WTF…are the basics of Personal Finance?
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We’ve been writing a lot about financial news – and people seem pretty interested in it. But now it’s time to make this news relevant to you personally. Most people know investing is probably a good idea for their long-term future, but stats show that millennials are severely underinvested. It’s time to change that – and the first step is sorting out your personal finances.
- Figure out what you’re dealing with
Gather the info on all of your assets like your bank balance and any investment accounts that you have. If you own property, that counts too. Also know your liabilities which are basically any sort of debt (i.e. money you owe).
Also examine your monthly income and expenses. How much do you make after paying taxes? What are your mandatory outgoings, like rent, commuting to work, your phone bill, utilities, typical grocery spend (ignore “discretionary” 😉 things like drinks and dinners for now). Subtract your post-tax pay from your mandatory spending, and you’ll get your discretionary income (we’ll call this “extra money”). Write that number down.
(Apps that aggregate your accounts or examine your spending can help)
- Identify the “bad stuff”
Generally, any debt you have that doesn’t contribute to building your wealth isn’t good. For example, if you take on a lot of credit card debt because you spend too much time on Amazon or Net A Porter, then that doesn’t help you build up your wealth. Whereas if you have debt because you bought a house, then that is helping you build up wealth because the house is an “asset” you own.
So, do you have any high interest debt, like overdue credit card bills? This is the sort of debt that you will likely want to pay off before doing anything else with your money. Note, a mortgage and student loans (in the UK) are generally not “bad debt” because they typically don’t charge a high interest rate.
- Now think about how you can protect yourself.
What if a recession hits and you get laid off? What if you have an accident that prevents you from working in the same job going forward? Life’s core expenses, like shelter, food and healthcare don’t stop just because your income does. If you have dependents or think you might in the future (think: children), this is even more important.
Things like income protection insurance (a.k.a. disability insurance) or life insurance can protect you from the bad things that most people don’t even consider could happen. You should also consider having an “emergency fund,” which is at least a few months’ salary kept in cash – more info here.
- Take care of yourself first.
Take your “extra money” from Step 1. If you have “bad debt,” allocate a portion of the remaining money to paying down that debt (pay down as much as you can each month – click here (UK) or here (US) for more on that). If there is still money leftover, consider purchasing an income protection product or some other type of insurance.
How much do you have left? If you have no “bad debt” you should have some money left – this becomes your “investable money.”
- Now determine how much you want to save/invest each month
Out of your “investable money” you need to fund two things: savings and fun things (like going out for dinner!). Perhaps think about how much you “need” to have fun each month. After that, is there any left to save/invest?
If so, you should save that amount! If the money you’ve got left over is 10-15% or more of your pre-tax salary, that’s in line with what most financial advisors consider to be “healthy.” If it’s not, then you might want to re-evaluate your fun “needs.”
Once you determine the amount, setup an automatic bank payment for the day after your paycheck arrives into the savings/investment account of your choice (like a 401k in the US or an ISA in the UK).
Over time, your savings and investment pot will (very likely) grow, enabling you to do aspirational things like buy a house or quit your job to pursue an entrepreneurial dream. The sooner you start saving and letting your money grow, the more money you’ll have in the future and the less you’ll have to save in the long run.
It’s really as simple as that. 😊
Oh – we’ll be delving into these steps in more detail in future posts, so stay tuned!