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How Student Loan Debt Can Derail Your Future

Carrie Kirby — Wed, 25 Jul 2018 08:00:10 +0000

Mike Meru thought he was making a good investment when he borrowed $600,000 to train as an orthodontist. But at age 37, he now owes $1 million — and despite making regular payments, he owes more every single month. In 25 years, his debt will total $2 million.

While seven-figure student debts are still not something you see every day (in a story about Meru, The Wall Street Journal reported that about 100 people are in this boat nationwide), hefty loans are more and more common. Five percent of student loan borrowers now owe more than $100,000, and 170,000 students nationwide owe more than a quarter million in federal loans alone, according to The Brookings Institution.

Student loan consultant Travis Hornsby, whose average client owes $280,000, says he has worked with several grads with debts around the million-dollar mark — almost exclusively specialist doctors and dentists.

"They make a lot of money, but not enough to cover that level of debt service," Hornsby wrote in an article for Business Insider.

If you are contemplating borrowing heavily for college, keep in mind these cautionary tales of how student loan debt can totally derail your life. (See also: 6 Questions to Ask Before Taking Out Student Loans)

1. You may not have the freedom to follow your passion

After getting her bachelor's degree and spending a year teaching English abroad, Amber Williamson was applying to graduate schools. At 24, she hadn't yet decided on a career, but she knew her $60,000 in student loan debt limited her choices to only fields that could offer adequate income to make the payments.

"I'm doing everything right, but still being penalized for something I've been told to do," she told MarketWatch.

Williamson is not alone. American Student Assistance found that 53 percent of survey respondents named student loan debt as a top factor in their career choices. Borrowers are often left with little choice but to pursue careers they have no real interest in, purely in search of a paycheck that can help offset their student loan payments. (See also: 15 Ways to Pay Back Student Loans Faster)

2. You may have to move back in with your parents

More than one in three millennials live with Mom and Dad, a phenomenon that's increased markedly in recent years. The Federal Reserve found that 30 percent of that increase was due to the changing debt loads of young adults, including student loan debt. (See also: 6 Money Moves to Make When You Move Back Home With Your Parents)

3. If you hate your career, you might not be able to escape

Natalie Bacon and Liz Stapleton don't know each other, but they have one big thing in common: They borrowed buckets of money to get law degrees, only to find out that they hated practicing law. After graduation, Bacon was shocked to realize that interest accruing while she was in school had already ballooned her debt to $200,000.

"I was really irritated and frustrated with the amount of debt I had. I felt like someone should've told me what it really meant, or I should've had a class on it, or something," she wrote on her blog.

Stapleton found herself in a similar boat. According to her blog, Less Debt More Wine, Stapleton currently owes $258,000.

Both women took the bold step of quitting their law careers, managing, perhaps ironically, to build careers instead in financial advising and writing about managing their debt. But many other lawyers and doctors remain trapped by their debt in careers that they hate.

4. You will end up paying much more than what you borrowed

During her undergraduate and graduate studies, Becca of Surviving Student Loans knew she was going to have at least $90,000 in debt — but she didn't think through how the constantly accruing interest would affect that total. For the first three years after graduate school, she made her minimum payments every month. Now, she owes $124,000; about a quarter of that is interest.

"In my head, the debt I took out was going to be my total debt. Boy was I wrong," she wrote on her blog.

Looking back, Becca doesn't regret getting her degrees, but she does regret that she lost paid credits several times when she transferred schools. She also wishes she'd put some of the money she'd earned working part-time in school toward her debt, even though it wasn't required. She's currently budgeting aggressively and trying to earn money on the side so she can put as much of her $50,000 salary toward debt repayment as possible. (See also: This Is How Student Loan Interest Works)

5. You might not be able to buy a home

Federal Reserve researchers noticed that as homeownership in the United States declined during the financial crisis, young people were especially impacted.

"... Increases in student loan debt might be a key factor pushing homeownership rates down in recent years through effects on borrowers' ability to qualify for a mortgage and their desire to take on more debt. Corroborating this claim, recent surveys have found that many young individuals view student loan debt as a major impediment to home buying," the researchers wrote.

They crunched the numbers and found that there is something to this: Every 10 percent increase in student loan debt is correlated with a 1 to 2 percentage point drop in homeownership in the first five years after school.

A joint study by American Student Assistance and the National Association of Realtors found that 83 percent of millennials who don't own homes blame student debt for their inability to buy. These millennials expected their debt to delay their first home purchase by an average of seven years.

6. It could prevent you from getting married or starting a family

One in five former students puts off marriage due to student loan debt, and nearly one in three postpones starting a family for that reason, American Student Assistance reports.

Some who go ahead and marry a person with a huge student debt load later admit regretting it. One respondent to a BuzzFeed query complained that his wife's student loan debt was ruining their lives. (See also: How a New Marriage Can Survive Student Loan Debt)

7. It might delay your retirement

Another American Student Assistance survey found that 62 percent of respondents put off saving for retirement due to student loan debt. Worse, the same report says that the number of people over age 65 who have student debt — some for their children's education, but mostly for their own — increased by a whopping 977 percent between 2005 and 2015.

One scary thing about owing student loan debt in retirement years: It can lead you to lose your Social Security check. According to the ASA report, more than 173,000 Social Security recipients had their Social Security payments garnished in 2015 for this reason. (See also: How to Keep Student Loans From Wrecking Your Retirement)

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This article is from Carrie Kirby of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

How One More Year of Work Can Transform Your Retirement

Matt Bell — Mon, 02 Jul 2018 08:30:17 +0000

As you glance into the future, do you see a life of endless work stretching out in front of you? If so, you're not alone. An increasing number of people are wondering how they'll ever be able to retire.

But maybe things aren't as bad as they seem. In fact, a recent study found that delaying retirement by just a few months could have a major impact on your ability to retire and your standard of living in retirement.

A National Bureau of Economic Research (NBER) study concluded that "working three to six months longer boosts retirement income by as much as increasing retirement contributions by one percentage point over 30 years of employment."

More specifically, the study found that instead of retiring at age 66, working until age 67 can boost retirement income by 7.75 percent. By contrast, increasing the amount of earnings saved in a retirement account by one percentage point starting at age 36 and keeping it at that level for the next 30 years would raise retirement income by just over 2 percent.

The NBER findings held true for singles as well the primary earner of married couple households across a wide range of incomes.

That isn't to say that increasing your savings rate is a bad idea. It's just that of the two main options available to workers who are behind on their retirement planning — saving more or working longer — working even a little longer will likely pay higher dividends than saving more.

The value of waiting

The researchers noted four benefits from delaying retirement. First, each additional month of work provides an opportunity to save more in a retirement account. Second, it gives that account balance more time to grow. Third, if you plan to buy an annuity, each month that you hold off will increase the benefit amount for the same cost or lower the cost of the same benefit amount.

Fourth, and by far most importantly, each month you delay retirement will boost your Social Security benefits. The earliest you can claim benefits is age 62; the latest is age 70. Between those two points, each month that you wait will increase your monthly benefit.

You can review your estimated Social Security benefits by creating an account on the SSA website. You'll see how dramatically different your estimated monthly benefits will be at age 62, at your "full retirement age" (67 for those born in 1960 or later), and at age 70. For example, my benefit will increase more than 50 percent if I claim at age 67 instead of 62. And if I wait until age 70, my benefit will be nearly twice as high as my age 62 benefit.

Once you know your full retirement age benefit, you can also estimate the month-by-month or year-by-year differences in your benefits by using the SSA's calculator. For example, if I were to claim benefits beginning at age 67 instead of age 66, waiting that extra year would give me a 6.5 percent raise — $2,750 per month vs. $2,582, a difference of $168 per month or $2,016 per year.

To understand how that compares to saving more, let's start with "the 4 percent rule," a common recommendation to withdraw no more than 4 percent of your nest egg each year in order to make sure your retirement savings last throughout retirement. Following that guideline, it would take $50,400 of additional retirement savings in order to provide a $2,016 boost of yearly retirement "income."

To accumulate that much more money in her retirement account, a 56-year-old making $80,000 per year would have to contribute an additional 4.3 percent of salary each month ($289.50) to her workplace retirement plan, generate an average annual return of 7 percent, and do that for 10 years. (See also: 6 Smart Ways to Boost Your Social Security Payout Before Retirement)

There may be other benefits to delaying retirement as well.

Continued employer matches on retirement savings

If your employer matches a portion of the money you contribute to your workplace retirement plan, that's an incredible benefit. The longer you keep taking advantage of it, the larger your nest egg will grow. (See also: 7 Things You Should Know About Your 401(k) Match)

Extended group health insurance

Medicare eligibility begins at age 65, so if you retire before then, you'll need to find coverage elsewhere, which can be expensive. By the same token, if you continue to work past age 65, you may be able to hang onto your group health insurance, which may be more comprehensive than Medicare.

If that's your situation, be sure to contact your benefits department to see how your current health insurance works with Medicare. It may be that you'll have to sign up for Medicare even if you keep your current insurance. The number of people employed at your company will dictate how payment of claims will be coordinated between the two insurance plans. (See also: 4 Common Mistakes to Avoid When You Enroll in Medicare)

More employer-provided education opportunities

Employer-sponsored training is another valuable benefit, whether it comes in the form of tuition reimbursement for college classes or in-house workshops. If you're among the growing number of people who plan to do some type of work for pay after leaving the full-time workforce, new skills you pick up on your current employer's dime could be well worthwhile.

