Your Investing Life™: Becoming financially responsible

At a glance

  • Live within your means by earning more than you spend.
  • Work toward saving 3–6 months of living expenses in an emergency fund and 12%–15% of your annual income for retirement.
  • Build a strong credit history.

Most parents aspire to raise happy, healthy children who will become responsible, productive members of society (and move out of the house). Regardless of how we were raised, each of us falls somewhere on the spectrum of financial responsibility—find out how you can improve your position.

Keep income > spending

The math behind living within your means is simple: When you subtract what you spend from what you earn, the result should be positive. If it’s negative, you’re living beyond your means.

If you’re in the black, keep it up. Try to save even more, if you can. If you’re in the red, don’t panic. Take control:

  • Distinguish between your wants and needs. This may be easier said than done. If you don’t have easy access to another form of transportation, a car is a need. A nice car is a want.
  • Create a budget. Just having a general goal in mind for how much you can spend on certain expenses—food, entertainment, housing, transportation—over a certain time frame can help you make smarter spending decisions.
  • Avoid your spending triggers. Don’t sabotage all the good decisions you make with a moment of weakness. If bargain shopping is your downfall, unsubscribe from promotional emails to reduce temptation. If you overfill your cart when you go to the grocery store before dinner, stop shopping when you’re hungry.

More information:
How to take control of your debt

Prioritize your savings

Prepare for an emergency

Having emergency money means you’ll be less likely to need a loan from a friend, a family member, or an institution if your car breaks down or your roof leaks. Even if your emergency stash falls short, it can still lower the amount you have to borrow (and pay back, possibly with interest).

Keep your emergency savings in a low-risk investment like a money market fund so your money will be easy to access and you don’t have to worry about the value of your savings changing over time.

Bryan Lewis
Bryan Lewis

“If you’re still working, aim to have at least 3 to 6 months of living expenses set aside. If you’re retired, try to have 12 months of living expenses saved,” said Bryan Lewis, a senior financial advisor in Vanguard Personal Advisor Services®. “But don’t be afraid to start small and work your way up: Tally your unavoidable living expenses for one month. Divide the amount by 12, and save that amount each month. When you reach that savings goal in one year, do it again until you have a few months of savings to fall back on.”

More information:
Partner with an advisor
Emergency fund: Why you need one

Get ready for retirement

You’re responsible for your retirement savings. The details of your retirement—the age at which you stop working, where you live, and how—are up to you.

Here are the top 3 things you can do to prepare for retirement:

  • Enroll in your employer’s retirement plan if one is offered. (If you don’t have a retirement plan benefit, you still have options, such as an IRA.)
  • Save, or work toward saving, 12%–15% of your gross (pre-tax) annual income, including any employer contributions.
  • Invest your savings in a diversified, low-cost portfolio that complements your time frame and risk tolerance.

Lewis noted that you can use the 4% spending rule of thumb in reverse to come up with a ballpark figure for how much you’ll need to save for retirement. “According to the 4% guideline, if you’re retired and have a diversified portfolio, you can spend about 4% of your initial portfolio balance (adjusted for inflation) each year during retirement. So, if you plan on withdrawing $35,000 from your portfolio each year in retirement, you’ll need to save at least $875,000 for retirement (35,000 ÷ .04),” he said.

More information:
The basics: Saving for retirement
Account types you can use to save

Give yourself credit

Your credit history refers to how you use money. Your credit report is a record of money-related activity (balances, charges, and payment history) on credit cards, some bills (such as utility bills), and loans associated with your name and Social Security number. A credit score is a number that’s based on your credit report—it gives potential lenders a sense of how you handle debt payments and bills.

You need to establish a credit history to get credit. If you don’t have a credit history, it can be hard to get a job, a credit card, an auto loan, an apartment lease, or a mortgage. Before a potential employer, lender, or landlord takes on the risk of giving you something, they want to see evidence that you can handle it.

“In the eyes of a potential lender, your credit report and credit score are good measures of how financially responsible you are,” said Lewis. “And having a strong credit history and a high credit score can also lower your cost to borrow by qualifying you for a lower interest rate.”

For example, if you have excellent credit and qualify for a $20,000 auto loan with a 1.5% interest rate for 5 years, you’ll pay about $772 in interest over the course of the loan. If you have fair credit and qualify for a loan with a 3.5% interest rate for 5 years, you’ll pay over $1,800 in interest—a difference of over $1,000 that you could’ve saved or invested.

Review your credit report for accuracy each year. You’re entitled to a free copy of your credit report once a year, but there may be a charge for getting your credit score.

It’s go time

“Smart money management skills can take time to develop. Start by holding yourself accountable for the financial decisions you make,” Lewis said. “You have a lot to gain by spending less than you earn, preparing for an emergency, taking control of your credit, and saving for retirement. But if you don’t take steps to be financially responsible, you also have a lot to lose.”


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