Personal Finance Advice for the Young and Motivated

Just getting started with personal finance? Just landed your first job? Got an unexpected windfall and don’t know what to do with it? Wondering how to set yourself up for success long term? If you are young and motivated, but kinda clueless about personal finance, this post is for you. This is all the financial advice I wish I’d been given when I was 18. 

This advice may sound boring, but trying to follow it is anything but that. The quick TLDR (in priority order) is as follows:

1. Get out of debt.
2. Establish a budget.
3. Build up a 6 month cash reserve.
4. Experiment with saving and spending.
5. Invest in 401ks first, forget about other tax-deferred stuff.
6. Get a credit card.
7. Invest any leftover cash in index funds.
8. Start to Understand the Time / Money Tradeoff.

Let’s get into it.

Step 1: Get Out of Debt

Most Americans are in debt [source]: 

If you are in debt when you are young, seriously consider ways to get out of it. You might think “well, duh, thanks for the great advice, Mr. Financial Guru, I’ll just go do that this afternoon!” I realize that this sounds flippant. I don’t mean to belittle how much work it is to do this.

I worked part-time all through college, went to a school that offered me enormous amounts of financial aid, drained several accounts my grandparents gave me, earned a bunch of scholarships, and still graduated with ~$20,000 in debt. If you adjust that for inflation [source], that’s the equivalent of $28,964 which is almost exactly the average owed per borrower in 2023 [source]. 

I was lucky in that I only owed about $12,000 to real financial institutions like Fannie Mae and the other $8,000 to my parents. It took me about 4 years to pay down that $20,000, but I made it my first priority. 

I was lucky in other ways: I didn’t graduate with a huge amount of debt and the interest rates were low. I even had the added advantage that some of my loans were the no-interest / family variety. Talk about privilege. If you have credit card or payday loan debt when young, it’s much harder to get free and clear. But this is priority #1.

Debt Dramatically Limits Your Options When You’re Young and Motivated

When you’re older and you have multiple investing strategies going at the same time, it often makes sense to hold some debt. I currently have a lot of debt in the form of my home mortgage. And as I wrote about last week, I think that’s a very good deal. But, that’s because I can earn more money by investing my savings in index funds. Not just that, I’ve proven that I’m pretty good at saving, I trust myself to regularly invest in those funds, and I have a long enough time horizon for those investments to pay off. 

When you’re 20, you probably don’t know what you want out of life at all. I know I certainly didn’t. At that stage, earning a 3% premium for holding student loan debt probably isn’t a huge deal compared to the lifestyle constraints that your monthly debt payment creates. Maybe you want to travel, get a degree, learn a trade, or do any number of exciting things. You can’t easily do those if you have large monthly payments hanging over your head.

So, for high-interest loans like credit card debt, it makes complete financial sense to pay down that debt before anything else. But even for less “expensive” debt, I think it’s worthwhile to pay down quickly. Being debt-free pays massive dividends in the form of a freer lifestyle and more long-term opportunities.

Step 2: Establish a Budget

Nearly three-quarters of Americans have a monthly budget [source]. As I’ve argued before, I don’t think budgets are a great way to cut spending for older folks. But when you’re young and motivated, a budget is quite valuable. Learning to track your spending is a non-trivial skill. 

When you’re a teenager, you might think “I know exactly how much I’m spending, why do I need to learn how to measure this?” The answer is that if you wait until you’re married with two kids, a house, and a car, you’ll be totally unequipped to exercise any control over your finances.

Pick a Budgeting Tool and Get Started

There are tons of tools to track your spending. I personally use Quicken, but that’s because I’m old-school. If you’re just starting out, I’d check out some of the more modern tools: The 8 Best Budget Apps for 2023. Compared to the way that my parents tracked their spending in a checkbook with a pen, all of those are good options.

Just like with credit cards, the idea here isn’t to optimize and get the ultimate, best, most impressive tracking tool. That probably doesn’t even exist for your needs. Just pick one that supports your bank of choice and give it a try for a couple of weeks. If you don’t like it, try another one. The only losing move here is to not do this at all.