If you're behind on your retirement planning, hopefully this has shown you that you probably won't have to work forever in order to cover your later life expenses. Even relatively small delays in your retirement can make a meaningful difference. And when you factor in the other benefits of working a bit longer, you may be in far better shape than you thought. (See also: 6 Great Retirement Jobs)

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This article is from Matt Bell of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

5 Signs You Need to Come Out of Retirement

Dan Rafter — Fri, 29 Jun 2018 09:00:11 +0000

You imagined retirement as a long-awaited reward for all those years of work. Maybe you pictured cruises around the globe, lazy days playing tennis, or plenty of time to spend with your grandchildren. But now that it's finally here, you're not so happy.

Maybe you're bored. Maybe you're restless. Maybe you're having trouble paying the bills. Whatever the issue, your retirement isn't the happy time you expected. The solution? You might need to come out of retirement, at least part-time.

Retirement doesn't work for everyone, at least not the first time around. But you might find happiness, a renewed sense of purpose, or financial relief by coming out of retirement and jumping back into the world of work again. Here are some signs that you need to end your retirement and start working again. (See also: 6 Great Retirement Jobs)

1. You're struggling to pay the bills

The most important reason to return to work is if you're struggling to pay your bills each month. Maybe you didn't save enough money during your first go-round in the working world. Maybe your expenses, such as health care, are higher than you expected. Whatever the reason, if your monthly income is barely enough to pay your bills, it might be time to find a job, even a part-time one, to help cover the costs.

If you're facing this challenge, know that you're not alone. According to a 2017 report from the Schwartz Center for Economic Policy Analysis, 35 percent of workers from the ages of 55 to 64 didn't have any retirement savings in an IRA or 401(k)-type plan. The median account balance of workers nearing retirement was just $15,000.

2. Your retirement savings are dwindling

Maybe you did save for retirement. But now that you're not working, you're finding that those retirement savings are disappearing much faster than you expected.

It could be that you've spent more than you expected during your after-work years, or it could be that you underestimated how much money you'd need to support yourself once you stopped working. After all, people are living longer today than ever. Many people are experiencing retirements that last the same number of years as their career.

Returning to work, even part-time, can help prevent you from depleting your savings too quickly. Earning even $1,000 a month might help stretch those savings out long enough to enjoy a happy and healthy retirement. (See also: 10 Signs You Aren't Saving Enough for Retirement)

3. Your health is suffering

Work might not always be fulfilling, but it does keep you moving. And that can be an underrated benefit.

It's easy to get lazy in retirement. You might spend far too much time sitting in front of the TV or reclining on the couch with a book. There's nothing wrong with a bit of relaxation, but what if you're sitting so much that your health is suffering?

The Mayo Clinic and other medical professionals have reported that sitting too much can result in serious health problems — everything from obesity and higher blood pressure, to elevated cholesterol levels. Getting back to work on a full- or part-time basis could keep you from sitting your days away. And that might provide a quick boost to your overall health. (See also: 5 Retirement Struggles Nobody Talks About — And How to Beat Them)

4. You're bored

Planning on whiling away your days on the golf course, fishing from the banks of your favorite lake, or spending more time with your grandchildren might sound good. And it might be good, too … for a while.

The truth is, days can be long when you're not busy at work. All that free time can start to feel more like a burden than a pleasure if you don't know how to fill the hours. You can only read so many books or binge-watch so much TV.

It's easy to get bored during retirement, especially now that retirement is lasting so much longer. Getting a new job could alleviate much of that boredom. It will take you out of the house and give you something to do. It doesn't have to be thrilling work, but it could be just enough to make those long, empty hours seem less intimidating.

5. You're lonely

Miss the office chitchat? Miss the after-work drinks on Fridays? Being retired can cut you out from the social interaction that work often provides. You might start to feel lonely once you leave the working world.

Even if your partner is still living and you have adult children and grandchildren, your social circle can shrink dramatically during retirement. That's because many of us rely heavily on work relationships for our social interactions. Rejoining the workforce, even on a limited basis, could boost your social life and ease the loneliness that too often comes with retired life. (See also: How to Find Your New Identity After Retirement)

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This article is from Dan Rafter of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

How to Revamp Your Budget for Retirement

Alicia Rose Hudnett — Mon, 25 Jun 2018 08:00:29 +0000

Retirement is a major life adjustment for most people. From figuring out how to spend your days, to determining the best way to manage your personal finances, there are many choices to make.

Once you leave the world of paychecks and the daily 9-to-5 behind you, you may also think you're done with budgeting. At this point in your life, you may believe you've got a good handle on your spending and saving habits, and there's no point to budgeting anymore. But that couldn't be further from the truth. Here's a primer on all the ways your post-work budget needs to change.

Pay yourself and the IRS

The first step of building any household budget is figuring out total income. You now have the task of recreating a paycheck for yourself based on your available income sources. In retirement, that may mean a combination of Social Security benefits, a pension, distributions from IRAs and 401(k)s, and personal savings. You'll simultaneously need to cover your monthly living expenses and continually monitor the total balance of your portfolio.

Your Social Security check will be a set amount each month, and any pensions or annuities you have may also be. Once you've established how much money you'll need on top of those benefits, you can determine how much to take out of your tax-advantaged retirement accounts.

Then there are taxes to consider. You may have the option to have federal income taxes withheld from these payments, and while it's not required that you do so, it will save you the hassle of having to file quarterly estimated taxes. In any case, you'll need to factor taxes into your ongoing budget. (See also: Here's How You Should Budget Your Social Security Checks)

Stop saving for retirement

You've spent your entire pre-retirement life saving and accumulating assets so that one day you'd be able to live comfortably without having to work. Now that you're finally in the decumulation phase, you no longer have to save a portion of your monthly income for long-term goals. Monthly retirement contributions are one line item you can remove from your budget.

Increase your emergency fund

During your working and saving years, it's important that you have enough cash saved to cover a large unexpected bill or a job loss in order to prevent having to take early withdrawals from retirement accounts or take on debt.

In retirement, your need for cash savings may be even greater, but for different reasons. You may not have to worry about something like a job loss, but emergencies can still happen. As your home and vehicle age, you may find yourself needing to make major repairs or replacements. A health care crisis could devastate your finances. If you aren't prepared for major unexpected expenses, you risk wiping out a portion of the nest egg you're meant to be living on for the next few decades.

Remember, unlike your pre-retirement years, the majority of your savings may now be in tax-deferred retirement accounts. As you build your yearly income stream, you'll also be considering your income tax liability, taking into account your portfolio balance and your expected withdrawal rate. What happens to those numbers if you have a large emergency expense one year? Having to take distributions from your retirement accounts during those times may permanently affect the long-term viability of your nest egg, which is why a cash reserve can help support your overall retirement plan.

Standard financial advice recommends that working people build an emergency fund that can cover at least six months' worth of essential living expenses. In retirement, you should strive to save between 12 and 18 months' worth of those living expenses, including annual insurance premiums. (See also: Yes, You Still Need an Emergency Fund in Retirement)

Assess your changing housing costs

Housing is usually the largest household expense in everyone's budget, regardless of whether you rent or own. But after raising families and possibly paying a mortgage for 30 or more years, you may be in a position to either downsize, eliminate your mortgage payment, move to a new location, or a combination of all of these options — which can all meaningfully affect your budget.

As you prepare for retirement and rethink your income and budget needs, carefully calculate what your new housing and associated costs will be. For example, you may think about moving into a smaller apartment or condo in a trendy part of town, but a more expensive location can unexpectedly increase your other everyday living expenses.

Prepare for a possible increase in medical expenses

If you're used to having employer-sponsored health insurance, be prepared to do your homework on Medicare before you retire. Many people are surprised to learn that Medicare does not cover all health care expenses, such as routine vision or dental care. Nor does it cover some assisted living expenses, which may create a huge financial strain if you didn't purchase a long-term care policy when you were younger. And if you're traveling outside of the United States, Medicare typically won't cover any health care related costs you may incur.

Between purchasing various Medicare coverages, like Part D for prescriptions, and perhaps obtaining a supplemental plan to close the Medicare coverage gaps, you may wind up spending significantly more on making sure all of your health needs are properly insured. Crunch the numbers and make sure your new budget takes all of this into account. (See also: How to Make Sense of the Different Parts of Medicare)

Eliminate work-related expenses

Throughout your entire working career, you've probably spent lots of money on various professional and daily work-related expenses. When you exit the workforce, much of that will change as your lifestyle will be different. Things like business attire and dry cleaning, daily transportation and parking costs, or business certifications and professional dues can all be crossed off your budget.

Adjust for an increase in leisure expenditures

When your schedule is completely free and you no longer have a daily commitment to be at work, every day feels like a Saturday. You may find yourself spending money on things you used to do only on the weekends or when you had some time off. Whether it's spending more time eating out, traveling, or participating in hobbies, you may need to adjust your budget for your increased free time.

Consider your gifting choices

If you have children and grandchildren, you may have started thinking about including financial support for them in your retirement budget. In addition to more substantial gifting opportunities that involve legal documents (like a trust), there are other ways to support your family members. Each year, you are able to gift anyone up to the annual gift exclusion, which is $15,000 for 2018, without having to file a gift tax return. A married couple can gift a total of $30,000 to one individual in one year.

And if you are interested in helping to save for a family member's education, you can open and fund a 529 account, which is a tax-favored education savings plan. The same yearly gifting rules apply, but with a 529 account, you are allowed to front-load five years' worth of the 2018 $15,000 yearly amount for a total of $75,000 in one year. Once again, that is doubled for a married couple. (See also: 4 Things You Need to Know About Gift Tax)

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This article is from Alicia Rose Hudnett of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

How These 6 Assets Might Affect Student Financial Aid Eligibility

Emily Guy Birken — Thu, 14 Jun 2018 08:30:36 +0000

Once your child reaches high school, figuring out how to pay for college starts to loom large in your mind. An important step in getting ready for the costs of college is filling out the FAFSA (Free Application for Federal Student Aid). This paperwork helps determine how much need-based financial aid your student qualifies for. And before you assume that you make too much money to get any such assistance, remember that families earning as much as $180,000 per year can qualify for some form of financial aid.

