Sadly, personal finance has been rarely taught in schools, meaning many young adults leave education without a basic understanding of how money works. While 21 states now require high school students to take personal finances courses, generations still struggle to manage their money. This article will cover the different aspects of personal finance to show how your financial picture should look. It will also cover how you can improve your personal finance to better prepare you for the future.
Why Is Personal Finance Important?
Personal finance is important because it helps you achieve your financial goals, whether for short-term goals like saving for a luxury vacation, or longer term such as planning for retirement. As your financial situation depends on your income, living requirements, personal desires and expenses, understanding your personal finance helps you develop a plan to fulfill all your needs without exceeding your limits. Failure to develop a financial plan can lead to:
Debt Not being prepared for retirement Not being able to pay hospital fees Not meeting personal goals
What Are the Main Areas of Personal Finance?
There are several areas of personal finance and they all carry the same importance. Depending on what publications you read, the names may be different, but the areas can be called the following:
Credit and Debt
This area involves understanding what lines of credit are available to you and the implications of losing control or getting into debt. Credit does not just involve credit cards but also loans, mortgages and buying on finance.
Savings
Savings are essential as you never know what will happen tomorrow. The 2020 pandemic taught everyone the true value of a good grasp on personal finance and having a savings account. It is recommended that you have an emergency fund with three-to-six months of living expenses, should anything happen that causes you to be unable work. Outside of the emergency fund, there are various saving options available depending on your goals:
High-interest savings accounts Easy-access accounts Accounts you cannot access until you are a certain age Savings accounts designed to help you buy a house Saving pots for small short-term goals
Investing
While some think investing is similar to saving, it is more closely associated with trading. Saving involves holding a sum of money in a specialized account. Investing is placing your money into assets with the goal of making it grow. Depending on your confidence and goals, you can invest in property, stocks, mutual funds, commodities and cryptocurrencies, to name but a few. Of course, there is always a risk to investing. But when done correctly, the rewards are far more beneficial than saving and can provide a stream of income long into your retirement.
Tax Planning
One element of tax planning is understanding how federal taxes work. But there is more to taxes – some trading and savings accounts are tax-exempt; specific parts of your health insurance are tax-deductible. Learning about and knowing all these exceptions will help you maximize your income, savings and investments.
Retirement Planning
Depending on how well you have planned, retiring can either be a scary idea or a joyful one. Building the right retirement fund can be daunting as you have to factor in:
When you plan on retiring How long you plan on living past retirement Inflation and the future cost of living How well you want to live during retirement If you will have passive streams of income – rent from another property, investments
Insurance
For the same reasons you have car insurance, you also need:
Health insurance Home and content insurance Mortgage protection Personal accident insurance Life and term insurance
They may seem like a waste of money, but should anything happen, your money, investments and family are protected.
15 Personal Finance Tips
The following tips are designed to help you create solid foundations for the above areas of personal finance. However, this is not a definitive list. You should always conduct more research and seek professional advice before making any financial decisions.
1. Learn Financial Discipline
The pandemic and being in lockdown taught people that they can control their spending and desires. As the world reopens, think about the lessons you learned during the height of the pandemic and apply them to your financial discipline moving forward. If you survived three months without a trip to the coffee shop, then you can definitely reduce your weekly intake.
2. Know Your Finances
This goes beyond knowing what bills you need to pay and when:
Whenever you receive a bill, check the amount and read through any itemized list. Seek to understand how much you are paying and why. Are you paying for anything backdated, and can you pay a bulk amount to reduce that? Check how much interest you are paying on loans and credit cards and what you can do to reduce it.
Knowing your finances inside and out is the best way to stay on top of your personal finances.
3. Use Budgeting Tools
Digital banking is the latest offering from the FinTech (financial technology) industry, and it is making budgeting and saving even easier. Tools like automatic savers (where your transactions are rounded up to the nearest whole number and the extra is transferred to a saving account or investment) and dedicated saving pots streamline your finances. Similarly, some apps have the same tools without you needing to open another bank account. There are also simple budgeting apps for you to record your transactions. Creating a financial calendar is also helpful:
Set reminders for when your taxes are due Set dates to check your credit score. Make a note of when your insurance policies run out or when it is time to start looking for new utility providers.
Staying ahead allows you to make intelligent decisions rather than rushed ones.
4. Cut Back on Spending
This may seem obvious but cutting back is the best way to get on top of your personal finance. Decide that you are focusing on the long term and know that it is ok to make short-term sacrifices. Focus on quality over quantity – buy fewer items that are more expensive but last longer, rather than many items that you will throw out after a couple of uses.
S – Specific M – Measurable A – Attainable R – Realistic T – Time limited
For example, a SMART goal could be to put $3,000 dollars in your savings account over the year.
It is Specific (there is a set amount you want to reach) It is Measurable (you can see the amount in your savings account and how close or far you are) It is Attainable (if you earn enough to put aside $250 a month) It is Realistic (provided you earn enough, it does not require you to become a hermit or shut-in but just to cut back on spending) It is Time-limited (it will either be completed in a year or not met – it is not a ‘some day in the future’ goal)
To help with your SMART goals, you need to set long-term goals such as when you want to retire, how many properties you want to own, and how much money you want in the bank. You then create medium- and short-term SMART goals that act as stepping-stones to your long-term goals. Each goal should follow the SMART formula to keep you motivated and on track.
