Practical money skills are more than just knowing how to balance your checkbook or make change.
But you already knew that.
While those are essential skills, practical money skills help you budget your money and even save for the future. Without the right money habits, you may find yourself in a hole that could take forever to get out of.
With the set of skills I’ll teach you, you’ll sail right over most of those holes.
Take me for example:
The end of the year was awful for me. I lost my job.
Then the next week not only did I get into a fender bender, my sump pump and my garage door broke. While I was tearing my hair out (because clearly, the universe had it in for me!), I didn’t worry about paying for it, even though I had no steady income.
I’m not “better,” or “smarter,” than anyone else.
But after some serious debt issues in my younger years, I learned my lesson. I developed practical money skills that helped me pay for a new garage, a new sump pump, and a new fender.
Without breaking a sweat.
You can do this too. Here’s how:
Why Is It Hard To Talk About Money? Here are the Practical Money Skills You Need to Know
Let’s be honest. It’s still considered taboo to talk about money. When you’re at a party, you rarely (if ever) hear anyone talking about money.
Talking about your finances is pretty much not done.
Whether it’s how much they have or don’t have, practical money skills or money woes, no one mentions it. And, if they do, most people consider that to be “in poor taste.”
But why do these feeling persist?
There are many reasons why we don’t talk about money, even with our loved ones.
How we were raised, what we learn we should keep to ourselves and share with others, and other societal reasons impact why we can’t and won’t talk about money. Maybe talking about how big of a raise we got isn’t proper cocktail party fodder.
But, to gain practical money skills and get better with money, we need to learn how to talk about money openly and honestly.
Here are the common themes that repeat themselves when it comes to money talks:
We don’t all share the same priorities when it comes to practical money skills
How we spend or save money is different from person to person.
But, that’s just the simplest part:
Even when we generally see eye-to-eye with family, we still have individual priorities. One might feel that saving for college is the most important thing while the other feels that it should be retirement first, then college.
One partner might think that it’s OK to spend, spend, spend on vacation and the other might think the budget route is the only route.
While you think it’s a wise choice to buy a house, your partner might think practical money skills involves renting, not owning.
We compare ourselves to others
We assume that if everyone around us is spending the way they do, we should be able to also.
That we have to spend like them. We all live in the same neighborhood, have similar jobs, went to the same schools, and are the same age so we should be able to spend the same, right?
Why is that?
Because we don’t talk about money openly, we don’t know the truth behind the curtain.
Just because your best friends or neighbors seem like they are spending a lot of money doesn’t mean they are. Thanks to things like social media, it’s easier for us to assume that if everyone else is doing it, we can — and should.
But here’s the kicker:
That can lead us to spend more money than we make. A Pew Research Study found that almost 55 percent of households spend more money than they bring in every single month.
Here’s a #protip: spending more than you earn is never on the list of practical money skills.
This may make you mad:
We think things are equal when they’re not
But not for the reasons you think:
Just because your best friend is living in rural Idaho, owns a house by the time she’s 25, takes three luxury vacations a year, and owns a yacht, doesn’t mean you can by the time you’re 25.
- Maybe you chose to live in New York.
- Or had a major accident.
- Or work for a non-profit.
- Or had to drop out of school for a while.
- Or had a child young.
Whatever it is, our lives all take different paths, and those choices impact how much money we earn and, in some cases, how much we have to spend each month.
While that isn’t the “equality” you may have been picturing. It’s important to understand.
But here’s your nagging question:
Why Don’t I Have Practical Money Skills?
You are a pretty smart person. So, why is it that you can’t seem to nail money management?
According to a Cambridge University study, kids have learned a majority of their money habits by a shockingly young age:
Seven years old.
No school teaches money skills at that age group, so where are the kids learning their habits?
Kids learn practical money skills primarily by watching their parents and following their lead.
Think back to your childhood:
If you were paid for doing chores, and Mom and Dad encouraged you to put your money in the bank “for a rainy day,” you might have learned to save money. If Mom and Dad allowed you to spend your money as you saw fit, you might have learned different habits.
But that’s definitely not all:
Additional Factors: Practical Money Skills
There are additional factors that can influence your practical money skills.
Whether you watched your family struggle with finances — or it seemed they never had money problems — what you experienced as a child can influence your relationship with money as an adult.
Growing up one way doesn’t mean you are destined to have the same practical money skills as your family, though.
Maybe you saw your parents always spending money, and it struck you as crazy, so you’ve become a super-saver. Or, maybe your parents always struggled with money and now that you’re successful, you lavish gifts and support on them.
