a 529 plan, available in most states, which provides tax benefits for college savings.
Your investment strategy should change along with your age and financial goals. However, changing your investment strategy based on emotion can hurt your returns. Investors who try to time the market in response to short-term swings often do poorly, and their portfolios would have performed better if they had followed a consistent plan.
Tip: Rather than attempting to time the market, focus on time in the market. While past performance is not a guarantee of future results, investors with diversified portfolios who stay in the market have historically and consistently experienced steady gains over time. Consider crafting a long-term strategy with a financial professional that you can stick to.
If you have an employer-sponsored 401(k) account, you can borrow money from your account, whether to pay for children’s college tuition or to cover emergency expenses.
While you’ll have a certain number of years to repay loans from your 401(k) (total years will depend on your loan type), you’d be making loan payments in addition to new 401(k) contributions until you’ve repaid your loans. If you leave your company, the loan must be paid off immediately. If you don’t pay it off, the loan will be considered a taxable distribution and possibly incur taxes and penalties.
Tip: Resist this temptation if you want to stay on track for your retirement. You’ll lose out on the benefit of compound interest, meaning it may be costlier — and sometimes unrealistic — to rebuild your retirement fund to the same level later.
These common mistakes can derail you as you work toward your long-term financial goals. Consider working with a financial professional to determine how to best meet your goals based on your personal circumstances. And remember to revisit your plan each year to adjust changes along the way.
Wondering if a financial plan is right for you, or want to make sure you’re on track with your short- and long-term goals? Learn about the 5 key components of a financial plan.