Many of us shy away when we hear the word ‘finance’ thinking it has to do much with math and calculating. While it is true that finance involves math and calculating, it is not rocket science. It is something we are involved in our daily lives. We do not always need an expert advisor to tell us the basics of how to manage our money. It is a life skill, the fundamentals of which we should be aware to make the right decisions around our hard-earned money.
Personal finance is called Personal for a reason. We might already know a lot about it by default without realizing how much it is a part of our lives. Personal finance helps you navigate how to reach your personal financial goals. It motivates you to set financial goals and to consistently take action to accomplish such goals. But the theories that work for one person may not work for the other. This is where the term ‘personal’ comes into the picture because it demonstrates how the same theories can be relevant under specific individual contexts.
What can we do with the money we make? We spend it, save it or invest it. Personal finance is the understanding of how to manage the money we make, which means how to spend it, save it and invest it in the right way for you to live a lead stable enriched and fulfilling life.
To make the most of our income and savings, Personal finance helps us make intelligent financial decisions. It helps in budgeting, saving for emergencies, retirement planning, insurance, debt payment, wise usage of credit cards and much more.
Here are the key takeaways about Personal Finance which will ensure that you do not constantly worry about your finances and make the most of your life.
The First Question to ask yourself
The reason why the same theory to earn, save or invest may not work for everyone is that we all have different priorities and liabilities.
For instance, I have seen my husband work very hard to achieve Intergenerational Social Mobility, which means that he is the first person in his family lineage to achieve the financial stability and status which he has today. On the downside, this also means he does not have any inherited property or savings to fall back on in times of emergency. A large part of our income goes to the payment of home loans, car loans and the like.
The amount of money we will be able to save and invest will always compare less to anyone working at the same level but having no such liabilities. So, whatever you have inherited from your ancestors plays a big role in how you make your decisions around money.
On the other hand, if there is someone who has inherited assets like a house or land but does not have a stable income to rely on for liquid cash, the strategy to earn, save or invest will work differently for the person.
It also depends on your outlook towards life. Do you believe in consuming less today and saving for tomorrow? Or would you rather consume in the present while you are young and have more things of interest, and not worry much about the future? Sometimes there can even be urgent needs for which we may consume more and save less at a given point of time.
So the personal aspect of the theory makes you ask this basic question so that you can know your situation better and understand the risk limit. It is important to analyze the relationship between risk and return but more crucial to know your risk tolerance.
The Five Aspects of Personal Finance
The five key areas of Personal finance are Income, Expenditure, Saving, Investment and Financial protection. It’s important to know about these five main money areas: how much you make, what you save, what you spend, where you invest, and how you protect your money.”
Income
Income is the money you get, like paychecks or dividends, that you can use for expenses, savings, investments, and keeping yourself secure financially.
Expenditure
Expenditure or spending is when you use your money to buy things like food, rent, hobbies, or travel. It’s really important to spend less than what you make, or you might fall into debt which can be financially devastating in the long run.
Saving
Saving is what you have left after spending. Having savings is crucial for emergencies or big expenses. But having too much cash sitting around can lose its value over time, so it’s good to invest some of it.
Investment
In simple terms, investing means the creation of wealth. So, if you can make more money with the money you already have, you have successfully invested your money. It usually happens over some time.
Why do you invest your money if you can simply save it? Because you want your money to be growing.
For example, your education in a particular field was an investment which made you grow with skills that will ensure you earn more than someone who does not have the same skill. In the long run, you don’t want to stick around with the same salary but would want promotions and growth. For that, you invest your time into becoming an expert in your profession, so over time, the return you get by investing in yourself is a richer quality of life and success.
Investment works in the same way. It ensures financial returns over time, which your savings have accumulated because you decided to use it logically instead of just storing it in the locker at your home.
Many people are scared to invest fearing the risk of losing money but if you have taken care of the basic expenditure and emergency savings first, then risk can be minimised and can prove to be worth it. You can always educate yourself about investments or get help from professionals you can trust.