Whether you have been diligently saving money in a 529 account since your (now 6-foot tall) baby was born, or you have only just now started thinking about college costs, you do need to understand exactly how your various assets might affect your student's financial aid eligibility. (See also: 5 Reasons Why Every Student Should Fill Out the FAFSA)

Here's what you need to know about the asset and income calculations for need-based financial aid.

Understanding the expected family contribution (EFC)

To determine your student's financial aid package, the college financial aid office starts by determining the cost of attendance and the expected family contribution, or EFC. The EFC amount is calculated based upon the information you provide on the FAFSA.

In general, assets and income held by the dependent college student count for more in the EFC formula, while parents' assets and income count for less — and some parental assets are not included in the calculation whatsoever.

The formula for calculating EFC specifically counts the following assets and resources:

20 percent of the student's assets, which includes savings, investments, business interests, and real estate.
2.6 to 5.64 percent of the parents' same types of assets (based on a sliding income scale).
50 percent of student income above $6,570.
22 to 47 percent of parent income above $25,040 (also based on the sliding scale).

The more money that is included in the EFC calculation, the lower the need-based financial aid offer will be. (See also: The 10 Most Common Financial Aid Mistakes — And How To Avoid Them)

How your assets are counted

Depending on what kind of assets you have, you may or may not have that money included in your student's EFC calculation. The following assets can affect financial aid offers:

1. Income

As of 2017, the FAFSA began requesting the prior-prior year's tax return from filers. This is called the "base year."

Before the change, families had to provide the prior year's tax return (that is, the immediate previous year) as their base year information. For instance, for the 2011–2012 school year, FAFSA filers had to provide their 2010 tax return, but filers filling out the FAFSA for the 2018–2019 school year will provide their 2016 tax return.

There are a couple of reasons why this is an important change. First, it means that families are less crunched to complete their previous year's taxes and a FAFSA form in the same year. Secondly, it also means that families who are actively trying to make income-related plans to lower their EFC need to do such things no later than their child's freshman spring/sophomore fall year.

What kinds of income-related plans? For instance, you might max out your retirement savings in the years leading up to the base year, because you are not asked to declare the value of tax-deferred retirement accounts (such as 401(k), 403(b), or IRA accounts) on the FAFSA. However, money that you contribute to your retirement account during the base year is still considered part of your income for the EFC calculation, even though it is pretax income that you have invested.

Another important thing to remember about income is how your child's income is counted on the FAFSA. Fifty percent of the dependent student's income over $6,570 is counted in the EFC calculation, and financial gifts are also considered income. For example, if Grandma and Grandpa give your child $10,000 toward college in 2018, 50 percent of the amount over the threshold ($3,430) would have to be counted as income on the FAFSA filed for the 2020–2021 school year, and it could increase the EFC amount (and reduce the aid) by about $1,715.

2. 529 accounts and Coverdell ESAs

The good news about these accounts is that whether they are in your name or your child's, they are considered parental assets. That means no more than 5.64 percent of the assets in a 529 account or Coverdell ESA will be included in the EFC calculation. So if you have saved $25,000 in your daughter's 529 account, her aid would only be reduced by roughly $1,400.

If other relatives — such as grandparents — have been saving money for your child in a 529 or Coverdell account under their own names, their gift can come with some expensive (and unanticipated) strings attached. That's because such assets are not counted at all on the FAFSA form, but when the money is withdrawn to pay for educational expenses, you must claim the amount withdrawn as untaxed income to the student. Since 50 percent of student income is counted in the EFC calculations, this situation can reduce aid by half the amount of the withdrawal. (See also: 5 Smart Places to Stash Your Kid's College Savings)

3. Retirement accounts

As mentioned above, the value of parental retirement accounts are not included in EFC calculations. However, the money that you contribute to your retirement account during years you fill out the FAFSA is included as parental income, even though you don't actually get to bring that money home with you. Some parents front load their retirement contributions in the years leading up to their child's base year just in case they need to reduce their retirement savings during the college years.

In addition, parents need to know that withdrawals from Roth IRA accounts are penalty-free if they are used for qualified college expenses. However, this distribution will count as parental income on the FAFSA for the year of the distribution and potentially reduce financial aid by as much as 47 percent of the amount withdrawn.

One way to circumvent this problem is to wait to take a Roth IRA distribution until your child has reached at least the spring semester of his or her sophomore year, since it will be after the final year of income you will need to report on a FAFSA. (Remember, since the FAFSA is based upon the prior-prior year's tax returns, you will not need to provide income information for the last two years of your child's four years in college.)

4. Home equity

The FAFSA does not consider the amount of equity in your home when calculating the EFC — although the CSS PROFILE, which is the form required by many private colleges and universities for determining financial aid eligibility, does request this information. This means that federal financial aid does not need to know how much equity you have in your home, but many private institutions will consider it when evaluating your financial aid needs.

Since home equity is not part of the EFC calculation, some families with large non-retirement savings may consider paying down (or paying off) their mortgage in the years before the base year. This will reduce your expected family contribution, but it could hurt you if Junior or Sis decide to go to a private college or university instead of InState U.

5. UGMA or UTMA accounts

These sorts of custodial accounts are in your child's name, which means that 20 percent of any assets in these accounts are counted toward the EFC. In addition, any interest, dividends, or capital gains earned from these types of accounts (or any accounts in your child's name) are counted as income for your child — which means that 50 percent of that money is counted toward the EFC.

Parents who opened a UGMA (Uniform Gift to Minors Act) or UTMA (Uniform Transfer to Minors Act) account for their child's education would probably be better served by rolling the assets over into a 529 account so that less of the money will be considered part of the EFC.

6. Taxable investment accounts

If you have additional investments on top of your tax-advantaged retirement accounts, these will also need to be claimed on the FAFSA form. These accounts are counted as assets, meaning up to 5.64 percent of their value will be counted in the EFC calculation. However, any dividends and capital gains earned are counted as income, and any distributions you take from these sorts of accounts are also counted as income.

If you need to take distributions from taxable investment accounts to help pay for your child's education, you will also want to wait to do this until at least the spring semester of his or her sophomore year, to keep the distribution from dinging you on the FAFSA.

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This article is from Emily Guy Birken of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

The Right Way to Withdraw Money From Your Retirement Accounts During Retirement

Alicia Rose Hudnett — Mon, 11 Jun 2018 08:00:17 +0000

If you've been a diligent saver, you've probably recognized the importance of having a mix of retirement accounts: a tax-deferred IRA or workplace retirement account like a 401(k), a tax-free Roth 401(k) or Roth IRA, and maybe even a taxable brokerage account. And you probably already know that one way the government "persuades" you to keep your money in your IRA and 401(k) accounts is by imposing a penalty on most withdrawals before age 59½, at which time you can begin taking penalty-free distributions.

When you're finally ready to retire and start taking your distributions, you may wonder how to do it and which accounts you should draw from first. While avoiding taxes shouldn't be your only focus — after all, you've already spent years sheltering your retirement savings — here are some basic tax strategies that can guide you during the drawdown process.

Tax-deferred savings

One of the most popular ways to save for retirement is through the use of a tax-deferred retirement account, such as a traditional 401(k) or traditional IRA. You may have the majority of your savings in these accounts. Contributions to these accounts are made on a pretax basis. This allows you to keep more of your money during the saving and investing years, with the idea being that, although you will eventually be taxed on your withdrawals, you may be in a lower tax bracket than when you contributed the money.

At age 70½, the government requires you to begin withdrawing money from these accounts and to begin paying ordinary income taxes on any untaxed contributions and earnings that you withdraw. This can create a cycle of withdrawing your required minimum distribution (or RMD) or your own determined income need, and then having to withdraw more money to cover the income taxes due, and then having to pay even more taxes on the money you withdrew to cover the taxes due. Anyone inheriting a tax-deferred retirement account will owe taxes on the money as well. (See also: What Every Retirement Saver Should Know About Required Minimum Distributions)

Tax-free savings

Another popular retirement account is a Roth IRA or Roth 401(k), and while there are some significant differences between these two accounts, the fundamental structure of how they work is the same. You contribute after-tax money to the account and, assuming you follow all the rules, your money will grow tax-free and remain tax-free even when you begin qualified withdrawals.

Unlike a traditional IRA, there are no required minimum distributions you must take from a Roth IRA at a particular age. However, a Roth 401(k) does come with RMDs, so it's worth considering rolling this money over to a Roth IRA in retirement, where it will lose the RMD requirement. (Be sure to do this before your RMDs begin because you cannot roll over any amount already required to be withdrawn in the year you're in. So, if you have $10,000 in a Roth 401(k), and are already supposed to take $1,000 as an RMD in 2018, you can roll over $9,000 into a Roth IRA, but will have to take the $1,000 RMD this year.) Because of its tax-exempt and RMD-free status, a Roth IRA can be left untouched to build completely tax-free income for yourself or your heirs for as long as you like. (See also: 3 Financial Penalties Every Retiree Should Avoid)

Taxable savings

To round out your retirement accounts, you may have used a regular taxable brokerage account to invest above yearly retirement contribution limits. When you sell investments in a brokerage account, you may still owe taxes on your earnings. If you sell investments that you've held for more than one year, earnings will be subject to long-term capital gains tax. That rate depends on your tax bracket, but is 15 percent for most taxpayers.

By contrast, when you sell investments that you've held for less than a year, any earnings are considered short-term capital gains and will be taxed at ordinary income tax rates. If your investments have lost money, you may be able to claim those losses on your tax return.

