9 financial mistakes to avoid in your 40s & 50s
Quick Summary
Your peak earning years come with a lot of messiness.
Mistakes compound, just in reverse.
Lifestyle moves up easily and comes back down painfully.
Most people don’t know what their contribution rate should be.
Find a job for the pile of cash doing nothing.
Market volatility is normal and to be expected.
Insurance protects against the least likely, highest severity events.
Pick the one mistake costing you the most right now and start there.
I've been musing about the financial mistakes I’ve made and seen during this period of life and decided to work up a list of the ones people make most often.
That’s not to say these aren’t important when you’re younger!
It’s never too early to be financially savvy.
Your 40s and 50s are usually your peak earning years with a lot of messiness between schedules, careers, kids, and aging parents.
You have a lot going on in life.
You want to enjoy your money while you’re here to enjoy it, and there’s always something urgent. Fair enough.
But these 9 financial mistakes to avoid in your 40s & 50s compound too, just in reverse. That’s the opposite of what we’re shooting for.
Fixing or avoiding them to begin with is how you get compounding moving in the right direction.
My name is Michael Hollis, and I help people in Aurora, IL, Chicagoland, and virtually across the US uncover their financial strengths and fill in the gaps.
What follows is general in nature and not specific investment advice.
9 financial mistakes to avoid in your 40s & 50s
Letting lifestyle rise too fast
Your income climbs and the extra margin feels good. Then it gets eaten up with a nicer car and paying for convenience and creature comforts. The list of things you call needs might have blurred a bit to include a handful of things that used to be wants.
Lifestyle moves up easily and comes back down painfully.
If the music stops, through an unexpected job loss, a health event, or an economic cycle that takes your bonus or commissions with it, you want to be able to absorb the shock.
The less you have committed and the more flexible you remain, the less painful it will be to adjust.
It’s also helpful to dig into what enough looks like for you.
Buying too much house
This is really just a more specific instance of letting lifestyle rise too fast.
It's easy to see a bigger paycheck and get wide-eyed about dream houses.
That income sure looks good on paper.
It’s so easy to stretch the budget and stretch it some more.
The mortgage payment is the focus. But it often slips our minds that:
• Property taxes aren’t included
• Insurance is more expensive
• Utility costs go up
• Maintenance and repairs are an afterthought
A good starting place is that your house payment, all in, should be no more than 25% of your take-home pay.
Then, ask yourself what you are actually trying to solve for.
Sometimes a bigger house just seemed like the right thing to do.
A contribution rate that has stayed the same
You did the bare minimum to get the match and never looked back.
Raising your contributions is a change, and instinctively you know it’s going to affect your next paycheck. Leaving it alone feels comforting.
The real problem is that most people don't know what the number should be.
15% of gross income is a rule of thumb to start with. But your number depends on what you've already accumulated, your purpose for that deferred income, and when you want to stop contributing.
You’re likely going to want to turn that savings into a retirement paycheck someday.
A pile of cash doing nothing
This one usually comes from natural savers. I've known some with $100k+ in the bank, unsure what to do with it. Sometimes it's:
• Fear of the market.
• Waiting for the “right time” to get in the market.
• Home renovation plan that’s been two years away for five years.
The bummer is when it’s sitting in a brick-and-mortar bank earning peanuts in interest. At the very least, a high-yield savings account would have been a better temporary holding place.
Depending on the situation, I usually think about deploying that cash in this order:
Fully funding an emergency fund (3-6mo for the unexpected, necessary, and urgent)
Setting extra aside for the things you know are coming, like tearing off the roof, replacing a car, braces, the anniversary vacation, taxes, out-of-pocket medical, and regular house and car repairs
Reliably generating your retirement income (if you’re in that stage)
Saving for the future through investing
Getting too conservative too early
When is the next recession? I have no idea.
Markets are volatile. That volatility is part of what leads to investment returns.
There is no free lunch with investing.
Many of us went through the Great Financial Crisis and remember what that meant for our jobs and our investments. I’ve sat across the table from more than one client who wrestled with whether to “take chips off the table.” (I honestly hate equating gambling and investing, which is why I put that in quotes)
I do know this much. Most years the market draws down meaningfully at some point, but then often recovers before the year is out. Going back to 1980, the average year has included a drop of 14.2% at some point, and 35 of those 46 years still finished positive.
Sometimes facts and stats help you overcome the emotions of investing.