Financial protection
I have seen so many instances where a huge chunk of hard-earned money is lost due to health emergencies or accidents. Sometimes it takes away from the money to be used for fundamental needs like bills and mortgages and leaves people debt-ridden.
Any logical person knows the importance of saving a fixed amount of money as an emergency fund. Not everything is in our control and life is very unpredictable when it comes to health or any tragic loss of people or property.
Protective financial measures help us in ensuring that our basic expenditure is not affected in times of emergencies. It is why we opt for insurance like health insurance, life insurance, vehicle or property insurance.
Protective financial measures ensure that our essential expenses aren’t affected during emergencies. That’s why insurances, like health, life, or property insurance, matter. We pay premiums to insurance companies, and in return, they cover costs or provide a sum in case of accidents, illnesses, property damage, or death.
Financial protection shields us from major financial hits and aids in building money for future needs, including retirement planning. It’s a safety net against setbacks and a step towards securing our financial future.
Personal Finance Strategy: Where to start from?
Don’t start by checking out the ways to invest. Start with knowing your income and then understanding your budget. Let’s go through the steps to understand how you can make a good personal finance strategy.
1. Ensure stability in income
Know your income and ensure that it will keep flowing to ensure there is stability. This helps you build a foundation for the enriched life you are planning to live.
Make stability your priority. Before allocating funds elsewhere, create a safety net for unforeseen costs such as medical bills, major home or vehicle repairs, and day-to-day expenses. Aim for at least a reserve equivalent to 12 months of living expenses to reduce risks if your income is interrupted for any reason.
Build your emergency fund and maintain consistent savings for retirement or to meet any outstanding loans you’re responsible for.
2. Make a budget
There is always a budget for everything you buy or sell in life. Analyzing how much are you willing to spend vs how much can you afford to spend without compromising other expenses is very important.
It is crucial to live within one’s means and quintessential to save enough to meet long-term goals. For this making a budget is essential. One of the frameworks widely in use to make a personal finance budget is the rule of 50/30/20. It is a simple guideline for budgeting and managing your money:
- 50% for Needs: Allot 50% of your income toward essential expenses or needs, such as housing (rent/mortgage), utilities, groceries, transportation, and other necessary bills.
- 30% for Wants: Use 30% of your income for optional spending or wants—things that aren’t absolute necessities but add to your quality of life, like dining out, entertainment, hobbies, or non-essential shopping.
- 20% for Savings and Debt Repayment: Reserve 20% of your income for savings, investments, or paying off debts. This portion can include contributions to savings accounts, retirement funds, paying down credit card debt, or building an emergency fund.
3. Pay off debts
Paying off debts is crucial in personal finance for several reasons. Being debt-free gives you financial freedom and flexibility. It means having more control over your money without the burden of monthly payments, allowing you to allocate those funds towards savings, investments, or things that truly matter to you.
Debts often come with interest charges. By paying them off sooner, you save money that would otherwise be spent on interest payments over time, allowing you to retain more of your earnings.
Managing debt well positively impacts your credit score. A higher credit score opens up better borrowing opportunities, lower interest rates, and easier access to loans or credit in the future. It frees up resources to invest in long-term goals like retirement savings, buying a home, or starting a business.
In essence, paying off debts is a cornerstone of sound financial planning. It sets the stage for a more secure and flexible financial future, empowering you to make choices aligned with your goals and aspirations.
4. Manage credit wisely
Managing credit wisely and avoiding credit card pitfalls involves several key practices like Budgeting, On-time payment, responsible credit limit usage and mindful spending.
In addition, it’s vital to limit credit card use to planned purchases within your budget. Steer clear of depending on credit cards for everyday expenses that exceed what you can afford. Regularly review your credit card statements and keep a close eye on your credit report to catch any unauthorized charges or mistakes. Promptly report any discrepancies to your card issuer. Monitoring your credit score is crucial to maintaining a strong borrowing position.
