Having a solid financial education is an essential skill for individuals of all ages, backgrounds, and income levels. The increasing complexity of financial products and services, the rise of digital banking (and subsequent scams), and the growing importance of financial planning have made financial literacy more critical than ever before. And since April is Financial Capability Month, it’s a great time to give your financial knowledge a boost.
While financial literacy is the ability to understand and manage one’s financial resources effectively, financial capability includes acquiring the knowledge, skills, and attitudes necessary to make informed personal finance decisions and take appropriate action.
The move from knowledge to action is what helps individuals:
- Manage their finances
- Protect their money
- Build positive financial habits and
- Accomplish their financial goals
Financial capability is an evolving journey — it involves continual learning and action. As a member-focused, service-driven federal credit union dedicated to the financial success of our members, we’re providing you with five reasons why your financial capability matters and four actions you can take today.
Five Reasons Why Financial Capability Matters
As the world becomes increasingly complex and interconnected, financial capability becomes that much more critical.
Here are the top five reasons why your financial capability matters:
- It allows you to make informed decisions
- You navigate banking better
- Building wealth becomes more attainable
- Your health and wellness can be impacted by your finances
- You understand the broader financial landscape
1. It allows you to make informed decisions
For some, we start building our financial skills in early childhood. From the time we learn how to count, sort, and trade, we’re developing the basic building blocks needed to manage our finances. As we get older and start earning our own income, we typically follow the learned behaviors we witnessed from our family members and close friends.
Personal finance isn’t typically taught formally until high school — and even then, not all high school students are guaranteed to have personal finance course option. In 2018, 16.4% of high school students were required to take a finance course; fortunately, this increased to about 25% in 2022, but the numbers remain low.
This means the vast majority of Americans are entering their adult years with little to no formal education in personal finance. When it comes time to apply for a mortgage, open a credit card, file taxes, and manage student loan debt, many young adults are left making uninformed decisions.
Financial decisions, both big and small, can impact our lives and those of future generations. Financial capability means you can understand and assess your financial options and situation, process that information, make informed decisions, and take action.
Informed decision-making empowers you to manage money effectively, understand the risks and benefits of different investment options, and plan for future financial needs. Furthermore, this knowledge helps individuals to avoid financial pitfalls such as credit card debt, lifestyle creep, bankruptcy, and financial fraud.
This doesn’t mean you’ll always make the right decisions (we often learn best from failures), but your financial capability will allow you to make informed choices regarding your personal resources.
2. You navigate banking better
The rise of digital banking has made financial transactions faster and more convenient. With a few clicks, you can record transactions, make payments, shop for insurance, transfer money, sign up for your employer’s retirement account, and so much more.
Unfortunately, the rise of the modern economy has also increased the risk of fraud and identity theft. A high level of financial capability equips you with the necessary skills and knowledge you need to safeguard your financial information. You’ll also know how to take the necessary actions, should you fall victim to identity fraud or theft.
3. Building wealth becomes more attainable
Amassing wealth usually doesn’t happen overnight. Typically, it takes years of diligent saving, carefully managing debt, investing, and making wise financial decisions. Financial capability allows you to assess your financial opportunities and make the most of what you have in front of you.
When you understand financial concepts such as interest, risk, inflation, and where to turn to for financial advice, you can slowly begin to build your wealth. As you continue to learn, you will uncover more opportunities and develop solid financial skills, while avoiding financial pitfalls.
Financial capability goes hand in hand with having a wealth mindset. This mindset contrasts with a poor mindset and is a set of habits, behaviors, and beliefs. People with a wealth mindset often spend less money, invest wisely, and look for ways to improve their finances with little risk.
4. Your health and wellness can be impacted by your finances
Money worries and trouble can negatively affect your sleep patterns, confidence, and energy. They can also increase your risk of anxiety and depression, and cause tension among families and significant others.
Having a strong financial capability frees you from the constant stress of not knowing what you’re doing with your money. Of course, emergencies and unexpected events can happen to anyone, but when you have the right mindset, a solid knowledge base, and a comprehensive plan, you’ll feel healthier and be more secure overall.
5. You understand the broader financial landscape
A lack of financial capability can lead to a limited understanding of how the economy works and how economic policies affect individuals and society as a whole. Financial capability enables individuals to engage with economic issues and contribute to informed public debate on economic policy, which ultimately can have a major impact on your own finances.