That doesn't mean taking on more risk than you're comfortable with, or more than you need to reach your goal. What you want is the right amount of risk for your situation.
An investment with a big tax drag in the wrong account
When reviewing a client's tax return, I'll notice a big number on line 7.
So, each year there's a surprise tax bill.
Tracing it back, there's a mutual fund in a taxable account throwing off capital gains every year, whether or not anything was sold.
Usually, the fund was bought because it was popular, sold by a broker on commission, or inherited, and nobody explained how the investment operated.
And now the fund has done well, which means you have a nice gain built up. Good problem to have, but selling it to stop the capital gains distributions creates more taxes.
Which is why selecting the right securities to live in the right accounts from the outset is important. This is called asset location in the world of investment management.
A fund generating a lot of capital gains doesn't drag on your returns inside an IRA. The same investment in a taxable account does.
Know the tax implications of the investment before you choose it and locate it in the account type that suits it best.
Underdoing insurance
This mistake shows up with four different risks: liability, property, disability, and death.
If you have a family, you need adequate coverage in all four.
I meet so many people with anti-insurance biases.
Insurance is meant to transfer the least likely but highest severity events to the insurance company. When you transfer risks like this, dollar for dollar, the premiums are quite reasonable compared to the loss they are protecting you from:
• Hitting someone with a car
• Losing your house in a fire
• Illness where you’re unable to work for more than a year
• Dying too young
I know of situations where all of these have happened.
Liability
Sure, you can get away with state minimums on your auto policy. But ask yourself where the money will come from if the worst-case scenario comes true. This is especially true with teen drivers on your policy.
Compare that to the premium you'd pay. Cheap protection, if you ask me.
Property
Same goes for your house insurance. I watch people with plenty of money nickel and dime the policy to pay a few hundred dollars a year less, meanwhile taking on the risk of being under-insured on their most expensive asset to repair or replace.
Disability
Statistically more likely to occur before retirement than death. Many skip disability insurance during open enrollment because they can't justify the extra cost.
What happens if you're out of work for one year? Two?
It's usually relatively inexpensive through your employer, and sometimes it's an included benefit. Don't skimp just to save $30 a month.
Life
It gets a bad rap, and rightfully so, because of product salespeople.
But life insurance is critical to replace your income or cover the liabilities your future income was meant to handle, like your mortgage or college.
Outdated beneficiary designations
This is probably the most tedious thing on this list to address. So boring.
But your beneficiary designations are your greatest source of control over who gets what. They generally control the account regardless of whether you have formal estate documents in place. Your will won’t override them. That’s a common misconception.
Most people I ask don't know what their designations say. Others think they know, and when they go check, it's different than they expected.
A life changing event should always trigger you to review your designations and make necessary changes. A divorce. A marriage. The birth of a kid.
You don't want your ex to get your 401(k).
Raiding retirement accounts
This happens for two reasons. Emergencies, and not being willing to wait until you can afford what you want with money you actually have.
It seems like the easy answer to an immediate problem.
If we've managed our money well, enjoying it along the way and thinking ahead, we'll have positioned ourselves to avoid this.
Every time you take money out of a retirement account, you unplug long-term tax-deferred or even tax-free growth.
A 401(k) loan has special risks attached.
First of all, the repayment of that loan takes a chunk out of your paycheck. Treat it like any other debt and eliminate it with a vengeance.
And second, if you change jobs, get laid off, or the plan terminates, the loan comes due. If you can't repay it, the balance is treated as a distribution, with taxes and a 10% penalty if you’re younger than 59 1/2.
You do get until your tax filing deadline (including extensions) to replace the amount in an IRA and avoid the tax, but if you had that cash around to begin with, you wouldn’t have taken the loan.
I’ve seen this start a multi-year cycle too, because you don't have the money to pay the tax bill, so you take out even more.
Take raiding retirement accounts completely off the table.
Brainstorm any other possibilities and be willing to sacrifice, just for a season: A temp job, selling something, or simply waiting are all worth looking at first.
Where do I start?
Pick the one costing you the most right now and address it first. Once you have that one knocked out, move on to the next, and the next after that.
Some of these take courage to change. Others just take time, and they’re probably the last thing you want to deal with.
You do this so you can have peace along the way, and because a few degrees off course now lands you somewhere in twenty years you never meant to go.
We cover all of these gaps through our financial planning process.
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