We’ve helped close to 900 borrowers navigate their student loans through this blog. After seeing countless budgets, I’ve found there are some recurring themes that come up when new grads are barely keeping their head above water financially.
As a part of CSFI’s #FinHealthMatters day, we’re going to tackle the four most common pitfalls that can wreck a new grad’s finances when they have a lot of student debt.
When we make loan repayment plans for people, we ask questions like:
- How much do you have in credit card debt?
- What do you have in your savings account?
- How are you paying for your car?
- How much is your housing payment and do you have a mortgage?
This data has given us unmatched insight into the problems plaguing the nation’s 20 and 30 somethings. Here are the primary culprits that prevent financial security for college graduates. If you dodge these mistakes, you’re 90% of the way there with your finances.
1. Not Having An Emergency Fund
Close to 75% of students are unsure that they could come up with $1,000 if they needed it in the next month. From what I’ve seen with people’s credit card balances, I can second that finding. Not having an emergency fund is one of the bad money habits that lead to debt disaster.
Your number one thing you should want when you graduate is $5,000 in the bank. All of your purchase decisions should reflect this all-important number.
Why $5,000? That’s the bare minimum to have a buffer so you can pay for a couple months rent and food if your job doesn’t work out the way you expect. That money can save you from an unexpected medical bill, big car repair, or a down economy.
For professionals seeking to own their own business, that number should be even higher, at $10,000.
However, many Americans don’t even have $1,000 to their name.
The key to avoiding the vicious cycle of debt is being your own source of funds in an emergency. Many new grads think about buying a big-ticket item they’ve always wanted, but your emergency savings should come first.
2. Signing Up For A Car Payment
Should you buy a new car right after college? This is perhaps the most common self-inflicted wound in all of America. In school, you’re just happy to have anything to drive, even a lawn mower might do.
When you graduate, you have a deep emotional desire to do three things
- Not be embarrassed when you drive your car to work
- Have something that’s reliable enough to get you to work
- Avoid massive repair bills from the car dying
While these wants all make sense, most people react to them in the wrong way.
I’ve never heard of an employer that handed out a raise or promotion because of what car you drive. Concern for appearances only matters if you’re driving around clients in a sales related function. Otherwise, anything street legal should work.
Obviously, don’t drive a car with plywood on the windows and duck-tape holding together the doors, but I did duck-tape the sunroof on my SUV when it wouldn’t stop leaking and I worked in corporate America.
You could only see it if you were over six feet tall, and thus I wasn’t worried. I had no car payment, while many of my coworkers had $5,000 or more going to their vehicles each year, more than 10% of their after-tax salary.
What if you’re broke and can’t afford a car because you don’t have the cash to pay for one directly? Borrow from friends or family and go buy a $2,000 Honda Civic.
It will run just fine around town. Once you save a few months’ income, if you have a great desire to upgrade then you can sell the Civic on Craigslist and buy a car under $10,000 in cash.
A brand-new car performs the same function as one that runs that’s 10 years old but costs 80 to 90 percent less. Don’t throw away money on a new vehicle right away, and put it towards other more important financial goals.
3. Buying a House Because of FOMO
Many college and grad students leave school with big dreams to own their own house. This is one of the biggest money mistakes college grads make. According to my Instagram and Facebook news feed, nothing makes you feel more adult than having a mortgage apparently.
If you’re planning on living in an area for a minimum of five years, then you can consider owning.
Otherwise, it shouldn’t even be on the table.
In some parts of the country like San Francisco, New York City, and Los Angeles, I question the wisdom of owning a home at all. You want to look at the cost to rent compared with the cost of a monthly mortgage.
If the monthly rent is less than 50% of the monthly mortgage, there is no need to own.
Many readers have sent me emails like this:
“Our financial advisor says that this part of the country is going to become so expensive that we won’t be able to buy a house pretty soon, so we decided to make a move and buy a home.”
This is the same mentality that causes people to buy at the top of the stock market after a recent run of good-performance. Buy a house because you’ve found a place that fits well within your budget that you plan to live in for a long time.
For most, I suggest keeping your home purchase price at less than two times your joint income. If you cannot find a house for that in your area, then you should rent until you find an opportunity that fits that ratio, especially if you already have student loans.
4. Not Having a Plan For Your Student Debt
One very common mistake that this blog is entirely devoted to fixing is not having a student loan plan when you graduate.
It’s so easy to bury your head in the sand and pretend the problem isn’t there. That kind of behavior usually leads to examples like these that I’ve seen:
- The dentist with $500,000 in student loans in collections
- The physician with four years’ worth of missed Public Service Loan Forgiveness credit
- The attorney paying back their loans at 7% interest instead of refinancing
- The barista earning $20,000 a year who defaulted on her loans instead of taking advantage of $0 monthly income-based repayments
We give away a free student loan calculator, so you can model your own student loans and learn how to best attack them.
That means you should figure out which one is best for you and go full speed down that path. The difference between paying your loans back on PAYE or wasting money on the Extended plan could be hundreds of thousands of dollars for a veterinarian, for example.
When it comes to personal finance for college grads, student loan default is an epidemic. Realize that you can pay back your loans on an income-driven payment program no matter how low your income. That can often result in payments as low as $0 a month.
I’ve had plenty of readers and friends realize that by making a simple call, they could stop the blot of student loan default off their credit by enrolling in income-based repayment.
Graduate Confidently and Be Smart with Your Money by Avoiding the Path Most Traveled By
Don’t let advertisers and cliché advice determine your financial decisions in school and when you graduate.
Avoid the curse of credit card debt by building up a protective shield of at least $5,000 in an emergency fund.
Ignore the commercial on the TV that says to buy a new car with 0 down and only 299 a month.
Realize that the real estate professional who says that renting is throwing money away probably has an incentive to believe that.
Know that your student loan servicer is not going to guide you to the right student loan refinancing option or lowest income-based repayment plan. You have to take charge and use free resources like this site to figure that out.
Avoid these four pitfalls that can wreck a new grad’s finances and you’ll already be well on your way to financial success. After all, #FinHealthMatters
Have you ever experienced any of these financial pitfalls after graduating college? Let us know in the comments below!