There’s never been a better time to learn financial literacy basics. With the cost of living squeeze and household debts rising, it’s critical to understand how finances work so you’re in control of your cash.
Unfortunately, though, financial literacy is lacking in the US, with 65% of Americans being financially illiterate and unable to manage their money.
While literacy may be lacking, it doesn’t take long to build essential foundation skills in personal finance. So, whatever life stage you're at, now's the right time to explore the basics of money management.
This guide is suitable for anyone who is beginning their financial literacy journey. Remember: it’s never too late to learn.
But before we dive into our guide on financial literacy for beginners, let's talk about what basic financial literacy skills are.
What are the basics of financial literacy skills?
Financial literacy covers several topics, including budgeting, banking, investing, handling debt, and planning for the future. Once you understand the basics in these areas, you'll be able to set and achieve financial goals by making savvy decisions.
Bonus: You'll also be able to help other family members. For example, you'll show your kids how to start a side gig or create a pot to support them in saving for a house deposit.
What are the benefits of understanding financial literacy basics?
If you’re on the fence about learning the basics of financial literacy, here are some compelling reasons to commit to this type of education.
Pass on excellent financial literacy skills to our children
Research by David Whitebread and Sue Bingham from the University of Cambridge found that financial habits tend to be instilled in children by just 7 years old.
If you have a young family, teaching financial basics before this age will make it less challenging to set them on the right path.
Being equipped to reach financial goals
We all have financial goals we wish to achieve. Some of us want to plan a comfortable retirement, while others want to become a homeowner or save for our kids to go to college. Think of your goals as the destination. And the basics of financial literacy as the road to get you there.
Without tracking your outgoing expenses, it’s so easy to waste money. And budgeting isn’t as tricky as it sounds.
It puts you firmly in the driving seat of your finances and eliminates unnecessary costs from your household budget. When you slash your expenses, you’ll have more money to put towards the things you value in life.
Less stress and anxiety about finances
FINRA reports that 65% of women feel anxious about their personal finances, compared to 54% of men. One of the major factors for these high levels of stress and anxiety is low financial literacy.
So, it follows that increasing your financial education will relieve some of these feelings. You might find it also improves relationships with family members once this strain has gone.
Better money management
Do you feel that your finances manage you, rather than the other way around? Learning some financial literacy for beginners tips will help you gain back control of your money management.
You’ll discover ways to tackle your debt, grow your savings pot, and keep a grasp on your expenses.
5 Financial literacy basics for beginners
Ready to begin? We’ll take you through five main areas of financial literacy for beginners!
1. Opening a bank account
Bank accounts are a safe way to store your money. After all, it's much harder for thieves to steal from a bank account than to take cash from your home or purse. And you'll typically have instant access to your cash when it's kept in a bank.
Another perk of having a bank account is that your money is protected by government-backed insurance. The Federal Deposit Insurance Corporation insures US bank accounts offered by retail banks.
You can also choose to open an account with an online bank that operates digitally or a brick-and-mortar bank where you can visit a branch as required.
Here are some of the different bank accounts you can open:
A checking account is ideal for your day-to-day budgeting. You can make deposits such as your salary into your checking account. You'll then withdraw from ATMs, banks, electronic transfers, or by using a debit card linked to the account.
Some checking accounts may charge you a monthly fee plus additional charges like accessing an overdraft. But there are also many free checking accounts available.
Always do your research and understand the terms and conditions before you open a bank account. For example, is there a limit on monthly withdrawals, and do they charge a fee every time you take cash out?
Another of your financial literacy basics is to link a savings account to your checking account. This will grow your savings and earn interest by keeping your money in your account.
Choose between a high-yield savings account and a standard savings account. The difference? You’ll usually require a larger initial deposit and more significant minimum balances to qualify for the high-yield savings account, but you’ll earn more interest if you do.
56% of Americans don't have enough saved to cover a $1,000 emergency bill, which leaves them vulnerable when life happens. Stay protected by opening a separate emergency savings account and contributing at least three to six months' salary to it.
You’ll have peace of mind that you have cash saved if you ever suffer hardship. Your emergency fund could offer support in the case of a job loss, large repair bill, or medical bills.
2. Using credit and debit cards
Using plastic debit and credit cards is convenient as you don’t need to worry about bringing cash with you. They slot easily into your wallet, and you’ll either swipe them to pay for goods in shops or can enter your card number details online for a digital transaction.
But there are important differences you need to know between credit cards and debit cards. Here are a few things to keep in mind:
A debit card is linked to our checking account. This isn’t borrowing money, as every time you spend using your debit card, the sum will be deducted from the balance in your account. You won’t be able to spend more than the available current funds.
With a credit card, you’ll have a maximum limit you’re allowed to borrow from your credit card provider. When you spend using your credit card, this will be added to the balance of debt you hold.
Money won't be taken directly out of your bank account when you use your credit card, but you'll owe interest on the balance too. This means if you spend $500, you'll owe $500 plus the interest your credit card company charges.
You’ll be expected to pay back a monthly minimum payment. But it’s better to proactively pay your debt down faster than the minimum to prevent the figures from spiraling out of control.
3. Taking out loans
This gives people access to cash reaching six figures that would otherwise take many years to save.
This may sound positive, but you must understand how loan products work and the implications if you cannot make your monthly repayments. Here are some important details about loans to consider:
Understanding how APR works
APR is an abbreviation for annual percentage rate. It refers to the amount of interest you'll be charged on any unpaid credit balance.
