Hesitant about becoming an investor? Learn five ways to know for sure when you’re ready to invest. Read on for a clear plan to prepare your finances and mindset to start investing, no matter how much or little money you have.
2. You have key insurance coverage.
Another key way to prepare for the unexpected and stay out of debt is to have the right kinds of insurance. Being underinsured or uninsured means that a disaster, theft, or accident could wipe out everything you’ve worked so hard to earn and jeopardize your entire financial future.
Being underinsured or uninsured means that a disaster, theft, or accident could wipe out everything you’ve worked so hard to earn and jeopardize your entire financial future.
Before you begin investing, make sure you’ve considered purchasing five key types of insurance to protect your finances:
- Auto insurance: This is required up to minimum state levels if you own a car. Even if you don’t, having a non-owner policy is wise if you regularly drive other peoples’ vehicles. But remember that having just the minimum oftentimes isn’t nearly enough. For instance, let’s say your state only requires you to purchase $10,000 of auto liability coverage. If you hurt someone and get sued for injuries and medical payments that total $200,000, you’d be on the hook for the balance of $190,000.
- Home insurance: This is required by lenders when you have a mortgage. It covers your dwelling, personal belongings, liability, and living expenses if you’re forced to move out after a disaster. Again, make sure you have more than the minimum amount of liability, if needed. The more income and assets you own, the more coverage you should have to stay safe. Also, if you’re a renter, don’t forget that you need coverage too. Renters insurance covers your personal belongings, liability, and living expenses if you’re forced to move out after a disaster. It’s a bargain for the protections your get, costing less than $200 per year on average.
- Health insurance: This is a non-negotiable coverage that every human being should have to protect both your health and your finances. All it takes is one visit to the emergency room or a short stay in a hospital to rack up a massive medical bill that could turn your financial world upside down.
- Disability insurance: This is an often-overlooked coverage that replaces a portion of your income (such as 60%) if you can’t work due to a covered illness, injury, or accident. These could include having cancer, a back injury, heart disease, or becoming pregnant. There’s a one in three chance that you’ll become disabled for at least three months sometime during your working years. But if you have a disability policy, you can continue to pay your bills even when you can’t earn an income.
- Life insurance: This is a must for anyone with a spouse, partner, or family who would be hurt financially if you died. You can protect loved ones with inexpensive term coverage that may not cost more than $200 a year for a $500,000 benefit, if you’re in relatively good health.
Check out Policygenius to get free quotes for any of these types of insurance. The key to getting the best deal is to shop and compare quotes from multiple insurers.
The bottom line is that if you don’t have an emergency fund and don’t have insurance that’s critical for your safety, you’re living on the edge. Shore up your financial defenses before you begin investing.
3. You don’t have any dangerous debts.
In my book, Money Girl’s Smart Moves to Grow Rich, and my new online course, Get Out of Debt Fast—A Proven Plan to Stay Debt-Free Forever, I offer lots of detailed advice about managing debt. One important point I cover is that dealing with any dangerous debts—such as delinquent taxes, overdue child support, or a judgement from a collections agency—should be a priority.
If you have a large amount of dangerous debt, you may need to seek legal advice to make the best decisions about getting it under control before you start investing.
When serious debt looms over you, take care of it quickly so it doesn’t wreak havoc on your financial life. If you have a large amount of dangerous debt, you may need to seek legal advice to make the best decisions about getting it under control before you start investing.
I also recommend addressing high-rate debt, such as a credit card that’s in the double-digits. Consider what’s more profitable: saving the interest you’re currently paying or investing money with the expectation that it will grow.
Paying off debt gives you a straightforward, guaranteed return. For instance, if you’re carrying debt on a credit card that charges 26% interest annually, paying it off is an immediate 26% return.
You’d be hard-pressed to find an investment that pays a 26% return after taxes. So, paying off that high interest credit card is a much smarter financial move than investing. But it’s a tougher call when you have more reasonable debt, such as a 4% mortgage or a 5% student loan, that also come with tax deductions.
I’d argue that you can invest and get a return that exceeds the interest rate you’re paying for a mortgage or student loan. Plus, paying off a low-interest loan early could leave you cash-poor in the case of an emergency.
My advice is to invest your extra money, instead of using it to pay down debt, when the after-tax earnings should be higher than the after-tax interest rate you're paying. However, the best choice for you depends on your risk tolerance. It’s called personal finances because we’re all different. Decisions that make you feel comfortable may seem very risky to the next person.
If you still feel conflicted about the debt-versus-investing issue, one solution is to do both. You could send half your extra money to prepay a low-rate debt and half to an investment. But I want to be clear that paying down dangerous or high-rate debt should generally come before investing.