Even though funds withdrawn from your regular investment accounts are taxable, they're still valuable during your retirement years to cover any large expenses or even to pay the income taxes due on RMDs from your other retirement accounts. (See also: Where to Invest Your Money After You've Maxed Out Your Retirement Account)

The years between age 59½ and age 70½

The years between when you turn 59½ and when you turn 70½ can be crucial to your retirement plan. This is the time when qualified distributions are penalty-free, yet it's before you're actually required to take any distributions. If you've left the workforce for full retirement or are working part-time and are now in a lower tax bracket, consider taking distributions from your tax-deferred accounts to both live on and possibly to roll over into a Roth IRA, an account that does not require RMDs.

With little to no income coming in, you can withdraw from your tax-deferred and taxable accounts and pay the ordinary income taxes due at a lower tax rate, or convert some of your 401(k) or traditional IRA funds, which will also be taxable at the time of conversion, to a Roth IRA for further tax-free investment growth. Doing so can help prevent you from being in a position where you have an outsized tax-deferred portfolio from which you have to take those RMDs (or risk paying a 50 percent penalty), whether you need the money or not. (See also: 6 Age Milestones That Impact Your Retirement)

Note that while you can convert a tax-deferred account to a Roth IRA if you're not working, you cannot contribute to a Roth IRA outright unless you or your spouse are earning income from a job.

Figuring out how to spend your retirement savings can be trickier and more complicated than it was saving all of that money, but understanding the different tax implications of your various accounts can assist you in finding the strategy that works best for your situation.

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This article is from Alicia Rose Hudnett of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

5 Signs You Aren't Ready for a Credit Card

Dan Rafter — Tue, 15 May 2018 08:00:19 +0000

There are plenty of smart reasons to apply for a credit card. Having a credit card can give you financial flexibility, provide a way to build or boost your credit, and offer a range of valuable rewards, cash back, and perks. But having plastic at your disposal is not all fun and games.

Having a credit card can cause problems if you're not quite ready for one. How do you know if you're not ready for a credit card? Here are a few surefire signs.

1. You don't follow a budget

The key to using a credit card properly is knowing how much you can afford to charge each billing cycle. The goal is to make charges during the month and pay off your balance in full every time your payment due date rolls around. This way, you'll steadily build your credit history along with a strong credit score. But if you don't have a budget, you won't know how much you can afford to charge each month.

Before applying for any credit card, make sure you've drafted a budget that includes your monthly expenses — including those that change each month and those that are discretionary, such as entertainment and eating out — and your monthly income. This will provide a guide for how much you can afford to put on your credit card without running a balance from month to month.

Running a balance is a huge financial mistake. Credit card debt comes with high interest rates, and if you don't pay off your balance in full each month, that debt can quickly grow out of control. (See also: Stop Using These 5 Excuses Not to Budget)

2. You're often late on other payments

Do you struggle to pay your landlord on time each month? Do you often pay your cellphone bill a week or two late? Then you aren't ready for a credit card.

Credit card payments are reported to the three national credit bureaus (Experian, Equifax, and TransUnion). On-time payments will boost your score and strengthen your credit profile. If you pay your credit card bill late — 30 days or more past due is considered officially late — your credit will take the blow. A single late payment can cause your credit score to fall by 100 points or more. That late payment will also stay on your credit reports for seven years.

If you struggle to pay your other bills on time, there's no indication you'd be any better at paying your credit card bill every month. Hold off on applying for a credit card until you change your habits. (See also: 5 Simple Ways to Never Make a Late Credit Card Payment)

3. You can't build up your savings

Before taking on the financial responsibility of a credit card, you should have already built up some savings. This is a sign of financial maturity and stability — the type of maturity and stability you'll need to handle a credit card.

If your bank account falls to zero (or near it) before every payday, you probably aren't ready for the responsibility of managing a credit card and the monthly payments that come with it. (See also: 8 Factors That Could Keep You Broke Forever)

4. You can't stop borrowing money from your parents

Do you frequently turn to your parents for help when the rent is due? Are you constantly asking them for extra cash when you want to go out for dinner or to a concert?

This is another huge warning sign of financial immaturity, and evidence that you are not ready for a credit card. If you can't handle your monthly living expenses without cash infusions from Mom and Dad, you'll be tempted to use your credit card to make those extra purchases. And that's a surefire formula for running up debt that you won't be able to pay off. (See also: 4 Things You Should Make Your Adult Child Pay For)

5. You don't have a reliable income stream

You need a steady stream of income coming in every month if you want a credit card. It's imperative that you're able to pay off your credit card bill in full at the end of each billing cycle. Otherwise, you risk sending yourself into a cycle of high-interest debt.

If you don't have a steady job, or if you're constantly struggling to find enough money to pay your bills each month, avoid the temptation of applying for a credit card. Instead, focus on increasing your income and building up some emergency savings before sending in a credit card application. (See also: 5-Minute Finance: Start an Emergency Fund)

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6 Reasons You're Still Struggling to Pay Bills

Kentin Waits — Thu, 03 May 2018 09:00:11 +0000

You've worked hard. You've hit your career goals. Your salary has never been higher. Still, at the end of the every month, you break into a cold sweat worrying if there's enough money to go around. Why, at this point in your life, does bill paying still feel like a painful game of financial Twister? It's time to get to the root of the problem. Here are six reasons you're still struggling to pay bills.

1. You don't have a budget

Budgets are how people anticipate their expenses and allocate their spending. Without this essential framework, your financial life will look a lot like the Wild West — filled with drama and boom and bust cycles (and probably too many saloon scenes). If you're making late payments or missing payments altogether, it's time to build your first budget, cowboy.

2. You have too much credit card debt

With astronomical interest charges, late fees, and other penalties, credit card debt leaves millions of families strapped for cash year after year. If you're struggling to pay your bills each month, take a hard look at your credit habits. How much of your income is devoted to servicing debt? Are you barely covering the minimum payments or racking up new charges? If so, grab a shovel. It's time to dig yourself out of high-interest credit card debt. (See also: The Fastest Way to Pay Off $10,000 in Credit Card Debt)

3. You're house poor

If your mortgage consumes more than 25 percent of your income, you may be house poor. For many, that single payment is simply too steep and leaves little money leftover for bills and other budget essentials. Think you may be house poor? Explore refinance options, rent out a spare bedroom, or consider selling and moving into a more affordable home. (See also: How to Make Ends Meet When You're House Poor)

4. You can't stop impulse buying

We all fall prey to impulse buys every now and then. But if off-budget spending has become a way of life, you're probably broke by bill-paying day. Examine why impulse buying is so attractive. Is it a way of relieving stress? Is it a reward for working long hours at a job you don't like? How could you rearrange your life and take control of your spending? (See also: 9 Simple Ways to Stop Impulse Buying)

5. You're too focused on keeping up with the Joneses

Trying to keep up with the Joneses can exhaust you mentally, emotionally, and financially. If you're constantly struggling to pay your bills, ask yourself: "To what degree is my spending influenced by the spending habits of others? Am I trying to project an image I can't afford?" Since paying your monthly bills doesn't give you much "image bang" for your buck, you may simply be prioritizing status over solvency. (See also: 4 Money Lessons You Can Learn From the Joneses)

6. Someone's draining your income

If you're always behind the eight ball with your bills, maybe the problem isn't something, but someone. Is your BFF always "a little strapped for cash?" Are you supporting a chronically unmotivated spouse, sibling, or adult child? Practice a little tough love (and self-care); use your cash to cover your own bills, protect your own credit, and keep your lights on. (See also: 4 Things You Should Make Your Adult Child Pay For)

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My Kid Got Accepted to an Expensive Private College — Now What?

Dr Penny Pincher — Tue, 24 Apr 2018 08:30:10 +0000

My son recently got accepted into a college program that would cost about $45,000 per year for tuition, room, and board. This is exciting news — but also potentially expensive news. At what point does the cost of college outweigh the likely economic benefits?

Of course, the value of college goes far beyond simply allowing someone to prepare for a higher paying job. College can help you discover your path in life, develop your mind, and open doors to experiences that are not available to most people. But how much is too much to pay for college, from a purely financial perspective?

College's cost in dollars and opportunity

The main costs of college are tuition, room, and board. The average total cost of attending an in-state public university is over $20,000 per year, and the average cost of private college is over $40,000 per year, according to the College Board.

Opportunity cost is another cost of college that is easily overlooked. If you spend four years attending college full-time, you miss out on four years of full-time income that you could have earned instead. You also potentially delay starting to build investments and reaching financial independence.

The most insidious cost of going to college is probably lifestyle inflation. Almost everyone tends to spend more as they make more. Even though college graduates will likely make more money than those who don't go to college, college grads will probably also spend a lot more on a more expensive lifestyle. Just because you make more money doesn't mean you'll end up having more money in your bank account or a higher net worth. (See also: What to Do When You Can't Afford Your Child's College Education)

College will boost future earnings by a lot

Even though the costs of attending college can be prohibitive, the benefits in terms of increased salary can easily add up to millions of dollars over a career. Let's say you are 18 years old and decide to start working full-time at an entry-level job that pays $20,000 per year. Your earnings over your career until age 65, with a 3 percent raise every year, would be $2,007,930.

Now let's say instead of starting to work full-time at age 18, you attend college for four years. You start working full-time at age 22 with a starting salary of $45,000 per year, which is a reasonable expectation for a wide range of college majors. If you work until age 65, assuming a 3 percent raise each year, the earnings over your career would be $3,846,775.

Taking into consideration that you delayed starting your career for five years to attend college, you would still earn over $1.8 million more over the course of your career from the benefit of your college education.

