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Managing your personal finances can seem like an endless collection of checklists and rules of thumb.
With all kinds of financial considerations getting so much attention – budgeting, saving, paying off debt, getting insurance, being a good shopper – consumers inadvertently overlook some important points. There is a possibility.
Here are some of the biggest financial blind spots, according to several certified financial planners on CNBC’s Digital Financial Advisor Council.
1. Credit score
Camilla Elliott, CFP and co-founder and CEO of Atlanta-based Collective Wealth Partners, said consumers often don’t understand the importance of their credit score.
This score affects how easily consumers can obtain loans, such as mortgages, credit cards, and car loans, as well as the interest rates they pay on those debts.
Typically, that number ranges from 300 to 850.
Credit bureaus such as Equifax, Experian, and TransUnion determine your score using a formula that takes into account factors such as your bill payment history and current outstanding debts.
According to the Consumer Financial Protection Bureau, lenders are generally more willing to offer loans and better interest rates to borrowers with credit scores in the mid-to-high 700s or higher.
Suppose a consumer wants a $300,000 fixed mortgage with a 30-year term.
According to national FICO data as of April 1, the average person with a credit score between 760 and 850 would have an interest rate of 6.5%. On the other hand, those with a score of 620 to 639 will have an interest rate of 8.1%.
According to FICO’s loan calculator, the latter would have to pay $324 more per month than someone with a better credit score, and end up spending $116,000 more over the life of the loan.
2.Will
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A will is a basic estate planning document.
It details who will receive your money after you die. A will can also stipulate who will care for the child and oversee their finances until the child reaches her 18th birthday.
Planning for such a disastrous event isn’t fun, but it’s essential, says Barry Glassman, CFP, founder and president of Glassman Wealth Services.
“I’m shocked that there are children in wealthy families who don’t have a will,” Glassman said.
Without such legal documentation, a state court will make a decision on your behalf, and the outcome may not match your wishes, he said.
Taking it a step further, individuals can create trusts that give them more control over details such as the age at which their children can access their inheritance, Glassman said.
3. Emergency savings
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Elliott of Collective Wealth Partners says deciding how much money to stash away for a financial emergency isn’t a one-size-fits-all calculation.
One household may need three months of savings, while another may need a year, she says.
An emergency fund includes funds to cover necessities such as mortgage, rent, utilities, and grocery payments in the event of an unexpected situation such as job loss.
Singles should generally try to save up at least six months’ worth of emergency expenses, Elliott said.
This is true even if the couple works for the same company or in the same industry. Elliott said the risk of job losses occurring at or near the same time is relatively high.
On the other hand, if the spouses have the same income but work in different fields or professions, their expenses may only cover three months. She says if something unexpected happens to one spouse’s employment, she will likely be able to temporarily rely on the other spouse’s income.
As the COVID-19 pandemic has shown, revenue can fluctuate, so business owners should aim to save money for at least a year, Elliott added.
4. Withholding tax
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Withholding tax is based on a pay-as-you-go system. Your employer estimates your annual tax liability and withholds tax from each paycheck accordingly.
“10 out of 10 people couldn’t explain how the withholding system worked,” said Ted Jenkin, CFP, CEO and founder of Atlanta-based oXYGen Financial.
Employers base part of their withholding on information provided to workers on their W-4 forms.
Generally, taxpayers receiving refunds at tax time had too much withheld from their paychecks throughout the year. They receive those overpayments through refunds from the government.
But those who owe money to Uncle Sam don’t withhold enough to meet their annual tax bill, so they have to make up the difference.
Jenkin says people who borrow money often blame their accountants or tax software rather than themselves, even though they can generally control how much tax is withheld.
People who owe more than $500 to $1,000 may want to change their tax withholdings, Jenkin said. This also applies to those who received large refunds. Instead, they may want to save (and earn interest on) that extra cash throughout the year, Jenkin says.
Employees can change their tax withholding by filling out a new W-4 form.
They may want to do so during major life events such as marriage, divorce, or the birth of a child to avoid surprises at tax time.
5. Retirement savings
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“I think people underestimate how much money they need in retirement,” Elliott says.
Many people believe their spending will decline in retirement, perhaps to about 60% to 70% of what they spent during their working years, he said.
However, this is not always the case.
“Well, the kids may be out of the house, but I’m retired so I have a lot of time, which means I have more time to do things,” Elliott said.
She asks clients to imagine how they would like to spend their retirement years, including travel and hobbies, to estimate how their spending will change. This will help guide your overall savings goals.
Household budgets also often don’t factor in potential long-term care needs, which can be expensive, she says.