By practising responsible credit management, staying within your means, and being mindful of your spending habits, you can avoid falling into credit card traps and build a healthy financial future.
5. Consider Getting Insurance
As you grow older, you tend to acquire similar responsibilities and assets as your parents did—a family, a home, possessions, and health concerns. Waiting too long to get insurance can become costly. Health care, long-term care coverage, and life insurance all become more expensive with age. Life often brings unexpected challenges. If you’re the main provider for your family or both you and your partner work to make ends meet, much relies on your ability to work.
Insurance can help cover a significant portion of medical costs as you age, safeguarding your savings for your family; medical expenses are a primary cause of debt. In case something happens to you, life insurance can provide financial support for those you leave behind, offering a cushion to cope with the loss and recover financially.
6. Optimize Your Tax Benefits
Maximizing tax benefits is like finding hidden money. It means keeping more of your earnings instead of handing it over to taxes.
To do this, you track your spending and save receipts for things that can lower your tax bill, like business expenses or charitable donations. Some deductions and credits can lower what you owe. Deductions reduce the amount of your income that gets taxed, while credits directly decrease the taxes you owe. It’s like getting a discount on what you owe the government, and some credits can save you more than deductions. The goal is to use these opportunities to save money for your current needs and plans.
7. Plan Ahead for Your Future
To safeguard what you own and make sure things go as you want after you pass away, consider making a will and, if needed, creating trusts.
A trust is a legal arrangement where one person gives another person or entity the authority to manage assets for the benefit of someone else. It’s a way to hold and control assets for specific purposes, like estate planning or managing assets for beneficiaries. Trusts offer benefits such as asset protection, tax advantages, and control over how assets are distributed.
Some important papers include a living will and a healthcare power of attorney. Even if these documents don’t affect you directly, they can save your family a lot of time and money if you get sick or can’t make decisions for yourself.
Teach your kids about money when they’re young. Show them the importance of saving, smart spending, and investing.
8. Don’t compromise on what you love
Don’t put all your money away such that your present is full of deprivations. You are making money to be able to have a quality life at present. A lot of things which you can do as a youth may not be possible for you to do in old age, or say when you have kids and more responsibilities. So, if you can the balance between income, expenditure and savings; do not compromise on spending for what you love.
It’s essential to reward yourself occasionally. Whether it’s a getaway, treating yourself to something special, or enjoying a night out, these rewards acknowledge your hard work towards financial independence.
And it’s smart to know when to ask for help. Even if you’re good at handling taxes or investments, there comes a time when delegating these tasks to trusted experts makes sense.
Know when to sit back, relax and enjoy the fruits of your labour.
CONCLUSION
The experts who have studied finance in depth will always know better ways to make financial decisions than amateurs or people who are not in the same field. But that should not mean that we should see the study of basic personal finance as less important.
Just like most of us are aware of the basics of hygiene and health-related parameters to prevent ourselves from diseases, just like we go to the gym to stay fit and healthy, just like we like to be aware of a contract we are supposed to sign; awareness of Personal finance helps us ask the right questions and safeguard the money we earned through our hard work and personal sacrifices.
Otherwise, you may just keep working hard all your life and see your life savings disappear without knowing or understanding how and where it all went.
We need to see personal finance as a part of self-care. The way persistent exercise transforms the body, in the same way, the implementation of personal finance will transform the way we live our lives.
Do not live from paycheck to paycheck. Do not cancel the trip you’ve been saving for. Do not cancel your weekend plans. You saved for it.
Indulge!
Because you have a financial strategy that is working for you. Personal finance will act as the backbone for you to live a life where you fulfil all your wants as well fulfil all the requirements of your family and loved ones.
Perhaps you can then reach Maslow’s highest level of needs, the ultimate summit in life where you will be able to find yourself in a position to reach all your potential, give back to society and leave the world in peace.
What if the science of management can help you achieve the purpose of life that philosophy had only made you aware of?
Think about it.