Financial Independence for Young Adults

I got asked a while back to give some advice to younger people starting out in adult life on financial independence. This comes from me as a 31 year old woman, married with a almost 2 year old and a completely paid for 3 bedroom home in Australia. I do not regret for one minute any of the financial decisions i made to get to this point so do feel like i might have a perspective that is useful to share on this matter. So here it is:

Firstly it is AWESOME if you are in your teens or 20s are are thinking about financial security. You are so lucky that you came to this awareness at this age as you get to take advantage of time in in a way that people who don’t get to this point till much later in their life can. So congratulations!

Now there are a few points i’d like to make:

1. it is about INTENTION, and BALANCE at this age. The most powerful decision making tool you can have when it comes to spending or investing money is what its long term implications might be personally for you. For example money you can save and invest will grow in value which means that if you invest $1000 today it is worth so much more than $1000 invested in a few years time due to compound interest.

HOWEVER you also need to balance the fact that opportunities and experiences that will shape the course of your life might only be available now in your youth and not when you are older. For example if later in life you have a busy job, have children etc. travelling overseas for long periods of time or at all might be more difficult or expensive. If spending a year volunteering overseas is what you are passionate about doing this while you are young and have more freedom might make more sense than delaying it till you are older simply for the purposes of investing money. Likewise spending money on education can be a really wise investment if it is in a career you are passionate about and might result in a better income.

It would be hypocritical of me however to say that you should only invest in education if it is in a career that is likely to make you good money. Personally i studied archaeology despite the fact that many people told me i’d never get a job. Right now i’m finishing writing my PhD which is probably a degree i’m unlikely to require in the kinds of jobs that i’m likely to do. I did actually get work in archaeology, but regardless it was something that loved and i have experienced that the skills I got from study regardless of the field can be valued in the workplace if you sell them the right way in interviews. I also thoroughly enjoyed the experienced is got during my student years which i wouldn’t trade for anything. To me this was money well spent even if it doesn’t necessarily result in a higher income. It is important to note however that all of these choices i made were intentional. I would not have done a PhD if i’d had to take on a lot of debt to do so – rather i was paid a smaller amount in comparison to a normal wage but an amount i could live on and even save. My undergraduate degrees because they were in Australia also were reasonably priced and my loans for these are now fully paid and did not have interest applied (we are very lucky in Australia as our education loans only got up with inflation,  not interest). I think if you are in the US or elsewhere where education prices are a lot higher and you want to do a degree simply because you love the topic without much chance for a job afterwards, i’d be looking for a cheaper university to study at and going into it with the full knowledge that it was paying for an experience. Avoid interest payments on loans as much as possible by either not having loans or paying them extra fast (such as by getting a scholarship, working on the side, studying only part time while working full time or asking parents for an interest free loan if that was within their means). If on the other-hand you are studying to be a medical doctor then taking on debt for education is likely a far less risk to your future financial security as you’ll likely get a much higher paying job to pay back the loan. I would not be going into a lot of education debt if you are going to be studying something you are not passionate about just because you think you should get a degree. Or using university as way of finding yourself. Find yourself though other cheaper means before paying that much for an education to ensure it is money worth spent and is towards something you truly value. The point is to be intentional with this money spent and recognise that there is absolutely nothing wrong with not getting a higher degree especially if you do not have a particular career goal in mind.

2. Avoid loans at all cost and question your true needs. For many people getting a car loan, paying back the cost of their mobile phone though payment plans to phone companies or building up credit card debts is a normal part of life. These behaviours are the biggest hinderances to future financial security as they are essentially spending far more often multiple times the value of the thing you get the loan for. If you can’t afford a car then you can’t afford a car loan. One of our cars i purchased for $500 and it works just great. There are cheap cars out there you can save in cash for. There are often ways to live without a car as well. During my uni years i lived in share houses within biking or walking distance to my university so i never needed to own one. It is often cheaper to change your location to one that you can use public transport, bikes or walk than it is to pay the cost of a car plus insurance, fuel, maintenance etc.  If you can’t afford to buy a fancy iphone upfront then also you probably can’t really afford one either. Get a refurbished 2nd hand one or buy another brand of phone that is cheaper. My current phone cost me $100 new and it works fine. It is because of choices like having a $500 car and a $100 phone that i outright own my $465K house. On the other hand there is also nothing wrong with saving up to buy nice things if they are things you value. Just save up for them so you are only paying the value of them, not that, plus interest overtime.