Whatever the situation, the key is to understand your relationship with money.
Here’s how you do that:
You have to take steps to recognize what you are doing, how it is good or bad, and make the right changes so you can gain practical money skills and be on the road to financial freedom.
What Is Financial Freedom?
No seriously, like what is that?
You’ve probably heard the phrase “independently wealthy” or “financially free” and wondered what it meant (and how you could get there).
Both of these mean you can make almost any financial decision without worrying that paying for something will destroy your finances.
This can be something simple like an unexpected expense, or several unexpected expenses in a row.
Sounds like heaven, right?
When you’re financially free, you can easily pay for nearly anything and not worry that the check will bounce or that you’ll have to put it on your credit card.
And, you can still pay all of your usual monthly expenses without stress or worry.
Yes. You can.
Where To Begin
Before you can take control of your finances and learn practical money skills, you need to understand some basic financial terms.
Don’t worry, this will be painless!
Below is a table of some financial terms and their definitions. It’s not all of them, but it covers the basics you need to be familiar with: However, it does contain several basic terms that you should be familiar with.
Basic Financial Terms You Should Know
A type of retirement savings plan usually offered by your employer. You can elect to have part of your salary automatically invested in the plan every paycheck.
Annual percentage rate. It’s the interest rate you pay on a loan.
The most powerful force in the universe (seriously! Check out this video:
Credit Report/Credit Score
The permanent record of your credit history. It’s all your credit information: the loans you’ve taken out, if you’ve repaid them, did you make payments on time, etc.
A retirement account that any person can open. You don’t have to do it through your employer, but you do have to have a job in order to deposit funds into it.
This is the true measurement of your wealth. It is the difference between your assets (what you have) and your liabilities (what you owe).
A spending plan. It takes into account what your income is and what your expenses are.
The amount of money in your paycheck before taxes and any other deductions are taken out.
The amount you are actually paid after all taxes and deductions are taken out of your paycheck.
the amount of money an employer will deposit into your 401k.
a fixed amount you spend per month on certain items. That number generally does not change. Examples include, rent, mortgage, cable bill, and car loan payments.
There are more terms for you to learn, but knowing these terms will help you get started on the road to mastering practical money skills.
Your Credit Score And Why You Need To Understand It
Credit score, that number you really don’t understand but still controls your life.
It’s time to take control back:
One of the basic practical money skills you need is understanding what your credit score is and why it is important to your overall financial health.
Your credit score is calculated using your credit history.
Your credit history is a record of all the things you’ve done (and haven’t done) regarding your credit.
It answers questions like:
- How long have you had the account?
- Do you pay your bill on time?
- Do you not pay bills?
The answers to these questions are combined and calculated into your credit score.
Then, that number goes to work in your life.
Your credit score is what lenders use to determine how big a risk you might be to them.
If they lend you money, will you pay them back? The higher your credit score, the less of a risk you are.
Calculating a credit score may seem to you more like magic than math. But, if you’d like to go a little more in-depth into the calculation, the video will help explain the process.
Here’s why your credit score is important.
The better your credit score, the lower the risk you are to lenders.
The lower the risk you are, the better off you will be financially.
When you are a lower risk to lenders, you are more likely to get a loan. And that loan will likely have a better (as in lower) interest rate. If you are applying for a credit card (or other types of credit), you will likely have access to larger credit lines and better terms.
And, in the long run, this can save you money.
Know What You Net, Not What You Gross
When you pick up your paycheck, you’ve probably noticed the amount you get is less than the amount you earned.
You know it simply as “taxes” most likely, but here’s more:
Well, you really made is called the gross amount.
That’s the amount you make per hour or per week.
However, the tax man gets his share and takes it out of your paycheck. There might be voluntary deductions as well.
This could be deposits to your 401k or payments to your medical insurance.
Whatever it is, in the end, you’ll probably end up with a lot less than you anticipated. And that’s one of the practical money skills you need:
What you gross is important, but what you net is what you actually have.
If you get confused between these terms:
Here’s my trick:
- Net – The money you actually catch, and bring home – like a fisherman.
Keep Track Of Every Dollar
Most people don’t like budgets.
It’s not just you.
Some people don’t like being told what to do with their money (as a budget might imply). Others think that it’s just too complicated to start (and to stick with it).
But, they are a necessary step on the road to financial freedom.
Not to mention one of the most important practical money skills you can learn. Setting up a budget helps you keep track of your expenses and income, and gives you a map for financial responsibility.
There’s a lot of advice out there about how to budget.
Fortunately, there’s no one “right” way to budget.
