What is Financial Literacy?
What is financial literacy and why is it important? Financial literacy is the ability to understand the important financial topics related to...
8 min read
Chris Gottschalk : Dec 26, 2023 4:45:00 AM
Did you know that, according to one report, almost half of Americans make a New Year’s Resolution related to finance? If you’re one of those people, it’s a safe bet that your resolution involves one of the following topics:
What’s interesting is all of these resolutions deal with some basic financial literacy issues. In other words, the more financially literate you are, the more likely you are to keep your resolution. That’s important, because according to that same report, over a quarter of Americans feel that financial resolutions are the hardest ones to keep.
Fortunately, getting financially literate isn’t hard. All you need to do is follow five steps.
Before we talk about what steps you can take to get financially literate, it might help to know what financial literacy is. Simply put, financial literacy is having the financial knowledge and skills to effectively manage your money, from budgeting to investing.
Unfortunately, no. According to the website CivicScience, 60% of people say they’re only somewhat financially literate, and 10% of people don’t think they are financially literate at all. That leaves only 30% of people who feel they’re financially literate.
Having good financial literacy skills provides numerous benefits. It helps individuals make informed financial decisions, manage their money effectively, avoid debt, and plan for the future. It also increases financial independence, reduces stress, and improves overall financial well-being.
This might be the most important part of financial literacy. When you have your money under control, you know where it’s going each month.
More importantly, you’ll get the peace of mind knowing that you have your necessary expenses covered. When you do decide to spend money on something like a movie or a cup of coffee, you’ll know you aren’t using money that should be going to your electric bill or rent.
The best way to get your money under control is to come up with a plan for how you’ll spend your money each month. In order to do this, list your expenses, prioritizing all your necessary expenses like rent or mortgage, food and gasoline, as well as monthly bills for utilities. When you have all your expenses listed, make sure they’re not more than your total income each month.
Alert readers might realize that this is the same way you create a monthly budget, and you’d be right—a spending plan is another name for a budget. No matter what you call it, though, it’s the single best way to get your money under control.
When you create a budget, you’ll know where your money is going each month. You can rest assured that all your monthly expenses are taken care of, and you’ll know how much money you have left over for your discretionary expenses.
Once you have control over your money, you can start working on the next step—saving regularly. This is a big step toward becoming financially secure.
When you have money saved up, like in an emergency fund, you don’t have to worry about what will happen if you get into a car accident or lose your job. You’ll also be able to protect your assets, so if you do encounter financial difficulty you won’t have to dip into your retirement or sell your car or, worse yet, your house.
It’s also worth pointing out that when you put your money in a savings account, including a money market account or a certificate of deposit, your money earns interest. As time goes on, that interest will earn interest of its own, also known as compound interest. The earlier you start saving, the more time your money has to grow and earn even more money.
The best way to start saving regularly is to put aside a small percent of your paycheck each month. Most financial experts recommend starting at 10%, but if money is tight, just try to set aside whatever you can comfortably afford.
No matter where you start, though, you should make a goal to try to increase your savings a little bit each year. If you start putting aside 10% of your paycheck this year, next year try to increase that amount to 11% or 12%. Remember, though, only save as much as you can comfortably afford.
It’s worth pointing out that if you get your paycheck deposited directly to your account, you can use Direct Deposit to split up your paycheck automatically. You can usually do that either by deciding the percentage of your paycheck you’d like put in a savings account or by dollar amount.
Getting out of debt might seem more like a goal than a step, but the truth is that leaning how to manage debt is a crucial part of financial literacy.
Debt locks up money you could be putting toward other items in your budget, including financial goals you might have to delay while you’re paying off your bill. You also get charged on the money you owe, so the longer you take to pay off debt, the more you’ll owe. This can be especially problematic with high-interest debt, like credit card debt.
The first step in any debt paying strategy is to keep making all your credit card and loan payments. Then, you’ll want to take any extra money you have in your budget and use it to pay off on one debt at a time. The strategy you select will determine which debt you pay off first.
When you use the snowball method of paying off debt, you focus on paying off the smallest debt you have. Once you’ve paid it off, pay off the next smallest debt you have and so on until you’ve paid off all your debts.
You might not be surprised to learn that if you use the reverse snowball method to repay your debt, you’ll instead pay off your largest debt first instead of the smallest. This method takes a little longer to see progress on paying off your debt, but once you pay off that first debt, paying off the smaller debts will be a lot easier.
Finally, there’s the avalanche method, where you pay off the debt with the highest interest rate first. This may save you money in the long run by wiping out the debt that will cost you the most interest first.
Of course, there is another way to pay off your debts that might just save you time and money. When you take out a debt consolidation loan, you’re reducing the number of payments you make each year down to one. Even better, you may save money if the debt consolidation loan you get has a lower interest rate than even one of your debts, especially credit cards.
Your credit score plays a significant role in your financial life. Understanding your credit score, maintaining a good credit rating, and improving your credit score are essential steps in financial literacy.
Your credit score is important for the following reasons:
Viewing your credit score isn't that hard. If you're a First Alliance Credit Union member, for instance, you can check your credit score simply by logging into your online bank account or opening our mobile app. Even if you're not a First Alliance member, though, you can check your credit score by going to sites like Credit Karma. You can even contact the three credit union bureaus--Experian, Equifax and TransUnion--directly to get your credit score from each of them.
Credit scores typically range from 300 to 850, depending on the scoring model used. A good credit score, generally, falls within the range of 670 to 850, but different lenders and financial institutions may have different criteria for defining a good credit score. Here's a general guide:
Improving your credit score is possible with the following steps:
Setting financial goals is the final step towards financial literacy. By setting goals, you give yourself a clear direction, motivation, and a roadmap to financial success. Here are some questions to ask when setting your financial goals:
When setting your financial goals, consider the following questions:
When setting your financial goals, it's important to make them SMART:
It's hard to overstate the benefits of financial literacy. The more you know about money management and saving, the more financially secure you'll be.
Even better, concepts like budgeting, saving and setting goals aren't hard to learn. You can immediately start using them to build a strong financial foundation, make informed decisions and achieve the goals you set for yourself. You can even pass these lessons onto your children to teach them about financial wellness and set them up for success early in life.
Want to make financial literacy even easier? First Alliance Credit Union has a LOT of free downloadable resources on their Resource page that can help you master those essential financial literacy skills. These include:
There's even a financial fitness quiz you can take to get a sense of where you are financially and the best financial literacy steps you can take to improve your fitness.
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