A person who is financially “literate” knows how to budget, knows how to invest, and knows how to manage long-term finances. In general, you can consider yourself financially literate if…
…you know how to take care of your debt.
US News & World Report suggests that the wisest strategy for paying off what you owe is to start with your largest debt and pay more than you owe each month. If you receive a bonus at work, put it toward your debt. Stop using credit cards, and remove your auto-saved credit card data from the places you shop online. Dave Ramsey offers another approach. The national household debt in the United States, he says, totals $13.54 trillion. This includes car loans, student loans, and credit cards. Your personal debt, says Ramsey, should never be handled with debt consolidation, dipping into your 401k, home equity loans, or debt settlement. What will work is setting a monthly budget and deciding how every dollar will be spent. He suggests the snowball effect, which means you ignore interest rates and make the minimum payment on every debt except the smallest. Tackle the smallest debt with every extra penny you can spare. When that debt is paid off, move all that monthly spending onto your next smallest debt.
…you understand interest rates.
Interest is basically the cost of borrowing someone else’s money or the bonus you get for loaning your money to someone else. If you’re the one borrowing, it means what you owe is going up slowly over time. The lender charges a specific percentage–per year, per month (it depends on the loan)–and it adds up when calculating just how much you are going to pay back in the long-term. You want to keep this in mind when deciding just how quickly to pay the loan off. If you buy a house for $200,000 (with a $20,000 downpayment), and your interest rate is at 4.1 percent, interest will make a difference in your total cost should you take 15 years to pay it off or 30 years. If you can pay it back in 15 years, the total cost of your home, including interest, will end up $261,286. If you take 30 years instead, the added interest will raise the final amount you spent on your home to $333,114. That’s more than $70,000 extra spent simply because you took more time to pay it back.
…you protect your assets.
If you’re an entrepreneur, you’ll want an insurance agent on your side to make sure you obtain appropriate business insurance, to make sure your personal assets aren’t at risk of being claimed by your creditors, and to obtain an umbrella policy. If you’re a renter or a homeowner, you need insurance that will step in and protect you financially should your property experience damage or destruction. If you’re a business owner, you may want coverage for work-related vehicle accidents in case an employee has an accident while on the clock, harming someone else or someone else’s property. You also want to learn about planning for how you would pay for being cared for in the event of an injury, or even the effects of aging. Long-term care insurance, for example, can protect your financial assets if you unexpectedly suffer a stroke or begin experiencing symptoms of dementia and you suddenly need to pay for care at a nursing home.
…you know how much money you actually have.
In an age where we can swipe a credit card and debit card for any purchase, some individually truly do not know how much money they have from one moment to the next. While you don’t necessarily need to switch back to a checkbook with a spending deduction log in the back, you do need a plan for checking in on your spending in real time. This includes budgeting, regularly logging into online banking to check your balances, and knowing whether your credit card bills can actually be covered within your budget at the end of the month. Financial literacy also means knowing what a reliable cushion of cash looks like so you never creep towards that $0 balance in checking, which puts you at risk of additional fees and penalties.