You could choose one the budgets we’ve described here and try it out. Or, you could pull stuff you like from each budget and create your own.
Here’s the actual secret:
Whatever you do, just make sure it works for you and that you stick with it.
Methods for the Madness
Best for people who get paid weekly or every two weeks. After you subtract what you need for your fixed expenses, what you have left over pays for other expenses: like your coffee habit, a night out with friends, or even gas money.
Cash only budget
Once you’ve paid your fixed expenses, you can buy whatever you want with what’s leftover. But, only if you can pay in cash. This is great for people who need to pay down credit card debt and get their spending under control.
Warren Buffett advises, “Don’t save what is left after spending; spend what is left after saving.” This budget works for people who can focus more on savings than paying off debt. It’s the cash-only budget, backward. You put aside money in savings first, then pay your fixed expenses. You can spend whatever is left over.
The envelope method
Taking the cash only budget a step further, the leftover money is actual cash divided up among different envelopes that are labeled however you want. Each envelope covers a bill (and savings), and the “leftover” cash goes in one labeled “spending money.” You can spend the cash in that envelope until the money’s gone and you get paid again. No borrowing from other envelopes!
Also known as the 50-30-20 rule. No more than 50 percent of your take-home pay goes toward necessary expenses like food and housing. If possible, try to cap this amount at 35 percent. The next 30 percent goes toward whatever you want. It can be eating out, the latest gadget, or even a vacation. Finally, 20 percent of your pay goes into savings. This can be split among retirement accounts, emergency funds, or investment accounts, but it should always be 20 percent.
Break Bad Habits
Once you’ve established a budget and started tracking every dollar…
you’ll get a better sense of where your money is going, and where it isn’t.
You may find that you’ve been spending hundreds of dollars a month on coffee.
Or your energy drink habit, or bowling.
Whatever you find out, you may discover that you have some bad money habits.
But don’t freak out:
That’s OK. Once you’ve identified them, you can start changing your habits and start making better money choices.
Here are some really bad habits to watch out for:
You spend more than you earn
You notice that you end up negative every month.
That’s probably because you’re spending more than you earn. This is the most common bad money habits people have, making it one of the least common practical money skills people have.
The fix is simple:
You’ll need to spend less than what you earn in a month, so it may mean less take out and more cooking at home.
Using credit to make up the difference
Maybe you had an inkling that you spent more than you made every month.
But your cards were there for you…
And that’s why you charged everything and didn’t pay off the balance in full every month.
This is another bad money habit you need to break. It may be time to switch to a cash-only budget and ditch the credit cards for a while.
Paying your bills late
But, at least you are paying them, right?
While maybe it’s not as bad as not paying the bills, paying the bills late isn’t great.
Sure, you’re making an effort, but most creditors don’t care.
Every time you pay late, that’s a black mark on your credit history. If your paydays and bill due dates don’t ever seem to align, try asking your creditors for a different due date.
Many will be happy to accommodate you if it means you get your payments in on time.
Keeping up with the Joneses
An old saying, but a real struggle:
Your coworker just got the latest iPhone. And watch.
Your old college roommate is going on and on about his last trip to the Bahamas.
And, your best friend from high school just bought a new house.
Then had it professionally decorated.
You’re still dining on ramen every night, living in a studio apartment, and sleeping on the futon from college.
The traps you need to watch for:
It’s easy to fall into the “I want what they’ve got” trap, or even the FOMO trap, but don’t do it.
Remember, people tend to overspend based on what they “think” others are doing, not what they actually are. Break this bad money habit and spend what you can, not what you wish you could.
Debt: Good Or Bad?
There’s no one right answer to the good debt or bad debt question.
Some experts say a mortgage is a “good” debt. After all, you need a place to live and in many cases, having a mortgage can be an effective tax strategy.
Most people can’t afford to pay cash for a house, so a mortgage is inevitable.
But, there are those who say it’s a debt and therefore it is bad. The same can be said of student loans, car loans, and certain other types of debt.
Here’s what you need to know:
Because there’s no one right answer when it comes to some kinds of debt, practical money skills are not “one size fits all.” Some life choices will put you in debt, and that can be OK.
However, all experts agree that there is absolutely one type of debt that is always bad.
And that is credit card debt.
Experts consider credit card debt one of the worst kind of debt.
If you aren’t paying off your credit card balance in full every month
…you’re paying interest on that balance every single month.
The secret to managing credit cards?:
Paying off your credit card debt in full every month.
That is one of the more valuable practical money skills you can have.
However, if you already carry credit card debt, there is something you need to do.
