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Building Your Credit While Avoiding the 5 Top Financial Mistakes

Little mistakes often “snowball” into an avalanche when it comes to your personal finances. The financial decisions you make today could easily affect your life for many years to come. Here is a closer look at some of the most common financial mistakes and what you can do to avoid them.

Financial Mistake #1 – Failing to Live Within Your Means

financial mistakesUnderstanding where your finances stand when it comes to income vs. expenses is the quickest and most effective way to take control of your finances. Many people struggle with piles of debt simply because they were spending more than they could afford. At the end of every month you need to sit down and compare your income vs. how much you actually spent over the previous month. If your savings are not growing you need to rethink your situation. Then at the end of every year, you should sit down and compare your financial situation to where you were a year ago and see that you are making progress toward your savings goals.  You can do this by using a spreadsheet to calculate your “Net Worth” i.e. your assets (what you own) minus your liabilities (what you owe). You can Download a Free Spreadsheet to help with the calculations. So if you Own a house worth $200,000 and owe $180,000 on your mortgage that would contribute $20,000 toward your net worth. The same applies to your car vs. car loan, savings vs. credit card debt etc. Unfortunately if you have $500 in savings and $2,500 in Credit Card debt that will lower your Net Worth by $2,000.

Financial Mistake #2 – Not Monitoring Your Credit Score

For years those who evaluated credit reports believed that even when they are up-to-date and in good standing, lots of open accounts were a bad sign because every credit account with a zero balance is a potential liability because you could just go crazy and start maxing them all out. That is one of the reasons why many people promote debt consolidation and recommend only having one or two credit cards. They also thought that  every maxed out account was bad because you were just a few missed payments away from bankruptcy.

But today there is a new metric called credit utilization which is simply the percentage of your card that is used. So if you have a $10,000 credit limit and you have a balance of $5,000 at any point during the credit cycle you have a 50% utilization rate on that card. According to NerdWallet “exceeding a 30% credit utilization ratio at any point in a billing cycle on any one of your cards could do damage”.  So consolidating your debt can actually be harmful if it pushes your debt above the 30% level. So it would be better to have two cards with a $10,000 limit and a $2,500 balance each than 1 card with a $5,000 balance. Loan officers have also realized that how you handle your accounts (i.e. paying them off regularly) is much more important than worrying that you might someday go crazy and run all your cards up to their max.

Financial Mistake #3 – Not Having the Proper Insurance

Your insurance could be your first and last line of defense against a financial catastrophe. Accidents can happen in the blink of an eye, and no one wants to face tens of thousands (or even hundreds of thousands) of dollars in medical bills with no way to pay them off. Professionals, at Lazaro Carvajal, know how difficult a situation bankruptcy can be and recommend that If you are currently struggling with massive medical bills, then you should speak with a specialist about your options for restructuring your debt or declaring bankruptcy.  Having expert counselors by your side is your best bet at getting through it all. King Solomon put it this way in Proverbs 15:22  “Without counsel plans fail, but with many advisers they succeed.” ESV

Financial Mistake #4 – Saving Instead of Paying Off Debt

Most loans and credit cards have much higher interest rates than investment accounts. It might seem tempting to start putting money toward a 401k or other investment vehicle, but you could save quite a bit of money in the long run by tackling your current debt first. Before you decide where most of your extra money goes every month, you should sit down and see exactly how much those interest rates will affect you over the next 10 or 20 years.

Financial Mistake #5 – Drawing Down Your Home’s Equity

Refinancing your home or taking a home equity loan will give you an immediate influx of cash, but the fees (and additional interest) can add up to thousands of dollars. If you decide that you have no other choice, then you should shop around for extremely low rates before you restructure your home loan. If at all possible the only time you should refinance is if you can shorten the term of the loan or reduce interest rates. You should not consider home equity a “piggy bank” to draw from anytime you need money. If you continue to draw down equity you will always be paying interest (which over a 30 year mortgage can easily double the cost of your house).  Instead your goal should be to have your house paid off by the time you retire so your expenses will be lower when you are forced to live on your retirement income, which most likely will be lower than your earned income.

See: Eliminate Debt Before You Retire

Little mistakes can add up quickly, and your bad credit can haunt you for years. Avoiding these five mistakes will help you rebuild your credit and get your finances back on track.

Image courtesy of  Blogpiks.com

About Tim McMahon

Work by editor and author, Tim McMahon, has been featured in Bloomberg, CBS News, Wall Street Journal, Christian Science Monitor, Forbes, Washington Post, Drudge Report, The Atlantic, Business Insider, American Thinker, Lew Rockwell, Huffington Post, Rolling Stone, Oakland Press, Free Republic, Education World, Realty Trac, Reason, Coin News, and Council for Economic Education. Connect with Tim on Google+