Step 3: Start Prepping (But Not For Zombies)

Less than 45% of Americans could afford an unforeseen expense of $1,000 [source]. Forget zombies, the thing you should be really concerned about in adulthood is having enough to cover an emergency. That could have something to do with our low national savings rate [source]: 

Apart from the emergency fund situation, there’s nothing inherently wrong with a low savings rate. Most of the living costs you are going to experience in life are at least somewhat fixed. You can get a cheaper rental or buy a used car, but homes and cars are just expensive. 

It’s tempting to think that the way to a high rate of saving is just to earn more. And while that’s somewhat true, lifestyle creep is a real and dangerous reality. In fact, the wealthier you are, the more likely you will carry debt [source]. Why? As you earn more money, you get used to spending more money. 

It might seem incomprehensible how someone earning $250,000 per year can be in debt. But when you live in a Mcmansion, vacation in the Hamptons, pay for private school for 2 children, lease luxury cars, and maintain several memberships at local country clubs, you can actually end up living a lifestyle of debt rather than wealth.

To reiterate: there’s nothing wrong with enjoying the money you earn or save. But just remember that life is unpredictable and having accumulated wealth is the incarnation of optionality. 

You Will Face Catastrophe Sooner or Later

Consider this: you have approximately a 40% chance of being diagnosed with cancer in your lifetime [source]. 77% of US car drivers have been in an accident [source]. And you have a 100% probability of watching people you love die. 

I’m in my late 30’s. Here’s a short list of catastrophes that I’ve seen friends and family already have to contend with:

• The premature death of a spouse.
• A life-threatening cancer diagnosis that took more than a year to treat.
• A major car accident that resulted in permanent loss of freedom.
• The premature death of a child.
• A degenerative nervous system diagnosis that resulted in a loss of freedom.
• A home fire that consumed all of a person’s belongings.
• A serious brain injury that resulted in a permanently changed personality.
• Mental illness that rendered a person incapable of working.

Life can be cruel, arbitrary, and unpredictable. So, it’s wise to prepare ahead of time.

Keep At Least 6 Months of Cash On Hand

I don’t mean literally. Keeping a large amount of paper money in your living space is unwise. What I mean is to budget your savings such that you have 6 months of living expenses available in a checking or savings account before you start doing anything else with your capital. 

This will enable you to weather an unpredictable spell of unemployment, say no to a job that’s causing you physical or mental harm, or take unpaid time off to help a sick family member. And you’ll be able to do all that without stressing out unduly about your life’s fixed costs.

For those ambitious folks in the audience, you can extend your buffer to 12 or 18 months, but I think that there are diminishing returns. The amount of time that your buffer is expected to last is calculated when things are going well. In this mode of living, you’re out there having fun, enjoying friends and family, and generally not pinching pennies. 

But if your mother was diagnosed with stage 4 pancreatic cancer tomorrow, you would do a hard reevaluation of your lifestyle. Maybe you need to move closer to her to help out. Maybe you need to find a job that has more flexible hours. The point is that you would quickly adapt to your new reality and probably spend more frugally to ensure you can be there for your mother as needed. This means that even 6 months of savings is probably sufficient for most people.

Step 4: Try Hitting a Savings Target

Early in life, before getting married, having kids, or doing whatever it is that brings you joy in life, it’s easy to experiment with your spending. And I think it’s a really valuable exercise. Try to save $100 per week. Do you like it? Does it make you miserable? What about trying to save $1,000 per month? Is that feasible?

Personal finance is ultimately a tool that helps you reach a particular end state, so it pays to experiment a bit. 

I would even encourage you to try spending every last cent of your earnings for a little while to see what that’s like. I’ve done that and it actually made me miserable. That’s not at all what I expected, but it serves as a daily reminder about how things can’t buy happiness.