Of course, expected starting salaries vary with college major. According to the National Association of Colleges and Employers, engineering majors are at the top of the pay scale and can expect to start at an average salary of around $65,000. Education majors have average starting salaries of around $35,000, and almost all other majors are somewhere between $35K and $65K. But no matter what you major in, your salary earnings potential over your career will likely get a big boost by going to college. (See also: 5 Jobs That Pay Over $50K and Don't Require a Bachelor's Degree)

How much should you pay to go to college?

The return on investment of going to college can be quite favorable in terms of increased lifetime salary potential. As we saw in the example above, earning over $1.5 million more from a higher salary after going to college is a realistic expectation.

The limit on how much you should pay for college is not constrained by the value of your higher salary with a college degree, since your increased earnings would probably far exceed the cost of going to college. Instead, the limit on college cost for most people is driven by how big of a student loan they can afford to pay back after graduating.

Even though a college degree could boost your income by millions of dollars over your career, you'll need to start making student loan payments shortly after graduating. By estimating how much income you expect to earn after you graduate, you can figure out a ballpark figure for the maximum size student loan you can afford. (See also: 6 Questions to Ask Before Taking Out Student Loans)

Here's how to calculate your maximum affordable student loan balance.

Estimate your starting salary based on your major. For example, $45,000.
Divide your anticipated starting salary by 12 to get monthly pretax income. For example, $45,000 / 12 = $3,750.

As a rule of thumb, use 10 percent of your pretax monthly income as your maximum affordable student loan payment. For example, $3,750 x 0.10 = $375 per month.

Calculate the loan amount that a payment of $375 would support. For example, using the loan balance calculator from CalcXML, $375 per month would support a 10-year loan of $32,586 with 6.8 percent interest.
Divide the loan amount by the number of years of college. For example, $32,586 / 4 = $8,146.50 per year.

The second to last step gives you an idea of the biggest student loan balance that you could afford to make payments on. The very last step gives you the biggest student loan amount that you should take each year.

If you want a quicker way to estimate the maximum affordable student loan balance, take 75 percent of your anticipated starting salary. Using the same salary as in the previous example, $45,000 x 0.75 = $33,750. That would be your maximum affordable student loan balance.

But what if the numbers don't add up?

I started off by saying that my son was accepted into a program that costs $45,000 per year. Over four years, this would add up to $180,000. This greatly exceeds the maximum affordable student loan amount for a new college graduate. For an expected starting salary of $45,000, we calculated that the maximum affordable student loan balance is around $33,000. This wouldn't even cover one year of my son's program.

Fortunately, there are some ways to reduce college expenses and bring the cost into an affordable range. My son was offered a big scholarship, which makes the sticker price a lot lower. Here are some other possibilities your child can pursue to help keep college costs affordable. (See also: How to Pay for College When You Didn't Get a Scholarship)

Choose an in-state public university instead of more expensive private schools.
Consider starting at community college for two years and transferring credits to a four-year institution later.
Work summers or part-time to help pay some college expenses and reduce the burden of student loan debt.
Consider going into a major that pays well to be able to afford a more expensive college program.
Consider financing student loans for a longer repayment period to reduce the monthly payments. (You will be in debt longer, but could still come out ahead in the long run.)
Consider military service before college, or an ROTC program at college. Benefits can cover college expenses.

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This article is from Dr Penny Pincher of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

Saving Goals for Every Age

Ashley Eneriz — Fri, 06 Apr 2018 08:30:09 +0000

It seems that current financial news is laser-focused on the crisis of skyrocketing student loan and credit card debt. While it's easy to focus on what the average American owes, we often forget that there is a savings crisis going on at the same time.

According to a 2017 GOBankingRates survey, more than half of Americans (57 percent) have less than $1,000 in their savings accounts. An astounding 39 percent of Americans have no savings whatsoever.

Retirement savings aren't faring well, either. According to a 2016 retirement confidence survey, more than a third of workers over age 50, and half the surveyed retirees, had less than $25,000 put away for retirement. Imagine trying to live the decades of your golden years on such a small nest egg.

It is time to save more money. Start following these savings goals for every decade of your life, and you won't end up as a sad savings statistic.

In your 20s

Don't waste your 20s thinking you have plenty of time to earn more and save more. Putting away even a small percentage of your income each month can translate into big savings by the time you hit your 50s.

Savings goals

In your 20s, your first goal should be to start an emergency fund and build it to $1,000. Setting up this emergency fund gives your finances a little cushion so that you can avoid dipping into debt every time something goes awry. Once you hit the $1,000 mark, build up your emergency fund to three to six months' worth of daily living expenses. This will protect your finances even further against expensive emergencies or a job loss.

Retirement goals

Before you leave your 20s, use your gross annual income as the target amount for how much you should have saved for retirement. For example, individuals making $40,000 per year should try to have $40,000 saved in their retirement accounts before turning 30. This goal sounds daunting, but it's achievable, especially if you start earlier rather than later. (See also: 5 Retirement Accounts You Don't Need a Ton of Money to Open)

If your company offers automatic deductions from your paycheck into a 401(k) each month, make sure you're enrolled so you won't have to consciously make the sacrifice. If you work for a company that offers a 401(k) match on a percentage of your contributions, make sure you're contributing enough to get that match. Otherwise, you're leaving free money on the table.

In your 30s

With the growing pains of your 20s out of the way, it's time to step up your personal finance game. During this decade of your life, you'll ideally start earning more money and keep the ball rolling on your savings goals. Remember to steer clear of unnecessary debt: In your 30s, you may be balancing a student loan with a new mortgage payment, so the less additional debt you take on, the easier it will be to reach your money goals.

Savings goals

If you have more expenses or are earning more money than you were in your 20s — especially if it's a lot more — you need to grow your emergency fund to a larger cushion. Aim to cover a year's worth of your daily living expenses (payments on your mortgage, student loan, credit cards, utilities, etc.). Once your emergency fund is fully funded, you want to keep that money there. Only dip into it when an emergency happens. After your financial emergency has been dealt with, you should get back to fully funding the account. (See also: 8 Ways to Decide if It's a "Fund-Worthy" Emergency)

Retirement goals

In your 30s, focus on doubling the amount in your retirement accounts to twice that of your annual gross income. Make sure your retirement portfolio is not set to an ultra conservative investment mix. You have several decades before retirement, plenty of time to recover from any market downturns, and you can afford to set your portfolio allocation to a higher risk. This will increase your account's earning potential while it still has a long time to grow. (See also: 8 Steps to Starting a Retirement Plan in Your 30s)

In your 40s

Your 40s can feel like an overwhelming financial decade. It's likely you have a lot on your plate; you may be trying to maximize your retirement savings while also putting away money for your kids' college education. Don't get discouraged; it's more important than ever to stay on the ball. (See also: 6 Personal Finance Rules to Live By in Your 40s)

Savings goals

At this point, your emergency fund should still have enough to cover a year's worth of living expenses. Once you've built enough safety savings, your extra dollars would better serve you elsewhere.

Your extra money should first go toward your retirement and paying off any high-interest debt. If your retirement accounts are well-funded, and your debt is low, you can then send your dollars to other important savings accounts, like a college fund for your kids, a family vacation fund, or a home renovation fund. Aim to contribute 20 percent of your monthly take-home pay to your desired savings account each month. (See also: 5-Day Debt Reduction Plan: Pay It Off)

Retirement goals

As mentioned above, retirement is a major priority now. It's more important to build your retirement savings than it is to put away money for your kids' college tuition or an unnecessary expense like a family vacation. Your kids will have options when they attend college, whether in the form of student loans, scholarships, or AP credits. You will not have any options if your retirement savings are not enough.

Aim to save four times your annual gross income in your retirement accounts before you leave your 40s. You don't have to switch your portfolio asset allocation to low risk, but consider revising your retirement accounts to a more moderate risk level. With your retirement savings looking healthy, don't fall into the temptation of dipping into it for emergencies or to pay your child's college tuition. It is seldom worth it. (See also: Are You Ruining Your Retirement by Spoiling Your Kids?)

In your 50s

As you enter your 50s, retirement is visible on the horizon. You may be facing unique challenges during this decade, such as changes to your health or caring for an elderly parent. This is the time to cover all your bases; accelerate your savings and play catch up where you need to. (See also: 6 Financial Steps to Take When Your Aging Parents Move In)

Savings goals

Your emergency fund should still reflect at least a year's worth of living expenses. If you have an aging relative who may need your care, or a health issue that threatens to leave you out of work, you may need to build your emergency savings further.

Your 50s are also the time to get serious about debt repayment. At this point, high-interest credit card debt is a large threat to your financial wellbeing. When you retire, you'll be living on a fixed income. If you didn't save enough money throughout your working life, that income may not be very high. The last thing you'll need to worry about are the bills piling up for your credit cards, car loans, or mortgage payments. Tackle these things as best as you can, now. The less debt you bring into retirement, the better.

Retirement goals

Before you leave your 50s, strive to have six times the amount of your annual salary saved for retirement. Your portfolio should now be managed as fairly low risk, though with people living longer than ever, it may still make sense to own a few higher-risk investments such as stocks.

In order to catch up on retirement savings later in life, take advantage of the additional money you can contribute to your retirement accounts once you hit age 50; in 2018, it's an additional $6,000 per year to your 401(k), and an additional $1,000 per year to an IRA. (See also: 5 Ways Longevity Is Changing Retirement Planning (And What to Do About It))

In your 60s

You are on the cusp of retirement, but this doesn't mean now is the time to slack off on savings. You should be working extra hard toward your goal of financial stability for your golden years.

Savings goals

The goal is to enter retirement with very little financial worry. You still need an emergency fund in retirement. If you don't have any liquid savings set aside for a crisis, focus on building that up. If your emergency fund is stocked, every extra dollar should go toward contributing the max on your retirement accounts and paying off the rest of your debt.