Improve Your Financial Capability Today with These Four Actions
Like anything in life, improving your financial capability is going to take education, effort, perseverance, and some trial and error. The sooner you begin increasing your financial capability, the quicker you will be on the path to success.
Kick start your journey to change with these four actionable steps:
- Educate yourself
- Organize your finances
- Invest in your future
- Ask for help
1. Educate yourself
The first step to increasing your financial capability is to build your financial education. There are various financial tools and resources available, including books, blogs, podcasts, and financial workshops, that can help you understand key financial concepts such as budgeting, investing, saving, and debt management.
Note: sometimes the hardest part of diving into a difficult subject is simply understanding the jargon! Take some time to familiarize yourself with basic finance terms to boost your confidence.
2. Organize your finances
After educating yourself and increasing your financial literacy, it’s time to formulate your plan. Your first action item should be organizing your finances, beginning with budgeting, saving, and reducing debt.
- Creating a budget is an essential first step in managing your finances. Start by listing all your sources of income and expenses, and then categorize them. You can use a budget app to help you create and track your budget (all from your phone)!
- Saving is a critical component of financial capability. It helps you build an emergency fund, save for big-ticket purchases, and plan for retirement. Start by setting a savings goal, such as saving 10% of your income, and then set up direct deposit to make it easy and automatic.
- Debt can be a major barrier to achieving financial capability. It can limit your ability to save, invest, and achieve your financial goals. Start by creating a plan to pay off your debts, focusing on high-interest debts first. Consider consolidating your debts with one of these five strategies.
3. Invest in your future
Investing is key to building sustainable wealth. But your money isn’t the only thing you should focus on when it comes to investing.
Investing in yourself is an excellent way to increase your earning potential and improve your financial capability. Consider taking courses or earning certifications that can improve your skills and knowledge. You can also invest in your health by eating well, exercising, and getting enough sleep, which can improve your productivity and overall well-being.
And of course, utilizing tax-advantaged retirement plans, protecting your assets through the proper type and amount of insurance, and having an emergency fund will also help create a secure financial future.
4. Ask for help
If you’re struggling to manage your finances or achieve your financial goals, consider seeking professional advice. A financial advisor can help you create a financial plan, identify areas where you can improve your finances, and provide guidance on investments and retirement planning. Make sure to choose an advisor with a reputable background and fiduciary standards.
Financial Capability Case Study
At 18 years old, Sarah is working a part-time job while getting a Bachelor’s degree at her local state university. Though she is studying to become a registered nurse, she knows the importance of building her financial literacy. Her parents instilled strong financial values in her throughout her childhood. She takes a free online debt management workshop through her local credit union and listens to a finance podcast once a week.
Because she‘s living at home while completing her studies, her expenses are minimal. She invests 10% of her income from her part-time job in a Roth IRA. She knows she can contribute up to $6,000 per year and that her contributions will grow tax-free. She uses the rest of her paycheck to cashflow her university education (her parents are subsidizing so she remains debt-free).
At 22, Sarah received her first “real” job as a registered nurse earning $70,000 a year. Though the dramatic increase in income is exciting, she knows she needs to continue contributing to her retirement and future. She immediately sets up automatic investing in the hospital’s 401(k) plan at 15%. She also sets up automatic investing (10%) into a taxable brokerage account to save for a down payment on a home.
At 30, Sarah is now married with her second child on the way. She hasn’t missed the 25% of her income because she set up automatic investing from her very first paycheck. She and her husband are about to close on a rental property to create a third stream of income and have opened up a 529 college savings plan for their first child. They have a monthly finance date where they discuss their budget, savings, and investments.
At 40, Sarah and her husband have two rental properties providing consistent rental income and are considering retiring early at age 50. Their retirement accounts have grown, they’ve remained debt free (except for their properties) and increased their income.
Case in point: financial capability can start small and evolve over time. It can start with a single decision at a key moment in time, such as investing 10% of your income from your first job into a retirement account. Over time, it cascades to saving for retirement and other goals such as a down payment for a home. Ultimately, it transitions to finding ways to increase your income streams and setting up future generations for financial success, all while increasing your financial knowledge along the way.
Maximize Your Financial Capability with Lafayette Federal
As a financial partner for life, we remain dedicated to our members’ financial well-being. We offer key products and services for each life stage, provide the tools and resources to achieve financial success, and deliver top-notch service each step of the way.