Financial Literacy: What Does It Mean Today?

It could be argued that the world of finances and investing is more complicated today than ever before. For example, unlike past generations that were able to rely on generous company pension plans, many Americans today are primarily responsible for saving for their own retirement.

This complexity makes financial literacy more important today than ever. “Financial literacy isn’t a course taught in many high schools or colleges, so it’s up to every individual to learn the basics of financial literacy for him or herself,” says Martin Walcoe  SVP of David Lerner Associates.

Unfortunately, there appears to be a large financial literacy gap in the U.S. today. According to the Financial Services Roundtable, 41 percent of U.S. adults, or more than 92 million people, give themselves a grade of C, D or F on their knowledge of personal finance. The average score in last year’s National Financial Capability Challenge, which is administered to students each year, was just 69 percent.

Not surprisingly, many young adults say that they don’t feel adequately prepared to make good financial choices when it comes to using debt wisely (28 percent), saving for the future (40 percent) or investing their money (43 percent), reports the Financial Services Roundtable. And 44 percent of parents admit to needing more guidance on how to best teach their children the skills necessary to become financially responsible and successful adults.

What Is Financial Literacy?

For most individuals, financial literacy consists primarily of the following:

Budgeting— The most basic (and important) part of personal financial management is creating a household budget that guides how your money is spent. Your budget should start with your total monthly income and then subtract expenses (like rent, utilities, food and transportation). If there’s any money left over, this can be saved and/or spent on extras like entertainment, vacations or “toys” like big-screen TVs and new computers.

Saving and investing— There’s a difference between saving and investing: Saving involves putting extra money away in a safe vehicle like a bank savings or money market account or a money market mutual fund. Investing involves putting extra money into stocks, bonds and other types of vehicles that may earn a return, but also run the risk of loss of principal.

Insurance— There are many different types of insurance individuals should consider purchasing, based on their possessions and their family status. If you drive a car, for example, you are required by law to carry auto insurance, while your bank will require you to buy homeowner’s insurance if you own and finance your home. Health, life, disability, long term care and renters insurance are other types of coverage you may want to consider purchasing.

Retirement planning— As noted above, many people today are responsible for saving for their own retirement. The government has made a number of tax-advantaged retirement savings tools available to help, including 401(k)s, traditional and Roth IRAs, Simplified Employee Pension Plans (SEPs), and 457 and 403(b) plans.

College planning— Many parents aspire to pay for their children’s college educations and thus enable their kids to graduate college without crushing student loan debt. But doing so may require years of careful planning and investing, especially given the rising cost of a college education. Vehicles that can help parents save for college include Section 529 plans and Coverdell Education Savings Accounts, among others.

Buying a home— The mortgage and foreclosure crisis may have made achieving the “American dream” of buying a home more difficult, but it’s not impossible. With real estate values down in many areas of the country, now may be actually be a great time to buy a home for individuals who have their personal financial house in order.

In future articles, we will take a detailed look at these and other components of financial literacy.

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