You already know this:
You need to pay it off.
We know you are trying, but it seems impossible.
While there are lots of ways to attack credit card debt, there are two methods that seem to work best.
How to Pay off Credit Card Debt
The snowball method
pay off your debts in order of smallest outstanding balance to highest amount. Continue paying the minimum amount on your other debts. Keep at it until you’ve paid off the first card, then move to the next card.
The avalanche method
pay off your debts in order of highest interest rate to the lowest rate, regardless of the balance. Figure out which debt you are paying the highest interest rate on. Put every spare dollar toward paying off that debt while making the minimum payment on your other cards. Keep this up until the debt is paid off then move to the card with the next lowest interest rate.
Simple, right? Wrong, there’s a trick to it:
Keep in mind, neither of these will work if you continue to add charges to your cards.
You may need to switch to the cash only budget while you chip away at the credit card balances. Also, don’t start using a card again once you’ve paid off the balance unless you can pay the balance in full on the due date!
But, I’ve only got one credit card!
Not a problem. There are still things you can do to pay down the credit card debt on just one card.
You can transfer your balance.
Shop around and check out other cards. Often times, competitors will offer an introductory rate of 0 percent APR to new customers.
Just make sure you know the terms and follow them to the letter! If you miss a payment, you’ll have to pay interest on the entire balance you transferred. And, if you don’t pay off the full balance in the time allotted (usually 12 to 18 months), you’ll pay the full interest on the full balance.
Or, ask for a lower interest rate.
Learn How to Negotiate
One of the more overlooked but practical money skills out there is asking (or negotiating).
Call the credit card company and ask if they’ll lower your interest rate. If you’re a good customer and you’ve been making payments on time, they most likely will lower your interest rate.
If they don’t, transfer it to a company that has a lower rate.
If you aren’t careful with credit card interest rates, that $5.00 sandwich from lunch the other day could end up costing you $20!
It’s all in how they calculate your interest rate.
Pull out your last credit card statement and find your APR (Annual Percentage Rate). That’s the amount the card company charges you annually. But, they don’t charge you annually. They charge interest daily for every day you carry a balance.
To figure out what you’re being charged, you need to calculate what your daily percentage rate is.
Take your APR and divide by 365.
That’s the amount of interest you’re being charged daily. But, that’s calculated based on your average daily balance.
That means, whatever the balance is on your credit card each day you carry a balance, that’s what you’re charged. If you’re still using the card and not making payments, that amount will only go up.
For example, if you have an APR of 11 percent, your average daily rate is .03 percent.
Let’s also say that you start the beginning of the month with a $500 balance on your card.
The company will charge you .03 percent every day you have that $500 balance.
Assuming you don’t charge anything else on that card for the whole billing cycle, you will be charged $4.50 a day in interest ($500 x .03 percent x 30 days = $4.5).
However, let’s say you end up charging something in the middle of the billing cycle.
For the first 15 days of your billing cycle, your balance is $500. But, for the last 15 days of the billing cycle, your balance is $1000.
Now your credit card company will figure out your average daily balance to determine what they should charge you using this formula: ($500 x 15 days) + (1000 x 15 days) = $22,500/30 days = $750 of average daily balance. Then they plug the $750 into the first formula ($750 x .03 percent x 30 days) and come up with $6.75 a day in interest.
Over the 30 days of the cycle, you could pay an extra $202.50 in interest!
Short Term And Emergency Savings
We’ve tackled a lot, but there’s more!
Now that you’ve got spending under control, you need to work on your practical money skills around saving.
The first thing you need to do is build up a short term savings stash.
This can be earmarked for emergency use only (like an exploding water heater). Or, you can use it for a rainy day (like a quick vacation).
If you have to withdraw from the account, that’s OK. That’s what it’s there for, but make sure you replace what you withdrew as soon as possible.
The general rule of thumb is to have 3 to 6 months worth of expenses.
Figure out what you spend monthly on things like housing costs, groceries, and other necessities to calculate your savings amount. This is where a budget comes in handy.
Make sure you think about all the expenses you might have to cover if you lose your job (like insurance). Then, start saving until you reach the right amount.
Make It Automatic
You’ve got a budget, you’ve broken your bad money habits, and you’re starting to build up your savings.
But, you still find yourself forgetting to add to your savings accounts or always pay the bills on time.
This is the best way to fix that:
Another practical money skill: automating your finances.
Start with your bills. One way to do it is through the company you’re paying.
Most credit cards, cable companies, and other service providers will allow you to set up automatic billing. You can link the bill to your credit card and have them charge you on a specific day each month.
