Personal Finance for Recent College Graduates
The Vanguard Group

For many college students, graduation brings independence—and financial responsibility. Their college years may have taught them to budget well enough to pay off monthly bills but not necessarily how to handle complicated finances such as credit, insurance, and leases or mortgages. Here are a few suggestions for recent graduates beginning their journey to financial security.

Make a plan
College students often dream of living in a great apartment, buying a new car, and jazzing up their wardrobe after graduation. However, few graduates start out with the funds to live the lifestyle of their dreams. In addition, many are saddled with large college loans and credit card debt.

The key to successful money management is creating a budget that allows you to live reasonably within your means and pursue your financial goals. First, you must determine exactly where your money is going. Compile a list of all your expenses and track them for three months—include fixed costs (such as rent, electric bill, Internet service, and car payments) and incidental costs (such as eating out, clothes, and gifts). Then look for any areas where you can reduce spending.

Be sure to include an emergency fund in your budget. Throughout your life, car problems, broken appliances, injuries, job layoffs, and other unexpected events are likely to occur. An emergency fund will help cushion the blow these events can have on your finances. You should try to set aside enough to cover three to six months of fixed expenses, and use it only for true emergencies.

Pay your debts
Along with creating a budget and identifying your expenses, you need to manage your debt. You'll need a good credit report to get affordable insurance, car loans, and mortgages. It may even affect your job opportunities.

Following are two critical areas for recent graduates:

Credit cards. College students are constantly receiving credit card offers—often with interest rates of 18% or higher—and many make the mistake of paying only the minimum amount due each month. In its most recent report, the U.S. Department of Education states that 45% of undergraduates in 1999–2000 carried a balance. The median balance was about $1,500, meaning half of the students carrying a balance owed more and half owed less. At 18% interest, if you paid $30 monthly on an initial balance of $1,500, it would take nearly eight years and $1,300 in interest payments to reach a zero balance. In comparison, if you increased your payment on the same initial balance to $60, it would take less than three years and $400 in interest payments to reach a zero balance.

Student loans. According to the U.S. Department of Education, 67.9% of students graduating in 1999–2000 borrowed money for their education. The average cumulative amount was $20,000. Graduates must begin repaying student loans six months after graduation. While student loans often make up the larger portion of recent graduate debt, they typically have low interest rates (less than 10%) and the interest payments are tax-deductible (up to $2,500 per year). You may also have payment plan options or be able to defer payment. However, in most cases, you should use the deferment option only if you have no income.

Ultimately, student loans and credit card debt do not magically disappear. Make paying them down part of your budget. If you get a pay raise, consider applying some or all of it to reducing your debt.

Save and invest
After managing your debt, you should determine your financial goals and establish a plan to reach them. This plan should include a savings strategy to meet your short-term goals such as buying a new car or wardrobe, or moving into an apartment. It is also important to have an investment strategy to meet your long-term goals.

Saving. A savings strategy is suitable for goals you hope to reach within a few years. Bank accounts, certificates of deposit, money market funds, and other cash investments should be used to reach short-term goals—such as buying a new car or taking a vacation. Although these investments traditionally have lower returns than other investment vehicles, they also feature more stability and less risk.

Many experts suggest saving 15% of your yearly income. Even if you can't save that much, it is still important to save something. You can begin by saving as little as $10 from every paycheck, gradually increasing the amount as time goes by. The objective is to make saving a habit.

Investing. Investing should be used to reach long-term goals—such as buying a house, putting your children through school, and financing your retirement. Stock and bond investments are usually more volatile than cash investments. However, they also have the potential of gaining greater returns. These investments will give your money the opportunity to grow over time.

Perhaps the most damaging mistake that graduates make concerning their finances is waiting to invest for their retirement. The earlier you start, the better chance you are giving yourself for a secure retirement. 

Employer-sponsored plans. Recent graduates should check on whether their employer offers a retirement plan such as a 401(k) plan. If so, they should participate as soon as they are eligible. In most cases, these plans enable you to set aside pretax dollars, and many companies will match a percentage of your contributions. In other words, your employer is giving you money to invest—and you're deferring your federal income tax until you retire, when you are likely to be in a lower tax bracket.

Individual retirement accounts. Whether or not your job offers a retirement plan, you may wish to contribute to an individual retirement account (IRA). As long as you or your spouse has earned income (or if you receive taxable alimony payments), you can contribute up to $3,000 a year (for tax years 2002–2004) or the amount of your compensation for the year, whichever is less. An automatic investment plan can be set up with an IRA, which can help new graduates develop a habit for investing. There are two kinds of IRAs: Roth IRAs and traditional IRAs, which may be deductible. 

Before choosing an investment product, it is important to determine the asset allocation—the mix of cash, bond, and stock assets—that best fits your investment strategy. The asset allocation should reflect your personal circumstance—taking your goals, risk tolerance, and time horizon into account. You should also be sure to diversify the investments you make in each of the assets. If one asset or investment is not growing or possibly declining, your other investments or assets will help to maintain the growth of your portfolio. 

Continue to learn
Unlike college, there is no graduation from your financial responsibilities. Managing your finances is a lifelong journey. Although these suggestions will help you get started, it is essential that you continue to learn about financial management. As you marry, buy a house, have children, or experience other life events, your finances and goals will change. Be sure to adapt your financial plans to these changes. This will mean adjusting your asset allocations as well as acquiring or discarding investments. On your path to securing your personal finances you may make some missteps, but the important thing is to learn from your mistakes.

For more information
Vanguard offers an array of products and services that make it easy for an investor of any age to create a diversified portfolio with the asset allocation he or she wants.  For more guidance on investment steps you can take, see their Planning & Advice section.