For young people still trying to build their careers, focusing on retirement or saving for the future may not seem like a top priority. But it can be costly to make the wrong money moves early on.
Here are the five most common mistakes young adults make when building their financial lives:
1. Waiting too long with retirement savings
Planning for retirement is about finding a balance between putting money aside for later and having enough to pay for things now. But financial planners warn that the price of procrastination can be high.
Thanks to compound interest, even modest amounts of savings will grow exponentially over time.
For example, someone who started saving $100 a month at age 25 could grow their money to about $150,000 at age 65, with a return of 5%. Meanwhile, if you wait until age 35 to save $100 a month, you’ll end up with just over half as much money at retirement age.
But most people don’t start early enough to take advantage of that compound interest factor.
“Some people put off contributing to retirement because they still have student debt, but a bigger reason is that they think retirement is still a long way off, but if they wait too long to start, they may need to catch up or take a break. plan retirement later,” said Jay Lee, a certified financial planner at Ballaster Financial.
2. Not maxing out a 401(k)
One mistake younger employees often make is not taking full advantage of their 401(k). While retirement may still seem a long way off, investing in a tax-advantaged retirement savings plan like a 401(k) can give you more leeway to achieve other financial goals.
In addition, you could leave money on the table if your employer offers appropriate contributions.
“Many employers match premiums to a 401(k), meaning maximization can significantly increase the money in your account,” Lee said, “And because the contribution to a 401(k) is tax-deductible, you can have more money left over for investments or expenses. †
Aside from a traditional 401(k), financial planners also encourage young adults to explore other options that are a better fit for them, such as a Roth 401(k), which offers no upfront tax break, but is tax-free when revoked upon retirement. .
“A Roth 401(k) account could make more sense [for younger people] because they’re usually in a lower tax bracket than when they retire,” said Lamar Watson, a certified financial planner in Reston, Virginia.
3. Falling victim to lifestyle inflation
“Lifestyle inflation” or “lifestyle creep” occurs when people begin to see past luxuries as a necessity.
“Social media creates the desire to keep up with others,” said Nick Reilly, a certified financial planner in Seattle. “The fear of missing out, combined with an ‘I earned it’ mentality, has led more millennials to spend the majority of their earnings on things that provide short-term satisfaction and status.”
Young people usually underestimate how much they can save on rent and food and how overspending can seriously derail other financial plans.
“Living in a walk-up apartment rather than a building with elevators probably won’t feel all that different when you’re young, but it can save a lot of money,” Watson said. He suggests keeping rents below 25% of your gross monthly income and food costs below 15%.
4. Not enough savings for emergencies
Emergency funds can save the day if you lose your job, become too sick to work, or cover other unexpected bills. However, young people can sometimes be overconfident and ignore those risks.
“It’s not surprising to see young adults who have no emergency funds at all,” Lee said, “which is worrying because it’s an important financial buffer and can keep you from getting further into debt.”
Lee said any amount is a good start, but in general, singles should set aside six months’ worth of expenses for an emergency. For dual earners, the amount must be at least three months.
5. Holding too much in volatile assets like cryptocurrencies
While newer investments such as NFTs, meme stocks, SPACs, and cryptocurrencies can offer attractive growth potential, ignoring their volatility can seriously jeopardize your financial health.
“Thanks to social media, chances are that everyone knows someone who got rich quick with at least one of these opportunities,” Reilly said.
Some financial planners refer to this as the ‘Shiny Object Syndrome’. High-risk, high-volatility investments are increasingly appealing to younger investors looking to build wealth quickly, and can make long-term, more established wealth-building methods, such as stocks, boring.
“But it’s extremely dangerous to put all your money into risky assets like NFTs or cryptocurrencies,” Watson said. “When it comes to financial planning, it’s more about preparing for the worst than chasing the highest returns.”