Loan products vary significantly with the APR rate they charge, so pay close attention to this when making a loan application.
The APR you're offered may depend on your credit score. If you have a history of poor credit and have maybe missed a few repayment deadlines, the lender may only offer you a higher APR rate.
This is because they see you as an increased risk. Those with a stronger credit history may have access to more favorable rates. The current average APR rate for credit cards is 16.38%, while APRs for personal loans range from approximately 3.5 to 35% or more.
Understanding how credit scores work
Although you must be careful using credit cards and loans, the plus side is that obtaining and using credit allows you to build a strong credit history, so lenders see you are a responsible customer.
But the opposite is also true: failing to make your payments could damage your credit history.
When you apply for credit, a lender will complete a credit check which includes accessing your current credit score. This will fall between 300 and 850, with the higher the score, the more trustworthy you appear to potential lenders.
Your specific score is based on factors such as how many accounts you have open, what your repayment history looks like, and your total levels of debt. Many financial institutions use the FICO system, but others will use systems such as Vantage Score.
4. Budgeting for beginners
One of the most important financial literacy basics is learning how to make a budget and why we rely on them. A budget gives you an overview of your personal finances.
You’ll know exactly how much income you bring in, how much you spend, and how much you can contribute toward your financial goals. Here are the most important considerations of a budgeting plan:
Tracking your expenses
The first part of your budget is understanding how much you spend each month versus how much you earn. If your expenses are greater than your earnings, this imbalance will create mounting debt.
Learn if this is a problem by tracking your expenses. Gather your last few months of bank statements, and work out how much you're spending and where there may be room to make positive cutbacks.
Some of these are fixed expenses (for example, your monthly mortgage or childcare bill), while others will be variable (like your grocery bill).
Increasing your income
If you've already worked on cutting down your expenses and the numbers aren't working, you'll know you need to increase your income. You might consider asking for a raise, finding work with a higher salary, or taking on a side hustle to supplement your income.
Choosing your financial goals
Everyone starts out as a beginner in financial literacy, but we don’t all share the same financial goals. Teens and young adults may want to save enough to go to college or fund a year-long traveling adventure with their friends.
A few years later, they may be more interested in saving for a down payment on their first home or setting up their retirement contributions. Parents may have financial goals to save for a college education for their children or even save toward their dream weddings.
Setting money aside
Break your goals down into short-term, medium-term, and long-term categories. For example, saving for next year’s vacation will require different budget considerations compared to an early retirement goal.
Know exactly how much you need to save overall to meet these goals, how long it will take you to reach them, and how much to set aside each month to achieve your goal on time.
Choosing a budgeting method
All budgeting methods track your income and expenses while ensuring there's enough room to save for the future. But there are many budgeting strategies to follow, such as reverse budgeting, zero-based budgeting, or the 60-30-10 rule.
If you want to account for every dollar that's in your budget then the zero-based budgeting method may be right for you. However, if you want something a little easier to follow then give the reverse budgeting method a try.
This is where you pay yourself first, such as 20% of your income, and use the rest for your expenses.
The key is to choose a budget method that is easy for you to stick with.
5. Investing for beginners
Once you have a great grasp of financial literacy basics, you'll want your money to work for you. And that's where it's useful to know the basics of investing your hard-earned cash.
Invest in a 401K or Roth IRA plan
Unless you’re planning to work forever (which few of us are!), then retirement planning is the greatest investment you can make to support your later years. As pensions have become less popular, many people rely on their 401(k) as an employer-sponsored contribution plan.
As an employee, when you sign up for a 401(k), you agree to have a percentage of your income invested directly into your plan. And your employer will match either all or part of this contribution.
In terms of tax, 401(k) plans work on a pretax basis, meaning the contributions come out of your income before tax is deducted. Another option is to invest in a Roth IRA (individual retirement account).
These don't offer tax deductions when you contribute, but deductions are tax-free once you retire.
Investing in real estate
While buying a house to live in might be your first financial goal, it doesn’t have to stop there. Investing in real estate is a great way to accelerate your savings and even earn a passive income.
This guide breaks down the different ways to invest in real estate as a beginner, including flipping houses, becoming a landlord, or getting stuck into real estate crowdfunding.
Investing in the stock market
Investing in the stock market involves putting money into an investment vehicle, with the end goal of receiving a return in the future. Essentially, you'll want your investment to grow with minimal effort from yourself.
You can choose to invest in stocks from individual companies. Alternatively, you might prefer to invest in vehicles like index funds that aggregate the stocks from various companies.
We're here to bust the myth that you need to be wealthy to invest in the stock market - actually, you can get started with a couple of hundred dollars. Check out this guide to buying individual stocks for more tips.
Investing in cryptocurrency
Cryptocurrency is the new kid on the block in the investment world. And honestly, cryptocurrency can be a pretty volatile market. So, this may not be the wisest investment strategy for anyone learning financial basics for beginners.
With this type of investment, you'll buy digital money using real money from your bank account. Cryptocurrencies such as Bitcoin, Litecoin, or Ethereum are available through exchanges such as Coinbase.
Watch your investment grow (or drop), or trade it for other types of crypto that are gaining momentum.
Put these financial literacy basics into action
Now you know the basics of financial literacy, and hopefully, you’ll feel empowered to make positive changes to your money management. The only thing left to do is to take action.
So go ahead and open your bank account, create a sensible budget and start practicing your financial literacy for beginners to create a comfortable and rewarding future.