Managing your money can feel like trying to find that second sock in the laundry. You look and look until ultimately relenting and wearing one white and one green just to get through the day. No one will see your socks anyway. But then tomorrow arrives and you find yourself holding one white sock again.
So it is with finances and investing. We all start the day with the best of intentions: “Today, I will build a budget.” “Today, I’ll get my 401(k) in order.” And yet somehow we always end today in the same financial fix we were in yesterday.
Investing, like pairing freshly laundered socks, is not something to procrastinate about. Improving your financial future requires taking action, but that doesn’t mean tackling the whole mess at once. To give yourself the best chance of investing successfully, you need to prepare. This is where your money-do list come in. It’s the tasks to complete to get your financial life in order before you start investing, starting with knowing where your money actually goes.
Follow your money. Your first money-do task is to follow the money — your money. Financial health begins with taking stock of your financial situation, writes Brad Bernstein, senior vice president of UBS Wealth Management in Philadelphia, in an email. This means knowing how much and where you’re spending.
There are various ways to track your spending. You could use a journal to write every expenditure down for a month or an app like Mint that tracks it for you. Once you know where you’re spending, look for places to cut costs.
One trap many young adults fall into when they get their first jobs is thinking they can maintain the lifestyle their parents accustomed them to, says Rich Ramassini, senior vice president at PNC Investments. These young adults shop at the same stores and buy the same organic products without understanding if they can afford it — and often they can’t.
[See: 7 Investing Fees You Might Not Know You’re Paying.]
The goal is to get to a place where you’re making more than you spend, Ramassini says. Then you can divert some of that surplus toward other purposes, such as building your savings.
Establish a discipline of saving. You can’t invest unless you save, and you won’t save if you’re not disciplined about doing so.
In a recent survey, Chime, a U.S. challenger bank app, asked college grads how important getting into the rhythm of saving is. The response was an overwhelming “very” or “extremely.” More than 90 percent say they wanted to set aside 12 percent of their future income on average.
Of course, wanting isn’t the same as doing. “Everyone knows they need to [save] but the reality is they’re really bad at it,” says Chris Britt, chief executive officer and co-founder of San Francisco-based Chime.
A recent PNC survey found that 60 percent of Americans couldn’t come up with $400 to cover an emergency, Ramassini says. The reason we struggle to save is the same reason our crash diets fail: Our approach isn’t sustainable.
You can’t expect to live on half your starting salary any more than you can survive on half a grapefruit a day. Nor can you build your savings with one $100 deposit alone. To develop a rhythm of saving, it needs to be sustainable and a priority.
An easy way to make saving a priority is to automate it. The trick is to put the money aside before you even see it. If it doesn’t pass through your hands — or your checking account — you can’t be tempted to spend it.
At Chime, savings are automated by rounding up purchases to the nearest dollar and saving the change, or you can elect to have 10 percent of your paycheck automatically funneled into your savings account if you enroll in an early direct deposit program. Little tools like these help people get into the rhythm of saving without it feeling like a lot of work, Britt says. Many banking apps and services provide similar features.
Too many people let their spending determine how much they save, but that’s backwards, Ramassini says. Your savings should dictate your spending.
[See: 8 Steps for Investing a Tax Refund.]
Build an emergency fund. You need an emergency fund to give your investments the best chance of long-term success. An emergency fund is typically three to six months of living expenses kept in cash or cash-equivalents that aren’t subject to market volatility or at risk of losing value, Ramassini says.
The idea is to tap the fund, not your investments, in an emergency, Bernstein says. Keeping your investments intact, along with investing early, lets you harness the advantage of time. More time for your investments to grow equals more future wealth. When you sell those growing investments, you cut off their growth.
Selling also means having to pay taxes on any gains. Gains from investments held more than 12 months in a non-retirement account are taxed at 15 to 20 percent; investments held 12 months or less are taxed at your ordinary income tax rate. Dipping into a pre-tax retirement account like a 401(k) for an emergency can cost you even more as the money is not only taxed as ordinary income but also slapped with a 10 percent early-withdrawal penalty if you’re younger than age 59 1/2.
The flip side of the coin is if you’re paying taxes, your investments must have made money. An even worse scenario is having to sell at a loss to cover an unanticipated expense.
Pay off high interest rate debt. The last financial task to do before you start investing is pay off high interest rate debt.
And really, paying down debt is a form of investing. Every dollar you pay off on a credit card charging 18 percent is essentially earning an 18 percent guaranteed return. You won’t find returns like that in the market.
“You never want to owe more on a credit card than you can pay in a month,” Bernstein says.
[See: 10 Important Investments Before Having a Baby.]
Which brings us back to knowing what you spend. These disciplines of controlling your expenses — including your debt — and saving regularly lend themselves very well to investing, Ramassini says. When investing, as with laundry, you need a disciplined approach that keeps costs down and grows with you and your lifestyle.
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Your Money-Do List: 4 Things to Do Before You Start Investing originally appeared on usnews.com