Retirement goals

Will retirement contributions even make a difference at this point? Yes! Boost your retirement funds as much as possible in the last few years you're still working. It's important to remember that life happens. You may have a plan to retire at 65, but a health issue, caregiving obligation, or even a layoff could force you to retire early. In a situation like that, you'll be so glad you continued contributing to your retirement accounts past age 60. (See also: What to Do if You're Laid Off Before You Retire)

Even in an ideal scenario, you'll still be relieved when you're ready to officially kick off your retirement with a well-stocked nest egg.

How much do you have saved?

How are you faring for your age group? Do you need to save more or are you right on track? If you are behind, don't get discouraged; now is the time to get your budget under control and accelerate your savings for a financially secure future.

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7 Liabilities That Will Ruin Your Net Worth

Tim Lemke — Thu, 15 Mar 2018 09:30:17 +0000

If you're passionate about personal finance, you know about the importance of building net worth. This means accumulating things that will grow in value, while reducing your liabilities. A person with no debt, a home that they own free and clear, and a sizable retirement account likely has a high net worth. A person with thousands of dollars in credit card debt, a burdensome mortgage, and no cash savings has a low or even negative net worth.

Building net worth is about accumulating money and assets, but it's also about reducing liabilities. In short, it's about making sure debt isn't hurting your ability to achieve your financial goals. Here are some big liabilities that can hurt your chances to build a high net worth. (See also: 6 Money Moves to Make If Your Net Worth Is Negative)

1. Credit card debt

Credit cards can be poison to those looking to generate wealth. Interest rates on credit cards are so high that it rarely makes sense to carry a heavy balance on them. The average household with credit card debt owes more than $15,000 on their cards. It's no wonder Americans are, in general, fairly lousy at building net worth.

Having a lot of credit card debt can hurt your credit score, thus making it more expensive to borrow for mortgages and auto loans. This leads to a nasty spiral that virtually guarantees your liabilities will be larger than your assets. If you have credit card debt, start paying it off as soon as possible. Aggressively reduce your expenses, learn to invest rather than spend, and get out from under the pressure of those crippling cards. (See also: The Fastest Way to Pay Off $10,000 in Credit Card Debt)

2. Car loans

Many people live with car payments as a permanent part of their lives. Financing the purchase of a vehicle is a common practice, but is also an easy way to add to your liabilities while adding very little to your net worth (cars almost always decline in value).

Vehicles aren't cheap, but if you can avoid making car payments over the course of several years, you'll be better off financially. Work to save toward the purchase of a vehicle so payments are minimal or nonexistent. Resist the urge to purchase a new car until the one you have is no longer viable. Avoiding several hundred dollars a month in car payments will free up cash to invest and accumulate assets rather than see your net worth stagnate. (See also: Cutting Your Car Payment Is Easier Than You Think)

3. Unpaid taxes

Yeah, taxes are a pain. No one really feels like paying them. But if you don't pay them, they turn into liabilities that can grow as a result of penalties and fines. Failure-to-file penalties only add to your tax bill, and keep increasing the longer you avoid paying.

If you are employed, most of your taxes are taken from your paycheck, but you still may find that you owe some money on your tax return. Self-employed people must be extra diligent to ensure they are paying taxes on any income they receive. It's also important to make sure you are paying proper real estate taxes on your home, as well as taxes for income gained from your investments. (See also: 8 Tax Return Mistakes Even Smart People Make)

4. Medical bills

There will come a time when you or a family member gets hurt or injured. The expense of hospital stays, surgeries, or ongoing care can be devastating. It's driven many families into bankruptcy and can crush any attempts to boost your net worth.

It may not be possible to avoid medical emergencies, but you can protect yourself by being properly insured. If your employer subsidizes the cost of health insurance, take advantage. If you are self-employed, seek to find a reasonably priced plan through a state or federal health exchange. Insurance isn't always cheap, but it will prevent you from taking on costly medical bills that destroy your financial well-being. (See also: How to Handle a Massive Medical Bill)

5. Student loan debt

We often view student loans as investments in our financial future because an education can help us earn more in our career. But until they are paid off, student loans are only liabilities. If you are still in school, you have some time before you have to start making payments; but once you graduate, those loans can become awfully burdensome. Heavy student loans can force you to take on additional debt just to make ends meet, in turn sinking your net worth even further.

To avoid this, it's important for you and your family to save as much money for college as possible in advance. Take cost and value into consideration when making your college choice, and think about getting a job while in school to help pay for tuition. This may require some tough choices, but avoiding student loan debt will help you get on track for building your net worth much sooner. (See also: 6 Questions to Ask Before Taking Out Student Loans)

6. Your mortgage

Owning a home can be a great way to build your net worth, but that may not be the case if you have a bad mortgage. If your payments are so high that you are unable to save money and invest, it's preventing you from boosting your net worth in other ways.

Borrowing money to buy a home is perfectly normal and has helped countless people get on the path to financial freedom. But it's important to have a mortgage that helps you more than hurts you. Put as much money down as you can so the loan itself is not too large. Get a loan with a low, fixed interest rate with a relatively short term (30-year mortgages are OK, 15-year mortgages are even better).

When you begin paying off your mortgage, you may not be paying off much of the principal of the loan at first. But soon, you'll be making a good dent and building real equity. And that's the path to building net worth. (See also: 8 Signs You're Paying Too Much for Your Mortgage)

7. Home equity loans

It's not uncommon for people to borrow money from the equity of their home to pay for major expenses. There are a variety of reasons why this may make sense. But it's important to be careful when doing this. When you are borrowing from your home equity, you are essentially turning an asset — the equity of your home — into a liability. In essence, you are taking away something that adds to your net worth.

In the long run, borrowing from home equity can help build wealth if you make the right financial choices. For example, you could use money from the equity of your home to make repairs or expand the home, thus boosting its value. And when interest rates are low and market returns are high, it may make sense to borrow for major purchases and use your available cash to invest instead. Just be sure to weigh the risks and rewards before borrowing heavily against the equity in your home. (See also: 4 Smartest Ways to Use a Home-Equity Loan)

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8 Common Causes of Debt — And How to Avoid them

Tim Lemke — Thu, 15 Feb 2018 10:00:06 +0000

Debt plagues millions of Americans every day. It is such a common problem that many of us don't even think twice about what we owe, or how we landed in such a predicament.

The simplest explanation is that debt happens when you spend more than you earn. But it's not actually that simple when real life steps in. Unexpected events, bad planning, and even a decision to pursue an education can leave you facing big debt that may take years to pay off.

By understanding some of the main causes of debt, we can make better financial decisions in avoiding it. Let's take a look at some of the worst offenders.

1. Medical expenses

Medical costs have long been one of the leading causes of bankruptcy in the United States. Even those with health insurance are not immune to medical debt. An illness, injury, or health condition can cause bills to quickly accumulate.

The Kaiser Family Foundation found that three in 10 Americans report that they or a household member have had trouble paying medical bills in the past year — 58 percent of which were affected in a way that had a major impact on their life. More than 60 percent of respondents claim their savings were wiped out. Another 37 percent turned to credit cards.

It's not easy to predict how your health could change in the future. Actually, it's almost impossible. But putting certain safeguards in place can help mitigate the risk of financial ruin. Health insurance is the first step. And while premiums can be expensive, facing an illness or injury without that coverage would be infinitely more devastating. (See also: The One Question You Need to Answer to Choose the Best Health Care Plan)

It's also critical that you build an emergency fund. This savings cushion should ideally cover six months' to a year's worth of your living expenses. If the worst happens, you'll at least have something to fall back on. (See also: 7 Easy Ways to Build an Emergency Fund From $0)

2. Loss of income

Losing a primary source of income can severely hurt your bottom line. Maybe you were laid off or fired, or had a sudden decline in revenue for your business. Maybe you needed to stop working to care for a child or older relative. Or perhaps your health took a turn, and you were forced to retire early or drop to part-time employment. When something like this happens, it's easy to find yourself overwhelmed by bills and expenses. Debt can quickly follow.

One of the biggest safeguards you can establish for yourself, again, is an emergency fund. Ideally, this fund can sustain you while you try to replace your lost income. Is your emergency fund as big as it should be?

It's also key that you try to live well below your means at all times, even when money is good. This means spending more on "needs" and less on "wants." This way, even if your income drops unexpectedly, you'll find it easier to get by at your current lifestyle without dipping into that emergency fund or creating new debt.

3. College costs

Going to college can be very expensive, and many young people find themselves saddled with debt early on in their lives. The average class of 2016 graduate left school with $37,172 in student loan debt. Those student loans can force a new graduate into even more borrowing, which only furthers the debt cycle.

Parents can help young people with college costs by saving up, often with the help of 529 college savings plans and similar programs that offer tax advantages. If you are a student who is not fortunate enough to get help from family, you can reduce or even eliminate your student loan burden up front in a number of ways.

It helps to select schools based on overall value, rather than prestige. It's generally cheaper to go to school in state, and public schools are often less expensive than private ones. Spending two years at a community college and transferring to a four-year college is often a great way to save. (See also: 7 Things Employers Care About More Than Your Degree)

Working while in school can help offset costs. Many schools will help students find on-campus jobs. And there's usually no harm in deferring the start of college for a year or two while you save money. (See also: 8 Money-Saving Hacks Every College Student Should Try)

There is also new information being published about the "return on investment" of college degrees that can guide students to available and well-paying jobs. (See also: 8 Great Jobs for the Next 10 Years)

Avoiding college debt may force students and their families to make difficult choices, but they are choices that will help a young person start their adult lives off on the right financial foot.

