Everyone makes mistakes with their money from time to time. It might be buying something you don't need and feeling the pang of buyer's remorse afterward. Or spending more than you intended while on vacation.
Most of these mistakes are small and don't pose any serious threat to your financial security, but this isn't always the case. The following five mistakes can be life-altering, and their consequences can haunt you for years -- or even decades -- to come.
1. Not having an emergency fund
Your emergency fund is meant to cover unexpected expenses, like a car breakdown, a home repair, a medical emergency, or basic living expenses following a job loss. Without one, you may have to take money away from your other financial goals, like a vacation fund, your kid's college fund, or a home down payment, or you might have to take on high-interest debt if you don't have any savings at all.
Start your emergency fund with at least three months' worth of living expenses if you don't already have one. You might have to cut back spending, sell items you no longer use, or work a little overtime to make that happen. Decide how much you're going to save per month until you hit your goal. Once you're there, you can bump up your emergency fund to six months of living expenses if you choose. Always replenish your fund after each time you need to tap into it so you're prepared for the next emergency.
2. Underestimating the cost of retirement
When polled about how much they thought their retirement would cost, 38% of Americans surveyed by reverse-mortgage lender American Advisors Group thought they would need $250,000 or less, and 53% thought they would need $500,000 or less. If only that were true. A more reasonable estimate would be somewhere between $1 million and $2 million, depending on how long you expect to live and the lifestyle you hope to have.
You don't want to risk running out of money in retirement, so don't just take a shot in the dark. Estimate how much you need by multiplying your projected annual retirement expenses by the length of your retirement, adding 3% annually for inflation. A retirement calculator can do this math for you and will also estimate your savings growth between now and retirement. Use 5% or 6% to be conservative just in case the markets take a turn for the worse.
Once you know the total projected cost of your retirement and how much you must save per month to meet it, subtract the amount of money you expect from a 401(k) match, pension, or Social Security to figure out how much you must save on your own. You can easily estimate your Social Security benefit by creating a my Social Security account.
3. Not planning for long-term goals
Most people have more long-term goals than just retirement. You may want to buy a home, travel the world, or buy a new car. That usually means developing a savings plan and sticking to it. Failing to do this could force you to wait months or years longer than necessary to achieve your goals, and you might never get there at all.
Create a budget if you don't already have one. Subtract your living expenses from your monthly income and then budget a portion of the extra for your long-term goals. If the goal is time-sensitive, divide the total cost by the number of months you have until you need the money to figure out how much to save each month. Otherwise, decide how much you feel comfortable saving and estimate how many months it'll take for you to reach your goal at that rate. If you're not happy with the answer, consider saving more per month.
4. Not diversifying your investments properly
You don't have to know that much about investing to know that how you allocate your money is important. If you put all your savings into a single stock, bond, or mutual fund, you're taking a big risk. If that asset starts performing poorly, you could lose a lot of money in a short time, and it could take a long time to recover -- or you may never get it back at all. Investing smartly means spreading your money around to reduce this risk.
Investing in low-cost mutual funds or exchange-traded funds (ETFs) is an easy way to do this because they are bundles of stocks and bonds. By investing in them, you can diversify your money among many more assets than you could if you had to buy each stock or bond individually. You should also diversify your money among sectors. If you invest all your money in energy stocks and a crisis rocks the industry, you could still lose a lot of money even if you invested in many different energy companies.
5. Trying to time the market
The conventional investing wisdom is "buy low, sell high," but you can't always be sure when investments have hit their peak or their bottom. Buying a lot when you believe an investment is at a low point or selling when you think it's at a high could work out for you, but it's more likely to cost you a lot of money.
You're better off practicing dollar-cost averaging, especially if you're new to investing. This is where you invest a certain amount of money in the same way according to a schedule. So you might invest $50 in the same mutual fund every week or $100 every month. Sometimes you'll buy when prices are low and sometimes when they're high, but over time, things should even out so you end up getting a smart price overall.
Consulting a financial adviser is also an option if you're not sure how to invest properly. An adviser will work with you to figure out the best investments and strategy for your goals. Choose a fee-only adviser rather than one who may earn commissions when you buy investments they recommend. This can create a conflict of interest.
Managing your money well takes careful planning. It's not always something people enjoy or want to make time for, but it can save you from some potentially catastrophic mistakes in the future. If you've been guilty of any of the five errors above, take the time to correct them now -- before a crisis arrives.