Step 5: Invest in 401ks, Forget About the Rest for Now

A 401k is just an investment account that’s tax-deferred. It’s the most popular savings account type among Americans [source]:  

If you make $100,000 per year and you have the opportunity to invest in a 401k up to the maximum $22,500, then the amount of money you can be taxed on is now only $77,500. For most people that plan to retire later in life, this is a great deal. You will still have to pay income taxes when you withdraw that money later on, but you’ll be shifting your earnings from a higher-tax period of your life to a lower-tax period of your life. 

So, to the extent that your employer offers savings plans, put as much in as you can afford. Compound interest works best when given long stretches of time. Investing while young will maximize the benefits of your investing strategy. 

Forget About Min-Maxing IRAs, Roths, and 401k Matching

You have probably read about complicated investments like IRAs, Roth accounts, and 401k matching ladders. I’m going to save you a ton of time right out of the door: all this stuff isn’t worth optimizing for when you’re 18 or 20 years old. 

Later on, it might very well make sense to contribute after-tax dollars to an IRA, look into a mega-backdoor Roth exception, or choose an employer on the basis of their 401k matching. But these are optimizations at the margin. Nobody ever got rich quick by getting a slightly better 401k match at work. 

Coupled with prudent savings, investing, and 30-40 years of patience, picking and choosing among these investment options carefully can make a big difference, but this isn’t a post about squeezing every last cent out of your investment strategy. We’re talking about the first simple steps to getting your financial life in order while young and motivated. 

Step 6: Build Your Credit Score

Get a Credit Card Early

When I graduated from high school, I was worth approximately -$5,000. I had a couple hundred dollars in a checking account, a work study job lined up at college, and the first of several IOU notes made out to my parents for the first year of college. When I got to my college’s campus in rural Ohio, I immediately started working in the AV department at the library making $11/hr. 

Throughout college, I used a debit card because I had no credit history and I always had a vague feeling of uneasiness about borrowing money. Wasn’t that something that only financially irresponsible people did? I was terrified that credit card debt was somehow like heroin and I’d dig myself a premature financial grave before I’d even landed my first “real” job.

This couldn’t be farther from the truth. I’ve subsequently learned that if you fear something, that’s typically a pretty good sign that you actually don’t have to worry about that thing. It’s the stuff that you don’t fear that’s dangerous.

Reasons to Get a Credit Card

There are at least 2 distinct reasons to get a credit card early: 

1. Security. Credit cards don’t withdraw funds directly from your account. That means that if your credit card number is stolen – or should I say when it is stolen [source] – you can cancel charges and get at least some of your money back. 
2. Credit Score. Using a credit card builds your credit score. A debit card doesn’t. 

You won’t need that credit history very much when you’re young, but by the time you get to be middle-aged, you’ll really wish you could access better rates on everything from home mortgages to business loans. 

Don’t Worry About Which Card

In my humble opinion, it doesn’t matter all that much what card you choose. And anyways, you probably won’t get to choose anyways: I got rejected from several credit card companies when I started applying in my early 20s because I had no credit history at all. Just find a card with no yearly fees from a major bank and apply. NerdWallet keeps pretty up-to-date lists of exact product recommendations: 4 Excellent Student Credit Cards of 2023.

Set Up Auto-Billing

All major credit card websites/apps let you set up auto-billing. And although they don’t want you to, they also all let you pay off your monthly bill in full. You want to do both of those things: set up auto-billing so that you pay your entire bill each month. 

After doing that, you’ve essentially just set up a more secure debit card that also builds your credit score. 

Always Request Limit Increases

One of the key ingredients in your credit score is your credit utilization. This is the amount of your credit line you are currently using divided by the total amount you could use. When you get your first credit card, your monthly limit will be very low. That’s good. It makes it difficult for you to screw up too badly as you learn how to budget. 

But you should always be seeking to increase your credit limit, so long as it doesn’t negatively affect your credit score. Later in life, there’s some risk of hurting your score by increasing your limit, but not while you are young. Most credit card companies permit you to request a limit increase a couple times a year. 