4. An unexpected emergency

Many people find themselves in debt because they aren't prepared when big, bad, expensive things happened to them. Your entire HVAC system may go haywire and need to be replaced. You may crash your car. Or you may get really sick, and find your insurance will only cover a portion of your bills. To keep these scenarios from wiping out your savings and leading to debt, you once again need to bolster that emergency fund. A sizable emergency fund can help cover big one-time expenses so you're not tapping into credit cards or taking out loans.

You may have to anticipate possible big expenses to some degree. How old is the roof on your house? How old is your car? How's your health, in general? It's impossible to know the future, but you can prepare yourself for certain outcomes. (See also: 4 New Reasons You Need an Emergency Fund)

5. Being poorly insured

Insurance is a funny thing. It can seem like a waste of money … until you need it. Many people find themselves in serious debt or even bankruptcy when a bad event hits and they are uninsured or underinsured. Imagine having your house burn down without homeowners insurance. Imagine purchasing a bare-bones health insurance plan and getting into a serious car accident requiring a lengthy hospital stay.

Insurance is a very important part of financial planning. Every person should periodically conduct a thorough review of their insurance policies to ensure they have plans that cover them in case of a bad event. No one wants to think about bad things happening to them, but without insurance, those bad things can really sting you financially. (See also: 5 Reasons Why Life Insurance Isn't Just for Old People)

6. Keeping up with the Joneses

Your neighbor just bought a new sports car. Your Facebook friends are sharing photos of their latest tropical vacation. Your brother-in-law just purchased a home twice the size of yours. It can really sting when you feel like you have to go without. And like many people, you may feel pressure to "keep up" with your friends' lavish lifestyles.

This is a recipe for financial disaster.

Chasing a lifestyle you can't afford will have you turning to credit cards to fund your frivolous buys. The spiral into debt can be quick and overwhelming. Showing off isn't worth your financial wellbeing. No one is implying you don't deserve to treat yourself to nice things or vacations once in a while; but if you can't actually afford those things, what favors are you doing yourself?

Keeping up with the Joneses is an effort in vain, and chances are, many of your flashy familiars aren't living as fun and fancy free as they'd have you believe. Not only do they have their own Joneses they're trying to keep up with, but odds are that many of them are also in debt. (See also: 4 Money Lessons You Can Learn From the Joneses)

7. Divorce

When a marriage ends, it can be financially disastrous for both people. Divorce often means that each person is going from two combined incomes to one, and it's even worse for the person who earns less. One person may end up responsible for child support or alimony payments. A divorce might mean you have to sell a home or other assets at an inopportune time. Plus, there can be massive legal costs.

Sometimes divorce is necessary. But couples who are separating can reduce the financial impact by continuing to offer financial support for each other, if they are willing. They can also keep legal costs low by keeping the divorce proceedings as amicable as possible, and by using a mediator or arbitrator instead of going through the court system. (See also: How to Protect Yourself Financially During a Divorce or Separation)

8. Gambling

As many as 4 million people in the U.S. have a gambling disorder, according to industry groups. And Debt.org reports that 23 million people in the U.S. have gone into debt due to gambling, with an average loss of $55,000. If you have a gambling disorder — or even if you only gamble casually — you may be putting yourself at great financial risk.

There are a number of ways to tell if you have a gambling disorder. The American Psychiatric Association lists the following indicators: lying about gambling to friends and family; following up losses with immediate new bets; and turning to others for financial help due to gambling losses.

A gambling addiction is treatable through counseling, and even some medication. If you are finding yourself facing debt caused by gambling, seek help before your financial problems worsen.

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This article is from Tim Lemke of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

6 Reasons Why Financial Planning Isn't Just for the Wealthy

Dan Rafter — Wed, 14 Feb 2018 10:00:06 +0000

There's an unfortunate divide when it comes to financial planning. The lower your income, the less likely you are to have a financial plan. But it doesn't have to be that way.

A 2016 Financial Engines report found that only 37 percent of American workers with yearly incomes between $35,000 and $100,000 have a comprehensive financial plan to grow their wealth. Meanwhile, 48 percent of workers with an annual salary of more than $100,000 do have a plan. What's more, wealthier Americans tend to have more comprehensive financial plans than those followed by middle-income earners.

The problem with this is obvious: Financial planning can help everyone, not just people with higher salaries. But too many lower- and middle-income earners think that they don't make enough money to warrant having a financial plan. This is dangerous thinking, as lacking a financial plan can scuttle your efforts to save for retirement, help pay for your children's college education, or even buy a home.

Here are six reasons why you need a financial plan, even if you don't make over $100,000 per year.

1. Without a plan, it's harder to set or meet financial goals

How much money do you need to save for a healthy and happy retirement? Without a financial plan, you probably have no idea. And how do you accumulate these savings? Again, if you don't follow a financial plan, the odds are likely that you won't meet your retirement goals.

According to the Financial Engines study, people with financial plans save about 10 percent of their salaries toward retirement, while those without save only 6 percent. This can make a big difference. The study uses the example of a person starting out with $50,000 in retirement savings. If that person earns $100,000 each year, and saves 10 percent of that salary for 25 years, they will have amassed as much as $1.13 million in retirement savings. Meanwhile, someone saving 6 percent of that income for 25 years will only have saved around $890,000. (See also: Here's How Far $1 Million Will Actually Go in Retirement)

2. A financial plan can help you rein in your spending

When you get to the end of every month, is your bank account nearly drained? Do you know where your money has gone? If not, a financial plan can help.

A basic pillar of creating a financial plan involves tracking where your money goes each month. It's all about creating a household budget that lists the average dollars you spend on everything from utilities and rent, to transportation, groceries, dining out, and entertainment. Once you have these figures in front of you, and once you compare them with how much income you bring in, you can adjust your spending so that you aren't constantly running out of money each month. Without a financial plan, you'll just keep overspending. (See also: Build Your First Budget in 5 Easy Steps)

3. It will help you reach big financial goals

Do you want to buy a house? Or maybe you dream of helping your children pay for their college education. Attaining big financial goals such as these is a far more challenging task if you don't have a financial plan to guide you.

A financial plan will spell out how much money you'll need to reach life's big financial goals — everything from saving enough for a down payment on a home, to buying your first car, to saving enough money to help your children graduate from college without mountains of student loan debt.

Unfortunately, a majority of Americans earning lower or middle-class incomes don't plan for attaining these big goals. The Financial Engines study found that only 41 percent of middle-income workers have financial plans for saving for a child's college education. A far higher number — 61 percent — of wealthier Americans have financial plans that address this challenge. (See also: Why Saving Too Much Money for a College Fund Is a Bad Idea)

4. It will help you protect your loved ones

If you died unexpectedly, what financial ills would fall on your children or partner? If you invest in life insurance, you can help protect these loved ones in case you do die.

The problem is, Americans who don't have financial plans are far less likely to take out enough life insurance or disability insurance to properly protect their families. The Financial Engines study found that 67 percent of middle-income earners have purchased life or disability insurance, while 83 percent of upper-income earners have these policies in place. (See also: Why Your Group Life Insurance Is Not Enough)

5. With a financial plan, you're likely to have less credit card debt

The 2013 Household Financial Planning Survey and Index, completed by the Consumer Federation of America and the CFP Board of Standards, found that those with financial plans tend to have less credit card debt and, when they do, are more likely to have a plan for paying it off.

According to the survey, 38 percent of adults without a financial plan have significant credit card debt, and only 47 percent of these people have plans to reduce it. Meanwhile, even a little bit of financial planning seems to help people rely less on credit cards. Among adults who fall into the "limited planners" category — meaning they have a financial plan, though not an especially detailed one — are less likely to have such debt. The survey found that 61 percent of these limited planners have no credit card debt at all. And only one in five people with comprehensive financial plans have significant credit card debt that needs to be paid down, with 92 percent having a plan to do so. (See also: 5 Ways to Pay Off High Interest Credit Card Debt)

6. You'll be better prepared for a financial emergency

What happens if your car's transmission goes on the fritz? What if your home's furnace conks out in the middle of a chilly night? If you don't have an emergency fund built up, you might have to pay for those repairs with a credit card.

Even worse — what if you suddenly lost your job? This is why that cushion is so important. Financial experts recommend that you have at least six months' to a year's worth of daily living expenses saved in an easy-to-access fund, like a savings account.

Building an emergency fund takes time, but if you have a financial plan, you're far more likely to set aside the money you need each month — even if your salary isn't particularly high. Just $200 or $300 a month can add up over time. And if you have a financial plan that shows you how to save that money every month — perhaps by cutting down on unnecessary expenses — you're far more likely to build an emergency fund. (See also: 7 Easy Ways to Build an Emergency Fund From $0)

Creating a plan

Now that you know why a financial plan is so important, it's time to create one. The good news is that while a financial planner can help, you don't necessarily have to work with one if doing so is too costly.

Start by creating a household budget that shows how much you spend each month, including estimates for discretionary expenses, and how much you earn. Then, determine how much money you need to save for retirement, college tuition, and building an emergency fund. If you can't save a lot, start by saving whatever you can each month. From there, you might be able to boost those savings by reducing some of your less important expenses.

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This article is from Dan Rafter of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

9 Little Ways to Boost Your Savings Account Every Day

Tim Lemke — Thu, 01 Feb 2018 09:00:06 +0000

Saving money is not always simple or straightforward. It's easy to get discouraged when faced with a big, long-term savings goal or mountain of debt. That's why it might make sense to start small. Rather than worry about saving thousands for that down payment or paying off that massive student loan, focus on reasonable things you can do each day to give your savings account a boost.

None of these suggestions will make you rich by themselves. But collectively and over time, they can add up to a meaningful sum.

1. Drive less, or at least smarter

Every time you get in your car, you're spending money. You are spending money on gas, and your car is depreciating and getting closer to needing repairs. It may be impossible to ditch your car altogether, but there are small things you can do each day to reduce your costs.