That’s just one way:
You can also authorize the company to automatically remove money from your checking account each month.
If that’s not an option, your bank might allow you to set up an automatic payment each month if it’s the same amount on the same day every month.
Why stop there?:
Once you’ve got the bills automated, automate your savings.
It seems complex, but isn’t.
Do you already have an automatic deduction set up with your employer for your 401k?
That’s the basic idea. You can ask your employer to set up specific amounts to go to other kinds of savings or investment accounts, too.
If you have college funds for kids, or retirement accounts, or any type of savings account — just make sure that every “pot” gets a little each month.
To up your savings game, up your savings amount every year.
Did you get a raise last year? Fantastic!
Add that amount to your savings. Got a bonus? Add that, too.
You’ll probably never miss it. You managed this long without it, so maybe you can save it.
Don’t think you could have investment accounts?
Learn How To Invest
Of all the practical money skills out there?
Learning how to invest is probably the next most important one to have.
A great place to start is with your employer. If you have a 401k (or other retirement savings account available at work), find out if they will make a matching contribution.
If they do, you should do whatever you need to get that match. It’s free money!
There’s a lot to learn, but a lot of this is very simple. Learning to invest after you figure out how to live within your means (not spending more than you make) is a natural evolution.
Plan For The Future
You’re well on your way to financial freedom at this point.
But you can’t stop here.
Just because you’ve got the budget tamed, the bills under control, and your finances in check doesn’t mean you can stop. Don’t forget you’ve (hopefully) got a long life to live and you don’t want to work forever.
It can be hard to do, but now is the time to start planning for the future.
Invest early, invest often
Starting with that 401k is great. And, if you don’t have access to one, an IRA works too.
However, just opening the account isn’t enough.
The sooner you start putting money in it, the better off you’ll be in the future.
I’m about to blow your mind:
For example, let’s say you open a retirement account when you’re 25…
and add $1000 a year to it ($19 a week, or $38 biweekly) for only 10 years.
Assuming you get a 7 percent a year return on the investment, you’ll have $113,000 by the time you’re 65.
Wait for it:
What if you start at
Let’s assume you started at 35, only you keep saving that same $1,000 a year for a total of 30 years.
By the time you’re 65, you’ll only have $101,000.
You just saved for 20 years longer but lost $12,000.
We’ve talked about an emergency fund for large and unexpected expenses. And, we’ve talked about saving for retirement.
We haven’t talked about catastrophe:
What happens if your house burns down?
Or there’s an earthquake?
Or you can’t work anymore?
A quick primer,
- Life insurance pays your survivors if you die.
- Disability insurance pays you if you’re injured and you can’t work.
- Long term care insurance covers expenses if you need long term care (like if you have to go to a nursing home).
Many of these things may be available through your employer. But, even if they aren’t, you should consider looking into purchasing one or all of these policies on your own.
You may not always need them, but if you do, they are a great way to protect everything you’ve built in the event that something goes wrong.
We’re almost ready to wrap this all up:
This Is Not A “Set It And Forget It” Thing
Sure, you can automate your bill paying and savings.
You can even automate your budgeting and expense tracking.
But, practical money skills and financial freedom is not a one and done deal.
As you age, your circumstances will change. The practical money skills you need at 25 aren’t the same ones you need at 45 or 65.
Reevaluate your plan once a year to make sure you’re still on track:
- Review your budget and make sure you’re still saving and spending appropriately.
- Check on your investments and see if you need to make changes.
- Review your insurance policies and add or drop as needed.
But this is huge:
Laws change, often. Those laws may have a real impact on your savings accounts and investments.
- Check on tax laws and see if you need to adjust anything to keep up with the changes.
- Also, get good advice about how they might impact you now and in the future.
- Know interest rates and how they effect your investments.
The most important and most practical money skills involve keeping an eye on everything and not forgetting about it.
Time To Take The First Step
This all seems daunting. I get it. I was there once to.
Credit card debt, student loan debt, and probably other debts I’ve chosen to forget (but paid off!).
I’m not going to kid you.
This will take time and commitment on your part. And, you’ll probably slip but I promise that’s OK.
I managed. You will too.
You don’t have to do this all at once. Baby steps are key here.
Sit down and map out a plan.
Then figure out what you have to do to get from A to Z. Mastering practical money skills is not like learning to ride a bike. It’s much harder.
But, like riding a bike, once you get it, you’ve got it for life.
Practical Money Skills: Final Review
Have you used any of these budgeting methods, in the past? Which ones, and how was your success with them? Let us know down in the comments!