6. Pay Off Debt First
The ideal is that you do not get into debt, but it is almost inevitable: if you want to go to university, you will almost certainly need to take out a student loan; if you want to buy a house, you will need a mortgage unless you suddenly come in to a lump sum. While some debt is acceptable and expected, others can get out of control and be a burden. Before committing to more financial obligations or starting a savings account, commit to paying off your debts first. The two most efficient techniques are the avalanche or the snowball.
Avalance: Focus on paying off the largest debt first, reducing the amount you pay back overall. Snowball: Focus on the smallest debts first. While you may end up paying more back over the long term, seeing the debts paid off does create motivation to keep going.
No technique is better than the other. It is for you to decide which one you prefer.
7. Automate
Set up direct debits and automatic transfers so you are not tempted to spend that money on something else. If you can, set your transfers to leave your account the day after you get paid. This ensures that all your mandatory bills are taken care of, and you know exactly how much you have to work with for the rest of the month.
8. Have an Emergency Fund
People’s entire livelihoods are dependent on their incomes. Having an emergency fund removes some of the anxiety associated with an unexpected emergency or loss of income. When setting your budget, it is important to ‘pay yourself first’ so you have money set aside for those unplanned moments. A recommended rule of thumb is that 20% of your income should go to your emergency fund each month until you have saved up to six months’ expenses. After that, once you have reached your target, you should shift to putting most of that towards a long-term/retirement fund.
9. Start a Retirement Fund
Retirement can creep up on you quicker than you would think, especially if you plan on retiring early. Because of how compound interest works, the earlier you start saving, the less you will need to play catch up later on in life. For example, if you are in your 20s and you start investing $100 a month, with a positive return of 1% per month, compounded monthly over 40 years, your retirement account will sit at around $1.17 million. However, if you decide to focus on your retirement 30 years later, investing $1,000 per month for 10 years with the same 1% return, you would have only saved £230,000. Additionally, company and government-sponsored retirement plans are worth the investment too, as most companies will match the amount you invest into your retirement plan. However, the sponsored plans often have a lower value. While every cent counts, it is best to have multiple retirement options. Women should also note that, on average, they have less money put aside for retirement than men (TransAmerica Centre for Retirement Studies). There is no definitive reason for this, but suggestions are that it is because women:
Are less likely to push for promotions and salary increases Take maternity leave more than men take paternity leave Take more sick days to care for dependents
The TransAmerica Centre released a report in 2019 that detailed some steps women can take to improve their retirement outcomes.
10. Secure Your Wealth
How you secure your wealth will vary depending on your current circumstances. As a rule, everyone should have a will and a medical and financial power of attorney (POA). Disability income insurance provides you with a steady income should you find yourself unable to work because of illness or injury. If you plan on using professionals to help with your money, use fee-only financial planners. They provide unbiased advice and are more cost-effective and reliable than commission-based planners. In today’s world, there is an insurance policy for almost every situation. Take the time to evaluate your current financial position and see which policy will protect you should anything terrible happen.
11. Understand Taxes
Taxes are a perplexing subject, and no one seems able to explain them in simple terms. But taking the time to educate yourself about the different taxes and the tax system will help you make smarter decisions. Each year, many leave hundreds of dollars unclaimed because they do not understand their tax codes. Start saving your receipts and track your spending for possible tax deductions and credits. Before filing your taxes, decide which one will suit you better: tax deductions reduce the amount of taxed income while tax credits reduce the amount of tax you owe. Most often, the tax credit is more beneficial.
12. Invest and Diversify
Building a diverse investment portfolio can provide a safe and passive income. With the rise in online trading platforms, becoming an investor is easier than ever. If you are uncomfortable taking on the trades yourself, consider delegating to a broker or using social copy trading. Social copy trading allows you to copy another trader’s portfolio. Before investing, you should conduct your own research to be cautious and well-informed. But as a rule, traders enable social copy to improve their reputation, so their investments are usually well-researched. When investing, remember that these are for the long-term. Invest in assets that match your values, such as clean and sustainable energy, and those that will be popular in the future, like e-sports and medical robotics.
13. Monitor Your Credit Score
Make it a habit to check your credit score at least twice a year. Checking does not affect your score but knowing your number will help you set goals and targets.
14. Just Start
Most people find excuses to delay their financial goals. Either they are waiting for the next tax year or for Christmas to be over. But the only way to have financial security is to just start. Yes, looking at your debt is scary but ignoring does not make it disappear. Decide right now that you are going to improve your personal finance and do it.
15. Give Yourself Breaks
While personal finance is essential for your future, life can get boring if you do not enjoy it. Every now and then, go on vacation or buy something expensive – treat yourself. You are working so hard for financial independence so you should at least get to enjoy it.
Final Thoughts
Financial stress is the worst kind. To avoid running up debts, finding yourself without the right insurance, or nearing retirement without any money, make an effort to get on top of your finances. Make it a habit to sit down every week, go through your expenses and:
Make your budget Identify areas you can save money Assess how well you are doing with your goals
You cannot attack every aspect at once. But you can do your research and decide what ISAs, or insurance plans, or investments you want and add it to your goals. One final point to remember, it may take time to build momentum, but gaining this level of financial security and independence is worth it.