Set a calendar invite every 6 months [source] for yourself to log into your credit card company’s website and make a formal request to increase your limit. The worst that can happen is the request is denied. Most of the time, you get it. 

It’s critical that you don’t actually use the increased credit. That would defeat the purpose. Just keep spending like you did before you requested the limit increase. But now, with a bigger line of credit, your credit utilization will fall. That will help bring your credit score up.

Step 7: Invest Any Left-Over Savings in Index Funds

More than half of American adults own stock [source]:

Looking at a graph like this, it’s tempting to think “I should go long on Tesla!” But for most people, active investing is a trap. You are very unlikely to beat the market and even if you do, remember that it’s not enough to be right once. You have to beat the odds 2x to realize any gains.

Before you have much experience in the economy, you’ll be much worse at investing than older people who have that life experience. Plus, it takes a lot of time to be a good investor, and unless you are a weirdo like Warren Buffet, investing probably isn’t the activity that makes your heart sing.

Indexing FTW

Instead, I recommend going to Vanguard.com, opening a brokerage account, choosing a target-date retirement fund, and investing your excess savings there. Just shovel the money in and don’t think about it.

If you take my advice, you’ll be in good company. In 2022, approximately 37% of public markets are thought to be owned by passive investors (in other words index funds) [source]:

Investing index funds is not just more efficient for you and your finances, it’s fundamentally a bet that humankind will keep flourishing. I think that’s a pretty good sales pitch.

So, how exactly will you know when to invest in your index fund? It’s pretty simple, really. 

Managed to save an extra $200 this month? Put it in Vanguard. 

Sold your used Toyota for $500 more than you expected? Put it in Vanguard. 

Inherited $5,000 from your grandparents? Put it in Vanguard.

The rule you should start to follow is that if you are out of debt and have extra savings beyond your 6 month buffer, it should go into Vanguard.

Step 8: Start to Understand the Time / Money Tradeoff

At the end of the day, the only real non-renewable resource for us humans is time. When you’re young, time moves more slowly. In terms of perceived time, half of your perceptual life is over by age 18.

With more time, you can always make more money. But you can’t always use money to get more time. This suggests that you should start carefully examining how much your time is worth early in life. At some point, you will want to stop trading your time for more money and start investing in the other direction.

For most people, this occurs much earlier than the official retirement age. What keeps people enduring jobs and lifestyles they don’t like? The need for money.

Eat Your Dessert First

My grandfather died a couple of years into what was supposed to be a long retirement. He was the person that taught me to always eat my dessert first. I took the advice literally and I actually eat my dessert first when presented with the choice. 

He also thought that life would make more sense if it was economically lived in reverse. In my grandpa’s ideal world, you would start out old, senile, and poor. Then you would get wealthier and healthier until you become a baby and eventually disappear. 

I relate these philosophical anecdotes to make the point that there will be points in your life when you wished you had more money. There will be points when you wished you had more time. You can always create the experience of more wealth by lowering your material standards. But the effect of wealth on the number of healthy years of life you will get to experience is likely to be small. 

So, have the financial savvy to have a financial buffer that enables you to walk away from work that you hate. At the same time, don’t shortchange wealth so much that you don’t have the flexibility later in life to make big, costly changes. Life’s full of tough choices, innit?

What’s Next?

All of this advice probably seems obvious, but actually following it is anything but. 

If you are in debt, chances are you didn’t get there because you made a single, easy-to-understand mistake. Unwinding the hundreds or thousands of steps that led to that condition is very difficult. 

I recommend investing in Vanguard index funds, but what if you are the child of parents that kept their money under their mattress? They probably didn’t teach you about the difference between a checking and savings account. How can you reasonably be expected to pick a solid index fund from a sea of seemingly-identical options?

Personal finance isn’t a discrete event or skill set that you unlock and never think about again. It takes a long time to experiment, learn, and ultimately improve. That’s what this blog is all about – helping you make choices that make your financial life more rich and rewarding.

Happy overthinking!