10. Establish an emergency fund.
You don’t hear much about emergency funds these days but they serve as the first line of defense against having to take on unwanted debt. (If you don’t have an emergency fund, you will likely have to borrow money when an emergency pops up.) As such they are one of the most fundamental and important money moves anyone can make. This is why Dave Ramsey lists having an emergency fund as No.1 of his seven baby steps.
Why have an emergency fund? Because unexpected financial problems happen rather regularly. Washing machines break, cars need repairs, kids need braces, and so on. And heaven forbid that you lose your job. That’s one really big reason to have an emergency fund.
So how much should you save in your emergency fund? A good rule-of-thumb is to have six months’ of living expenses saved up. In addition, be sure to keep your emergency fund in a safe place — you certainly want it to be there when you need it. Don’t worry about earning a ton on it, no one ever became rich by making money off their emergency fund, just make sure it’s safe and accessible.
We have always had at least six months of cash on hand and usually store it either in a bank or online savings account. With today’s technology, it’s easy to transfer from any of these one account to another when needed.
9. Have a will.
The question here is whether you want to decide where your money goes if you pass away or whether you want the government to decide. For me, that’s a rather easy question to answer.
Even more important, if you have children in your home, you’ll want to both provide for them as well as direct where they go in case of your death. A will can do all these things for you.
In addition to a will you’ll need the other documents that account for good estate planning – probably at least Patient Advocate and Medical Records Release documents for most people.
And be sure to keep all these up-to-date as your life situation changes.
We have had a will since our kids were young. Now that they are both legal adults, we will be updating our will to reflect those changes.
8. Get good insurance coverage.
To me insurance is a very big emergency fund that supplements your cash emergency fund. It covers the things you couldn’t save up to cover in advance, helping to replace/protect the largest assets you have — your career, your home, your investments — if you experience a major accident, death, or injury.
Here are the insurance categories where you may need coverage:
• Auto — Of course. Auto accidents happen frequently. And some (all?) states require you carry insurance.
• Homeowner or renter’s — Your home is a major asset that you want covered in case of disaster. And if you rent, you likely have thousands of dollars in assets you’ll want to cover.
• Life — If other people rely on your income to survive, you need life insurance. We got $1 million on me and $300k on my wife several years ago. Now we really don’t need it but will let the 20-year policies run their course.
• Long-term disability — Many employers provide this but you’ll want to be sure you’re comfortable with the terms if you need it. If not, you may want to buy supplemental insurance on your own.
• Health — Again, covered by many employers. If not covered, let me just say getting health insurance in America is a mess these days. And that’s all I have to say about that.
• Umbrella — As your net worth grows, you’ll want to have this fairly inexpensive insurance to protect your assets in case you’re sued. I usually have it set at the next million dollars above my net worth (i.e. if my net worth was $1.6 million I’d have $2 million of umbrella insurance).
• Long-term care — This one isn’t mandatory yet in my opinion, but I’m still considering it. I’m interested in your thoughts on it.
One more bit of advice: do not go overboard and become over-insured. No one needs to win the lottery when misfortune occurs (for example, your family most likely does not need a $10 million life insurance policy on you. If you have one and you don’t make $1 million a year or so, you’re probably spending too much on life insurance.) But you do want to be sure you have enough insurance to replace your assets in times of trouble or loss. Take a balanced view and only pay for what you truly need.
7. Track net worth and cash flow.
It’s hard to know if you’re winning if you don’t keep score and it’s hard to get somewhere if you don’t have a map. Your net worth is your financial scorecard and your cash flow plan is your money map.
Net worth is how you measure and track your wealth. It allows you to keep score with how you’re doing financially. Without it you have no idea whether or not you’re making progress.
You can track it many ways: on paper, in a spreadsheet, with a program like Quicken (which is what I use), or online at a site like Mint. The method doesn’t really matter — use what works for you — but you need to track it. I update mine once a month as I update my accounts in Quicken. That’s probably the most frequent you want to look at yours as any shorter and it gets obsessive. Calculating net worth once a year is a bare minimum, so pick something between a month and a year that works for you and record your net worth. As you do you’ll see things you need to change, moves you should make, etc.
Net worth goes hand-in-hand with tracking and managing your cash flow. Cash flow lets you see how much revenue comes in and where it goes. It allows you to make spending decisions that ultimately create your gap — the difference between your income and expenses. Your gap then fuels your net worth as it is money that can be invested and grown.
You can create and track a cash flow plan (aka “budget”) in many ways, very similar to tracking your net worth. Personally I use a spreadsheet because Quicken’s budgeting tool isn’t as flexible as I like. I set the budget for a year and review actuals versus projections at the end of each month. Then I can make timely adjustments that help me get where I want to be financially.
6. Create a plan.
You may be surprised that this is so far down the list and certainly an argument can be made that it should be higher. But in my experience the items that are ahead of this are much more important. I know this from personal experience. For years I didn’t really have a financial plan (at least a well-thought-out one), but I took the other steps on the list and did very well. I would have probably done better if I had a plan, and that’s why I’m including this on the list.
One of my favorite business books of all time is “The 7 Habits of Highly Effective People”. Habit No. 2 is “begin with the end in mind.” In other words, think about the outcome you want to have in one, five, 10, or however many years down the road. Once you then know where you want to end up, you can develop a plan to get there.
So what do you want? To retire early? Financial independence? Something else?
Whatever you want, having a plan to get there will help you focus as well as make decisions that speed the process.
As I mentioned, I was not the greatest in this area. I knew in a general sense that I wanted to retire early and live off the income of my assets, not drawing them down. I also had general numbers in mind that I thought would get me there ($4 million in net worth and $100k in annual income.) Then I started developing a specific retirement plan and running the exact numbers. I found out that I could retire whenever I wanted, and shortly thereafter, that’s what I did. If I had a plan earlier and focused on it, I think I could have retired many years earlier.