My thoughts on credits cards though are that there is  nothing wrong with having one if your personality type is as such that you would always pay it off in full without ever having to pay interest on it. Credit cards can be useful as they are great way of tracking where you are spending money versus cash, and depending on how much you spend per month can score you ‘points’ for things like grocery vouchers which might save you money overall. However never make purchases based on trying to get credit card points as that defeats the purpose and make sure if you have to pay a credit card annual fee you actually are getting more than this value back from vouchers. Otherwise just use a no annual fee card without ‘points’ or just use debit. If you are someone that might be tempted to spend beyond your means than avoid a credit card completely and use debit instead so you can still track expenses through statements. There is a big myth that we need things like credit cards  or car loans to build a credit rating to buy a house in future. If you are in the US listen to Dave Ramesey on this subject. You will be able to get a loan if you can afford one in the future without needing a credit score. My bank used to consistently ask me if i wanted a mortgage from them because they saw how much money i had saved in my account. Ultimately if you have a big deposit and a reliable income you can get a home loan when you need one. And ideally a home loan should be the only loan you ever have to get, followed by an education loan if you really need.

3. Track your expenses with a program. One of the best things to do to understand where you money is going and what your true savings potential might be is to track your spending. Websites like Mint can do this from your bank statement or there are programs like MoneyDance (which is what i use) you can download to your computer. This divides everything to categories. This is the first step you need to do if you want to do a budget. Although i’m not necessarily a huge fan of the traditional budget as you can see below in point 6.

4. Have an Emergency Fund. Even if you are still living with your parents, try to build up an emergency fund. When i was 14 and got my first paid job i saved up $1000 before i even spent any of the money i earned and always had at least that amount of savings ontop of my spendings. The amount that is required for emergencies will be larger the older you get and more independent you may be from your family. Ultimately it will be this that enables you to be completely independent which gives you the freedom to make more choices. I like Dave Ramsey’s advice for this. If you have debts then start with $1000 as your emergency savings. Once you are debt free (he doesn’t count mortgages and i wouldn’t count any debt that doesn’t earn interest such as Australian student HECS loans) build that up to 3 -6 months of what the minimum you’d need to get by in terms of living expenses (probably 3 months is fine if you are a single student or a bit less if you have family you can truely rely on as a backup while very young). Have this money in something like a high interest bank account so it can grow a bit by itself but is a bit more difficult to access but not impossible should an emergency arise. And it is ONLY for true emergencies.

5. Save by Investing. One advice my husband was given when he was young  was “if you don’t know what you want to do with your life then just save money”. This was sage advice for him at the time especially as he had started professional work and had a good capacity to save money although he does say he wishes he’d saved more at this age as he could have. Of course don’t save at complete expense of experiences that might later inform you of what you want to do. but you do not need to have a specific savings goal like a home or a vacation, a car in order to save. Save now and you can work out the best way to use that money in the future and you’ll be so thankful you made that choice to do so in the past. Remember the power of compounding interest. And ultimately everyone should at some point be saving for a time they might be unable to work (ie retirement) so again you don’t need a ‘thing’ to be saving up for, it can simply be saving money for future living expenses which is ultimately the whole philosophy of financial independence.

Now when it comes to where to put these savings this is important. You don’t want them just sitting in a regular old bank account that makes no interest. You don’t want it stored as cash under your mattress. The reason being that inflation will erode all the value of that money and you won’t be getting it to work for you by growing and generating more money on its own. Interest rates from banks change a lot so this will take a bit of research. But if the interest rate is higher than inflation from a term deposit or a high interest bank saving account this can be good options when you start out. This is what i did until only very recently although the interest rates available were quite a bit higher than they are currently as i write this article. When interest rates are really low though then it can be better to look to other ways to invest. Bare in mind though investment carries risk – the risk that the things you have invested in loses value. Generally the greater the risk the higher the potential reward. Personally i’m not a fan of risk. And if you take on quite high risks with investing it can be little better than simply gambling.

