Six Financial Mistakes to Avoid in 2022

December 28, 2021 Mutual Fund

“It’s fine to celebrate success, but it is more important to heed the lessons of failure,” – Bill Gates.

The wisdom of learning from failure is incontrovertible. We all make some or other financial mistakes in our lives; but, what is important is learning a lesson from your mistakes and not repeating the mistakes as far as possible.

The new year is just around the corner, and it refers to a fresh start for everyone. It’s time to learn from your financial mistakes made in the current year and avoid repeating the same in the forthcoming new year 2022.

When managing their personal finance, certain individuals make inadvertent financial mistakes. However, in long run, the mistake committed have bearing on their financial wellbeing. Recently, a friend of mine, Rohit, was discussing with me how the year 2021 was financially challenging for him. He said, “Mitali, this year I faced various financial difficulties, some of the equity investments I made eroded my wealth, I had to face a pay-cut while I was paying EMI on certain loans, my mother was diagnosed for COVID-19 and had to bear medical expenses, my little emergency reserves were washed out, and my financial stability was imperilled. So, I thought of discussing with you and seeking your guidance on how I can strengthen my financial health and get back on track in the coming year, 2022.”

To which I replied, “Rohit, I do understand your point, and we all are prone to some financial instability amidst the pandemic and have committed financial mistakes at some point in our life. That said, it is important to learn from the mistakes made and not repeat them next year. Repeating the same mistakes could cost you dearly in the years to come.”

Rohit retorted, “I surely do not wish to repeat any of the financial blunders I made this year. As you know my financial problem, could you help me understand how I can work on not repeating the same mistakes?”

I further explained to him, saying, “Rohit, you need to improve your financial awareness in the interest of your financial wellbeing. Let me enlighten you with some common financial mistakes that an individual commits, which will assist you in recognising your mistakes and avoid repeating them in 2022 to lead a better financial future.

Mistake #1: Not Having a Financial Plan

“If you fail to plan, you are planning to fail” – Benjamin Franklin

The first and foremost mistake an individual makes is not having a financial plan in place. This will make managing your finances with respect to saving, expenses, and investments a daunting task. Your financial future depends on the steps you take in your present, for that effective financial planning is necessary.

Your financial plan should be all-encompassing. Meaning, it should address the envisioned financial goals you wish to address. To begin with, you must engage in a budgeting exercise that will give a sense of your cashflows and enable you to save (and invest) more. Believe in the idea of delayed gratification and avoid splurging on unnecessary purchases. The recent uncertainties have taught many of us how to spend just on our needs and not indulge wants in things we don’t need. Budgeting will also help you maintain discipline with your finances and instil good financial habits such as saving regularly and investing for the future. Consider using a budgeting app that helps you stay on track with your finances and not be tempted to stray from your budget. Sticking to your budget will facilitate saving and invest your hard-earned in productive avenues that counter inflation well.

Mistake #2: Inadequate Emergency Fund

Emergencies strike without warning, and they often come with various financial complications. The COVID-19 pandemic is a classic example that has taught us to be prepared for any emergency. If you don’t hold an adequate emergency fund (also known as a rainy day fund or contingency fund) and have to face unexpected expenses, you might have to borrow money (which may create a debt burden for you) or end up utilising investments/assets assigned for some other vital financial goals. Therefore, to avoid such a situation start an emergency fund in this new year; it should contain at least 12-24 months’ worth of living expenses, including loan EMIs if any.

As the year 2022 begins, regularly start deploying some amount every month into a recurring deposit, or a liquid fund or into a separate savings account, to plan for your emergency needs. Re-evaluate your emergency fund whenever your circumstances change, including when you get a new job or bring a new member into your household.

Lack of emergency funds has led many individuals to suffer amid the pandemic, and they are still recovering from the financial instability. An emergency fund would help you cover those unexpected expenses. I expressed, ” Rohit had you maintained an emergency fund, you could have survived the financial difficulties without affecting your financial wellbeing and creating a debt burden” .

Mistake #3: Making Ad-hoc Investments

Another common financial mistake made is investing in avenues that are in congruence with your risk profile, investment objective, financial goals, and time in hand to achieve those goals. Some investors make the mistake of investing in financial products that they do not understand, investments are done in an ad hoc manner copying what friends/relatives/colleagues/neighbours do, and in the bargain, you end up making an unworthy and unsuitable investment that erodes wealth.

There are multiple investment avenues to invest your hard-earned money in, such as mutual funds, FDs, stocks, bonds, etc., choose the ones that are best suited for you. Otherwise, it could affect your financial wellbeing. In the above-mentioned case, Rohit invested in stocks unaware of the risks and faced major loss when the particular stock slumped in the market. Also, it is essential to diversify and not put all your eggs in one basket; diversify your investments into various asset classes viz. equity, debt, and gold that would help reduce the overall investment risk to your portfolio.

Mistake #4: Not Having an Adequate Insurance Cover

Not having adequate insurance coverage can be a major financial mistake that one makes. With the rising risk to the life and health of an individual amid the pandemic uncertainties, it is essential that you purchase a suitable insurance cover.

Lack of insurance may create financial hardship in times of emergencies, be wise and protect your loved ones by putting an insurance plan in place and preparing for the unexpected. In the above case, Rohit made the mistake of not purchasing a health insurance cover for his mother, which led to him spending highly on medical expenses. He also had to borrow from a bank to fulfil the financial requirement.

Insurance helps you indemnify the risk; acts as a financial shield or cover in case of an untoward event and prevents your accumulated savings from being depleted. You must be optimally insured for both – health and life. This is so important given that life and health can be so unpredictable. If you already have insurance cover, review your policy with your agent to make sure you are optimally insured.

Mistake #5: Increasing Debt Burden

Having debt is not bad but not being able to repay it on time is harmful to your financial health. If your debt-to-income ratio is already over 40%, you should strictly avoid borrowing more to fulfil your financial requirements, otherwise, you may end up in a debt overhang situation with multiple loans, frequent use of credit cards, etc. Keep in mind, more debts imperil your ability to save and invest more.

In the above case, Rohit borrowed multiple loans and used his credit cards to the maximum limit to fulfil the financial obligations. This created a debt burden for him. He is now focusing on debt reduction and has learned from his mistakes not to borrow more beyond your repayment capacity.

Mistake #6: Not Building up on Your Financial Literacy

This is the most underrated financial mistake you commit. “An investment in knowledge pays the best interest,” wrote the legendary investor, Benjamin Graham in his book: The Way to Wealth. Thus investing to enhance your financial knowledge, which is a personal investment. In this fast-paced world, you can easily grasp financial knowledge via several websites and apps that help you improve your financial literacy. In these uncertain times, it is vital to be financially aware and make informed financial decisions to stay in pink of your financial health.

Notably, lack of financial knowledge has consequences such as poor investment judgments and the repetition of previous financial mistakes. Financial literacy aims to assist you in better comprehending the intricacies of financial planning, saving, and investing. It is a life skill that you must grasp to maintain sound financial wellbeing. Financial literacy will help to maintain a secure financial future and prevent repeating the financial mistakes you made this year and become your own financial planner

I recommended Rohit to consider making a new beginning and enrol for an online e-course that would help him enhance his financial knowledge this New Year. He enrolled for PersonalFN’s “Certified Family Guardian” programme.

This article first appeared on PersonalFN here