After the hustle and bustle of the holiday season, life is slowing down again for many of us in the new year. That means it’s a perfect time to review your finances. In fact, January is Financial Wellness Month. Which gives you even more reason to check up on your financial knowledge for the year ahead.
Financial knowledge is also often referred to as “financial literacy.” Financial literacy is important because it helps you navigate the world with the tools and knowledge necessary to be successful in managing your money.
Learn more about financial literacy, why it’s important, and key financial concepts to understand.
The Importance of Financial Literacy
Being financially literate means you have the knowledge you need to make informed financial decisions. Unfortunately, a lack of financial literacy can lead to financial mistakes that can hurt for years to come.
In the United States, the statistics about financial literacy indicate a need for improvement. According to Fortune, only one-third of American adults were able to pass a basic financial literacy test. In fact, their research showed that the number who could pass the test had decreased from years prior.
And when taking a look at one of the country’s generation of younger adults -- millennials -- only 24% demonstrated the ability to understand basic financial topics. (GFLEC)
Financial Concepts to Understand
Even if you didn’t learn about personal finance in school, or from your parents, it isn’t too late to take steps toward improving your financial knowledge. We’ll walk through some of the most important concepts to understand on your journey to financial wellness.
Checking and Savings Accounts
There are a couple of main differences between checking and savings accounts to be aware of. Checking accounts are primarily for accessing your money on a daily basis, and savings accounts are generally meant for stashing your money away -- or saving it -- for another day.
With checking accounts, you’ll most often receive a debit card or checkbook in order to make payments for groceries, filling up the car with gas, or any other daily expenses. But, as your savings account is for holding money rather than spending it, you won’t receive a debit card. The longer you’re able to leave your money in a savings account, the more potential it has to accumulate interest.
Credit Usage and Loans
Besides debit cards, credit cards are another type of plastic many of us carry in our wallets.
A credit card is a type of loan, or a revolving line of credit, and you’re technically spending money you don’t have yet. This is in contrast to using a debit card, where the money you’re spending comes directly out of your checking account.
Credit cards can have benefits, but responsible spending is important. If you don’t pay it off in full every month, you’ll have to pay interest to the lender. That means you may end up responsible for paying much more than the original loan amount.
Other types of loans, such as student loans, auto loans, and mortgages, operate similarly. Most people aren’t able to pay them off entirely in one payment, meaning interest will accrue over a period of months or years. That’s why you should be sure you know what you’re getting into when taking out any type of loan.
One major factor that impacts the interest rate you get on your loans is your credit score. There are two types of credit scores -- the FICO Score and the VantageScore -- though the FICO Score is more common when it comes to lending decisions.
FICO scores are calculated using the following percentages of importance:
- 35% Payment History: Lenders want to know whether you make your payments on time, which gives an indication of how reliable you are.
- 30% Credit Usage: If you are using too much of your available credit, it may mean that you are overextending yourself and spending at an unsustainable level.
- 15% Length of Credit History: New credit users can seem like more of a risk to lenders.
- 10% Credit Mix: Credit is more than just credit cards. The better you can manage a mixture of credit, the better your score will likely be.
- 10% New Credit: If you have a lot of new credit lines opened in a short amount of time, this could impact your credit score.
One of the smartest ways to set yourself up for financial success is by making -- and sticking to -- a budget. Budgeting can help you get a clear picture of your cash inflow and outflow, and it can even illuminate the areas you can afford to cut back in order to meet more of your savings goals.
Goal-setting is an important part of the budgeting process. When you budget with a specific goal in mind, you will have an easier time getting to your destination. Next, analyze and categorize your current spending: food, utilities, insurance, medical bills, childcare, after-school activities, and more.
Then, plan for your goals by putting them in your budget as expenses. See how it all fits together. Always remember -- be flexible, keep track, and work to make savings a part of your budget. Making adjustments from month to month can help you be realistic and meet more of your goals.
Investing is a way of setting your money aside for a certain period of time and allowing it to grow. And investing is more than just the stock market.
It may seem like a complicated concept, but it doesn’t have to be. Putting your money in a Certificate of Deposit (CD) for a certain number of years is an investment. Contributing to a retirement account such as a workplace 401(k) or a Roth IRA is an investment. You may be investing without even knowing it.
With investing, you’re essentially allowing another entity to “borrow” your money for a period of time; then, they pay you interest. That’s part of the way your money is able to grow. While returns on investment are not guaranteed, there are certain types of investments that hold less risk than others. CDs are fairly risk-free; the stock market, on the other hand, can be risky. Be sure to evaluate the level of risk you can tolerate before making any investments.
To Your Financial Health in 2022
Checking up on your financial knowledge and reviewing key concepts can help you feel more confident in your financial life in 2022. Academy Bank will be here as your partner through it all.
And happy and healthy New Year to you!