Now being a younger person chances are you don’t have a large sum of money to invest. This increase the risks if you invest that money in say just a few things such as single stock shares or even an investment property. One way to manage risk is to diversify your investments. When you have smaller amounts of money this can be achieved by investing that money in things that are naturally diversified. For example index funds. They are like buying a share in a company that owns the entire stock market therefore you own a bit of the whole stock market too. Mutual funds can also be another option although make sure you investigate the costs that come with these. Personally we have index funds spread between 2 different funds to increase the diversity. Vangard is an example of this. Do you own research, i’m not qualified to provide advice on this and especially not based on your personal circumstances. But the key things to consider for your own life in investing are 1. manage your risk by diversity  2. find ways to invest that reduce your investment costs 3. Don’t take financial advice from people that will sell you investments, or random people in your life who may have just been lucky and not actually skilled in what they are advising.

6. Pay yourself first but don’t be too strict with budgets. This one relates to budgeting. So after tracking your expenses and working out what is a good amount you can afford to save every month, then set up an automatic payment from your everyday bank account into a higher interest saving account. Even if you are going to use that money to buy something like index funds it is important to have it separate from your general spending account so you don’t use it for anything else. It might not make sense to buy index funds every month due to the buying costs and be better to save up a larger bundle of money before going through with the purchase. That is where having a higher interest savings account is useful. Also the savings account might be it for you if it earns decent interest or you want to wait while you research the best ways of investing while saving money in the meantime. Either way it is best to have at least 2 bank accounts – a spending account and a saving account.

Now after this automatic payment into savings is made, the rest of the money you need to think about what to do with. Some people like to have a very detailed budget with lots of categories. Personally i don’t like strict detailed budgets. To me they are a licence to spend more money than might be necessary in certain categories (ie oh i have $50 left in my clothing allowance, so i might just buy this thing i wouldn’t have even considered if i only bought clothing when i actually needed it). If you have categories though where you tend to overspend and have room to reduce, it can be helpful. Personally our family has a food budget and our savings budget that is it. Our food money goes into yet another bank account so it is easy to track how much we have left. Yes we do tend to go out to eat if we notice we have money left. Before however we were spending much more than our monthly allowance so it helped us to get it down and we have decided we value the experience of occasional dinners out as ‘date nights’. So this is intentional spending which is what i’m saying is key. We do not however have a budget for things like clothing, entertainment, fuel as just try to spend as little money as we can on these things and expenses like insurance are necessities we don’t have any ability to reduce,  so again don’t need an ‘allowance’ as such. The key is getting that savings amount right so there is enough left to cover all your necessary expenses in your spending account. So overall we just try to spend as little money as we can with the goal that any money left over in our spending account at the end of the month then goes into savings. Putting extra into that savings account is very satisfying. So you don’t want to be too hard core with the amount you automatically save, or you might fail with this especially when unexpected expenses come up (which aren’t true emergencies). Too strict of a budget can cause some people to give up when they fail. Better to feel the thrill of having extra money left over after your automatic savings and expenses to save even more.

One approach you might find useful which we recently adopted since we paid off our home (because before everything was focused on just that) ,is if you have multiple big things you are trying to save for, use the left over spending money for these other items. So our automatic savings are for our financial future and our left over spending money is for big projects or things that aren’t truely necessities but we’d like such as holidays, improvements to our home, a new laptop etc. It is nice have a goal that is shorter term to encourage saving because our retirement is many decades off which is why saving for that is better automatically as otherwise we might not be motivated enough to just spend less for something less tangible. On the other-hand i find it quite easy to forgo eating out one night or buying something if i know the money i save by not spending then will go towards an item or experience i’ll get in a few weeks or months time that adds value to my life.

Ok i hope that helps. I think this advice probably applies to people at any stage of life. And remember when it comes to the investing side of things, do your research – i can’t advise you as such on this but can say that investing in something is better than sitting on money that earns no interest or interest less than inflation.

 

 

 

 

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