5. Marry well.
It takes two to tango and it certainly takes two on the same page to build net worth. This is, of course, if you’re married. You don’t have to be married to have a solid net worth, but there are financial advantages to marriage (two incomes, division of labor, etc.) that help.
An absolute killer to your finances is having different views and plans for your money. There will be differing opinions, of course, but there needs to be compromise and an agreed upon plan that both people work toward for you to reach your financial goals.
The biggest issue generally is that one spouse ends up being a saver and one a spender. This is OK if each is in moderation, but an out-of-control spender will kill anyone’s finances no matter what income you have.
I love this quote from “The Millionaire Next Door”:
“What if your household generates even a moderately high income and both you and your spouse are frugal? You have the foundation for becoming wealthy and maintaining your wealth. On the other hand, it is very difficult for a married couple to accumulate wealth if one is a spendthrift. A household divided in its financial orientation is unlikely to accumulate significant wealth.”
On the other hand, spouses that work together can be a powerful financial force — much greater than either of them individually. In our house I was great at earning a good income and my wife was great at keeping spending under control. Those were perfect complements that allowed us to develop a significant net worth.
And let’s not forget the cost of divorce. Whenever you take a 50% hit to your net worth, it’s a bad thing indeed.
This is why it’s vitally important to your financial success that you marry well.
4. Avoid debt.
This one may be controversial as I know some readers advocate using debt as a way to grow your net worth. It may be a valid option, but I’m sticking with what got me where I am today and that’s why I list avoiding debt as a top money move.
We’ll begin with the fact that debt costs a fortune, especially consumer debt. How much does it cost? Consider this the tip of the iceberg from NerdWallet:
“The average U.S. household carries $15,675 in credit card debt paying a total of $6,658 in interest per year. This is 9% of the average household income ($75,591) being spent on interest alone.”
That is an absolute killer.
Then there’s auto debt, which is almost as bad, and almost twice per household of what credit card debt is. Ugh.
I have used credit cards for years and have never paid 1 cent in interest. In fact, I use rewards credit cards to make money. As for cars, I pay cash.
Now to be clear I don’t have this tip listed as “eliminate debt” as I do think there are times when it’s worthwhile. But those times need to be under the right circumstances and for limited periods. Other than that, debt needs to be avoided.
Some times I would say debt is OK are:
To get the right college degree. This is a separate conversation in and of itself, but if you go to college for the right reasons and control your costs/debt relative to what you’ll earn when you graduate, borrowing for college can be a great deal. I borrowed (only $5,000 total — I worked and paid for most of my college) for six years of college including getting an M.B.A. that put me on a very solid financial path. I paid that debt off within a couple of years and it was all upside from there.
To buy a house. The key here is buying a house you can afford — and not stretching to buy a “dream house” that taxes your finances to the point where if one small thing goes wrong you’re in trouble. Because things will go wrong (see the notes on an emergency fund). Do this and you should have your house paid off in 10 years.
To invest. I do not borrow to invest, but some people do, especially with real estate. I’ll leave it to them to argue their case below, but this comment summarizes the issue quite well in case you’re interested.
We paid off all our debt early in our marriage and didn’t look back. By the way, because we were able to grow our income, we didn’t sacrifice things like 401(k) contributions while we paid off our debt.
3. Invest for the long-term.
If you want to become wealthy you’ve going to need to invest early and often — the more the better. Initially you’ll want to invest for growth in something like index funds. Later you’re going to need income so you might consider P2P lending, real estate, or dividend stocks.
The key is to invest as much as you can for as long as you can. If you do this you will supercharge your net worth.
2. Grow your income.
This could be “1A” as much as “2”, it’s that important. But I had to pick one as better and this one scored second.
That said, it’s still vitally important for you to grow your income. And while it may go without saying, I’m going to say it anyway: the higher, the better.
For most people, this means making the most of their career. The good news is there are established steps to maximizing your work income and by doing so, you can make millions more dollars over the life of your career.
In addition, you might want to look for other ways to earn money like buying a business, starting a side business, or even making money with credit cards.
I’ve made money with credit cards throughout my life, but have also had a freelance writing business (it helped pay off my mortgage), run a blog (though most years my profits were given away), and even been a soccer referee. I’ve also done some side consulting and board work that has added extra money here and there.
Eventually I got into real estate which delivered significant income for many years before retirement.
1. Control your spending.
This is ranked as No. 1 because no matter how much you earn, you must control your spending to get ahead financially.
Here’s what “Stop Acting Rich: …And Start Living Like A Real Millionaire” says about the issue:
“Most people will never earn $10 million in their lifetime, let alone in any single year. In fact, most households (97%) are unlikely to ever earn even $200,000 or more annually. So what if you are unlikely to become rich by generating an extraordinarily high realized income? The only way you will become rich is by being like those millionaires at the other end of the continuum: by living well below your means, by planning, saving, and investing.”
There are two types of overspending that can ruin your finances:
Overspending on the little things: the small amounts that seep out of your pockets here and there and eventually become large.
Overspending on the big things: homes, cars, boats, cottages, and so on. Even where you live has major implications on your finances.
Now don’t get me wrong. You don’t have to be a miser to get ahead, but you need to balance your saving and spending.
To do this, develop a budget and live on it, as we discussed above.
So, that’s my list of the best money moves anyone could make. What do you think of my list? Did I miss anything? Is the order wrong? Feel free to add your thoughts in the comments below.
This article originally appeared on ESI Money. It was reprinted with permission.
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