Research shorter and faster ways of getting to your destination. Consider planning your errands so that you can get more done in one trip, and plan your route for greatest efficiency. Drive when traffic is light, so you're not wasting time and gas. Turn your air conditioner or heater off if you don't really need them, and make sure your tires are inflated properly. These are small things, but they can add up to some savings over time. (See also: Cutting Your Car Payment Is Easier Than You Think)

2. Save and deposit your change

Let's face it, we're all reckless when it comes to change. We drop it on the ground. We leave it laying around. We spend it on candy bars and gum. We put it in large jars and forget about it.

It's time to get smarter about change. Go to the bank and deposit it. Even though it may seem like a trivial amount of money, that's still money that can collect interest and add value to your savings account over time. We get hundreds of dollars in change back from purchases throughout the year. Make that money work for you and put it directly into savings. (See also: 20 Smart Ways to Spend Your Loose Change)

3. Round up credit card purchases and deposit the difference

This is just like depositing your change from cash purchases. Let's say you go to a restaurant and are charged $12.65 for a sandwich. If you pay with a credit card, consider mentally rounding that purchase up to $13 and transferring 35 cents into a special savings account. If you do this with every purchase, you'll be banking several additional dollars each week, or potentially hundreds of dollars annually. (See also: 7 Ways to Save Loads of Money Using Credit Cards)

4. Adjust your thermostat

We all want to be comfortable when at home, but making even a small tweak to the indoor temperature can add up to significant savings over time. If it's winter time, consider turning the heat down and just throwing on an extra layer instead. In the summer, open some windows and use fans for part of the day. Always set the temperature differently when you aren't at home — a programmable thermostat can be hugely helpful in this area. (See also: 34 Smart Ways to Cut Your Electric Bill)

5. Use loyalty cards

I know some people don't like to sign up for loyalty cards because they aren't keen on sharing information or being bombarded with promotions. But I say get over it. Whether it's for Dunkin' Donuts, J. Crew, or your local grocery store, these cards can give you access to discounts you may not otherwise get.

The caveat to this is that if having a loyalty card encourages you to spend money you may not have otherwise spent, don't do it. But if the card is for a store you shop at frequently anyway, sign up! (See also: 9 Store Loyalty Programs That Are Worth It)

6. Clip coupons

Searching and cutting out coupons can seem like a real pain, but it's often worth it. Start by finding circulars or online flyers for stores you shop at regularly. Look for places that will double or even triple coupons. If you use a coupon to buy an item, consider taking the amount of money saved and diverting that into a special high-interest savings account. By doing this, you're saving double anytime you get a discounted item. (See also: 9 Online Retailers Who Let You Stack Coupons)

7. Get a credit card offering cash back

There are a million credit cards out there with various rewards, but I am partial to those that offer straight cash back on purchases. That's because rather than spending the reward, you can transfer it directly into a bank account. Other credit card rewards offering shopping discounts or airline miles are nice, but they don't help you increase your savings. I use a card that offers as much as 5 percent cash back on purchases, and it has saved me a significant amount of money over the years. (See also: The Best Cash Back Credit Cards)

8. Eat in

More and more people are eating out these days, because we're all busy, and who has the time to cook? But if you are willing to spend some time in the kitchen, you will almost always save money.

It costs far less to purchase ingredients and prepare meals at home than to go out to a restaurant. This is especially true if you spend money on beverages and appetizers when eating out. If you do cook at home, add up the cost of ingredients and calculate the price of a comparable restaurant meal. Take that savings and place it in a special account. (See also: 8 Ways to Save on Dinner — No Meal Planning Required)

9. Do quick jobs

You may already be employed and don't think you have the time or energy for additional work, especially if it does not pay well. But everyone has a few spare moments where they can make some easy cash. Freelance sites like Fiverr offer access to creative jobs that can be done quickly. There are a number of apps and websites that will give you cash just for answering surveys. Services such as TaskRabbit allow you to make money by offering quick, simple services, like giving someone a ride to the doctor's office. (See also: 14 Best Side Jobs For Fast Cash)

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This article is from Tim Lemke of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

How to Build a Side Business While Keeping Your Day Job

Denise Hill — Mon, 29 Jan 2018 09:30:09 +0000

The saying, "Don't quit your day job," has become all but obsolete. We live in an era of entrepreneurship. Being your own boss is the chic new trend. But while throwing caution to the wind and only having a Plan A is tempting, keeping your day job while turning a side gig into a business is a great way to mitigate risk, learn your market niche, and test ideas and business models.

However, building a business and a brand while working a nine-to-five is tough. Below are a few tips to help you ease your way into doing both. (See also: 15 Ways to Make Money Outside Your Day Job)

1. Consider getting a business partner or co-founder

Taking on a business partner is an excellent way to hedge risks, gain access to additional resources, and split the workload. It is also the quickest way to ruin a friendship and drag your business down before it gets off the ground. Before jumping into bed with your bestie, here are a few things you should consider:

What type of partner do you need?

The first step in getting a partner is to determine the type of partner you need and the role he or she will play. Do you need help with ideas, branding, marketing, balancing the books, procuring finances or additional resources? Or, do you need a silent partner — someone who helps financially and that's it?

How much of the business does your partner own?

Drawing lines in the sand early is essential. The longer you wait, the murkier things become and the harder it will be to determine who owns what. It is critical that you state upfront who is in charge or if everything will be split 50/50. Draw up a contract that reflects this decision. A contract between friends, you ask? Absolutely.

How do you make decisions?

Who has the final say? Establishing how decisions are made during the infancy stages of the partnership is beyond important. If you are the sole owner, should your partner make decisions on your behalf? If so, which decisions? Or should they run all decisions by you? A great way to work through this is by establishing roles and areas of responsibility. Your partner will clearly know his or her sphere and the boundaries will be better defined.

2. Respect your nine-to-five

Understand and respect the fact that your nine-to-five is your main, primary, and most important job. Your side gig has to be done outside of business hours. Until you are ready to divorce your employer and make your side gig your new bride, you must prioritize your day job as such — even if you hate it.

Just remind yourself that your day job is paying the bills and providing you with the means and motivation to launch out on your own. Here are a few ground rules when it comes to respecting your nine-to-five:

Work while you are at work

Do your best to be the best at your current job. Work to be fully present and to always do a good job. This will translate to your business as well.

Beware of conflicts of interest

If your side business is in the same market or area as your current employment, you need to tread lightly. Your employer's clients, business procedures, and intellectual property should not be used for personal gain.

Check what contracts you've signed

If you signed a nondisclosure or noncompete agreement, then you may be prevented from working for a competitor or against your employer for a specific amount of time. Find out exactly what your rights are and what you can and cannot do.

3. Do the hard, boring, and expensive stuff

While you are gainfully employed, it's a good idea to do as much foundational work as possible. Draft your business plan, secure any licenses or certifications you may need, and establish your business as an LLC or sole proprietorship.

It's also a good idea to begin buying equipment and paying any legal fees associated with your business niche. It may feel like a waste of money to shell out this type of cash upfront before you begin earning revenue, but it's worth it. The more you can take care of before launching the business, the more profits you keep and the less capital you'll need down the road.

This is also a great time to work on branding and developing a solid marketing strategy. It's easier to nail these things down before you begin doing business versus winging it after you're officially open. (See also: 6 Simple Ways to Market Your Side Business)

4. Start generating revenue

If it is in any way feasible, start generating revenue while you are still employed. Test out your prototype. See how much of your product you can sell or which services you can provide on a smaller scale before you go all in.

This allows you to test the market, make better financial projections, and properly scale your business before you open. You can tweak processes, find new vendors, and get a sense of your business's flow. It will also help you answer these questions:

What adjustments do I need to make?
How are people responding to my marketing campaign?
Am I properly branded?
Are my prices too high or too low?
Do customers pay on time?
How much business can I handle alone? At what point should I hire additional staff?
Is my service or product in demand? How can I increase demand?

Generating revenue before you officially dive into business ownership is also crucial if you need investors. You need to demonstrate the profit potential of your business in order to entice people to invest. And the best way to show that you can make money is by actually making money. (See also: 10 Fundamentals of Naming a Small Business)

5. Use downtime efficiently

The biggest myth concerning entrepreneurship is that you get to set your own hours. As a business owner, your time is no longer truly your own — your customers, the market, and the need to get work done are your new bosses, at least at first. You work when you need to work — or you go out of business.

You've got to learn to use downtime efficiently. Days off from your nine-to-five become full workdays for the business. And yes, you will have to work on holidays.

It also means getting up an hour or two earlier to reconcile the books, answer emails, or order more inventory. You lunch hour is now time for you to nibble on a sandwich while you update your website, post on social media, and generate new marketing ideas (on your own computer). And the evenings — which used to be a time for socializing with friends and vegging out with Netflix — are now devoted to doing whatever needs to be done to keep the business running.

The schedule may sound brutal, and it is. But hopefully, it's only temporary. Success comes at a cost, and in order to make it in business, you have to initially pay up. (See also: 8 Common Myths About Starting a Small Business)

6. Set a date

Make your business Plan A and your current job Plan B. Set a firm date for quitting your day job and work diligently toward that goal. Structure your life around achieving that goal. Restructure your personal finances to help you reach that quit date. Cut back, reduce your overhead, downsize, and save as much money as possible to help stabilize your income while you shift business gears. See if your employer will allow you to work part-time for a while before quitting.

Quitting your job and going into business full time must be your end game. If not, your business will become and forever remain a hobby. With a good idea, proper planning, and a bit of luck, your business will eventually be able to provide you a full-time income, and then some. (See also: Starting Your Dream Business Is Easier Than You Think — Here's How)

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This article is from Denise Hill of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread: