What Is Personal Finance?
Personal finance is a broad term that includes money management, saving, and investment. It includes things like making a budget, banks, insurance, mortgages, investments, and planning for retirement, taxes, and your estate. Most of the time, the word “financial services” refers to the whole industry that helps people and families with their money and gives them advice on how to save and invest.
How you handle the above things also depends on your own goals and wants, as well as how you plan to meet those needs within your budget. To get the most out of your income and savings, you need to learn about money. This will help you tell the difference between good and bad advice and help you make smart financial decisions.
- Money management isn’t taught in many places, so it’s important to learn how to do it through free online articles, courses, blogs, podcasts, and books.
- Income, spending, savings, investments, and protection are the most important parts of handling personal finances.
- Smart money management means making plans for things like making a budget, setting up an emergency fund, paying off debt, using credit cards carefully, saving for retirement, and a lot more.
- It’s important to be focused, but it’s also good to know when you shouldn’t follow the rules.
The Importance of Personal Finance
Personal finance is about making sure that you can reach your own cash goals. These goals could be anything, like having enough money for short-term wants, planning for retirement, or saving for your child’s college education. It depends on how much money you make, how much you spend, how much you save, how much you invest, and how you protect yourself (with insurance and estate planning).
Americans have a lot of debt because they don’t know how to handle their money or have financial discipline. Since December 2019, when family debt was $2 trillion, it was $4 trillion in August 2022. From the first quarter of 2022 to the second quarter, the following amounts went up:
- Credit card balances: Up by $46 billion
- Auto loans: Up by $33 billion
- Consumer loans and store cards: Up by $25 billion
- Total non-housing: Up by $103 billion
- Mortgages: Up by $207 billion
Student debts stayed at about $1.59 trillion, which is the same as before.
Americans are taking on more and more debt to buy things, which makes it more important than ever to keep track of personal funds. This is especially true when inflation is eating away at buying power and prices are going up.
Areas of Personal Finance
The five parts of personal finance are income, saving, spending, investing, and safety.
Personal budgeting starts with how much money you make. It is the total amount of money you get that you can spend, save, trade, and protect yourself with. All of the money you bring in is your income. This includes income from pay, wages, dividends, and other sources.
Spending is a way to get rid of money, and it’s usually where most of your money goes. Spending is what a person buys with the money they have. This includes the rent, the mortgage, groceries, hobbies, eating out, house furnishings, home repairs, travel, and entertainment.
Spending money wisely is a key part of managing your own money. People need to make sure that their spending is less than their income. If it isn’t, they won’t have enough money to cover their bills or they’ll go into debt. With the high interest rates that credit cards charge, debt can be very bad for your finances.
The money left over after spending is what people save. Everyone should try to put money away so they can pay for big bills or situations. But this means you can’t spend all your money, which can be hard. No matter how hard it is, everyone should try to save enough money to cover between three and twelve months of costs in case their income or spending changes.
After that, letting money sit in a savings account is a waste because it loses its buying power over time due to inflation. Instead, money that isn’t in an emergency or spending account should be put into something that will help it keep or gain value, like stocks.
When you trade, you buy assets, like stocks and bonds, in order to get a return on the money you put in. The goal of investing is to make a person richer than the amount they put in. Investing does have risks, since not all things grow in value and some can even lose money.
Investing can be hard for people who don’t know much about it. It helps to spend some time reading and learning to learn more. If you don’t have time to spend your money yourself, you might want to hire a professional to help you.
Protection refers to the things that people do to keep themselves safe from sickness or accidents and to keep their money safe. Protection includes getting life and health insurance as well as planning for your assets and retirement.
Personal Finance Services
Several services for financial planning fit into one or more of the five categories. There are probably a lot of businesses that offer these services to help their customers plan and handle their money. Some of these services are:
- Wealth Management
- Loans and Debt
- Risk Management
- Estate Planning
- Credit Cards
- Home and Mortgage
Personal Finance Strategies
It’s best to start planning your finances as soon as possible, but it’s never too late to set financial goals that will give you and your family financial freedom and security. Here are the best ways to handle money and tips for doing so.
1. Know Your income
It’s all for nothing if you don’t know how much money you bring home after taxes and withholding. So, before making any decisions, you should make sure you know exactly how much of your pay you get to keep.
2. Devise a Budget
To live within your means and save enough to reach your long-term goals, you need a budget. The 50/30/20 way for making a budget is a great starting point. This is how it breaks down:
- After taxes, 50% of your take-home pay or net income goes to things like rent, utilities, food, and transportation.
- Thirty percent is set aside for things like eating out and buying clothes that you don’t have to do. You can also give to charity here.
- Twenty percent is put towards the future, like paying off debt and saving for emergencies and retirement.
A growing number of personal budgeting apps for smartphones make it easier than ever to keep track of your money. These apps put your day-to-day earnings in the palm of your hand. Just to give you two examples:
- You Need a Budget, or YNAB, helps you track and change your spending so you can keep track of every dollar you spend.
- Mint makes it easy to handle investments, credit cards, bills, and cash flow from one place. It automatically adds new information and sorts it into categories as it comes in, so you always know how your finances are doing. The app will even give you tips and help that are just for you.
3. Pay Yourself First
It’s important to “pay yourself first” so that you have money set aside for things like medical bills, a major car repair, day-to-day spending if you lose your job, and other unexpected costs. The best safety net is between three and twelve months’ worth of living costs.
Most financial experts say that 20% of each paycheck should be saved each month. Don’t stop saving once your emergency fund is full. Keep putting the 20% you save each month towards other goals, like a retirement fund or a down payment on a house.
4. Limit and Reduce Debt
It sounds simple: Don’t spend more than you earn to keep your debt from getting out of hand. But most people do need to borrow money from time to time, and sometimes getting into debt can be a good thing, like if it helps you buy an asset. One example could be getting a debt to buy a house. Still, renting a house, leasing a car, or even getting a subscription to computer software can sometimes be cheaper than buying it outright.
On the other hand, reducing your payments (for example, to just the interest) can give you more money to spend elsewhere or save for retirement when you’re young and your nest egg can benefit most from compound interest. Some private and government loans can even get their rates lowered if the borrower signs up for automatic payments.
Student loans make up $1.59 trillion of consumer debt, so if you still owe money on one, you should put it at the top of your list. There are a lot of different ways to pay back loans and lower payments. If you are stuck with a high interest rate, it can make sense to pay off the debt faster.
5. Only Borrow What You Can Repay
Credit cards can be a big way to get into debt, but it’s impossible to live in the modern world without one. Also, they can be used for more than just getting things. They are important for building your credit score and a great way to keep track of your spending, which can help you a lot with your budget.
Credit needs to be managed well, which means you should either pay off your whole amount every month or keep your credit utilisation ratio low (that is, keep your account balances below 30% of your total available credit).
With all the great rewards and incentives available today, like cashback, it makes sense to charge as many items as you can, as long as you can pay off your bills in full.
Using a debit card, which takes money straight out of your bank account, is another way to make sure you won’t end up paying interest on small purchases made over a long period of time.
6. Monitor Your Credit Score
Credit cards are the main way that your credit score is built and kept up, so keeping an eye on how much you spend on credit goes hand in hand with keeping an eye on your credit score. If you want to rent a flat, buy a house, or get any other kind of loan, you’ll need a good credit report. There are many different credit scores, but the FICO score is the one most people use.
Factors that determine your FICO score include:
- Payment history (35%)
- Amounts owed (30%)
- Length of credit history (15%)
- Credit mix (10%)
- New credit (10%)
FICO scores are calculated from 300 to 850. Here’s how your credit is rated:
- Exceptional: 800 to 850
- Very good: 740 to 799
- Good: 670 to 739
- Fair: 580 to 669
- Very poor: 300 to 579
To pay your bills, set up direct debiting (so you never miss a payment) and sign up with companies that send regular updates to your credit score. By keeping an eye on your credit record, you can also find mistakes or signs of fraud and fix them. Federal law says that you can get a free credit report from each of the “Big Three” credit companies, which are Equifax, Experian, and TransUnion, once a year.
You can get reports from each agency directly, or you can sign up at AnnualCreditReport.com, a site run by the Big Three and approved by the government.
Some credit card companies, like Capital One, will give their users free, regular updates to their credit score, but it might not be their FICO score. Your VantageScore can be found in all of the above.
7. Plan for Your Future
Make a will and, based on your needs, maybe set up one or more trusts to protect your assets and make sure your wishes are carried out after you die. You should also look into auto, home, life, disability, and long-term care (LTC) insurance and see if you can find ways to lower your rates. Check your policy every so often to make sure it meets the needs of your family through all of life’s big events.
A living will and a healthcare power of attorney are also important papers. Even though not all of these papers have anything to do with you, they can all save your family a lot of time and money if you get sick or can’t take care of yourself for some other reason.
It may seem like a long time until retirement, but it comes much faster than imagined. Most people will need about 80% of their current salary when they retire, say experts. The earlier you start saving, the more you will gain from the “magic of compounding interest,” which is how small amounts grow over time.
Also Read: How to Invest In Stock Market
Putting money away now for your retirement not only lets it grow over time, but it can also help you pay less in taxes now if you put the money in a tax-advantaged plan like an IRA, 401(k), or 403(b).
If your workplace offers a 401(k) or 403(b) plan, start paying into it right away, especially if your employer matches your contribution. If you don’t, you’ll miss out on free money. If your company gives both a Roth 401(k) and a traditional 401(k), take the time to learn the differences between the two.
Investing is just one part of planning for retirement. Other tactics include waiting as long as possible before choosing to get Social Security benefits, which is smart for most people, and changing a term life insurance policy to a permanent life insurance policy.
8. Buy Insurance
As you get older, it’s normal to get a family, a house or flat, things, and health problems, just like your parents did. If you wait too long to get insurance, it could cost you a lot. Costs for health care, long-term care insurance, and life insurance all go up as you age. Also, you never know what will come your way in life. If you’re the only one who works to support your family or you and your partner both work to pay the bills, a lot depends on how well you can work.
As you get older, insurance can cover most of your hospital bills, leaving your hard-earned savings in the hands of your family. Medical bills are one of the main reasons people go into debt.
If you die, life insurance can help the people you leave behind deal with the loss and get back on their feet financially.
9. Maximize Tax Breaks
Many people leave hundreds or even thousands of dollars on the table every year because the tax code is too hard to understand. By getting the most out of your tax savings, you’ll be able to use that money to pay off old bills, enjoy the present, and plan for the future.
For all possible tax deductions and tax credits, you should start saving records and keeping track of how much money you spend. There are a lot of helpful “tax organisers” you can buy at stores that sell office supplies. The key categories are already labelled.
Once you’re organized, you’ll want to make sure you take advantage of every tax benefit and credit you can and choose between them when you have to. In short, a tax exemption lowers the amount of your income that is taxed, while a tax credit lowers the amount of tax you have to pay. This means that a tax credit of $1,000 will save you a lot more money than a deduction of $1,000.
10. Give Yourself a Break
Planning and budgeting can make you feel like you’re giving up a lot. Make sure to treat yourself every once in a while. Whether it’s a trip, a buy, or just a night out on the town once in a while, you need to enjoy what you’ve worked for. When you do this, you get a taste of the financial freedom you’re trying so hard to achieve.
Lastly, don’t forget to give tasks to other people when you need to. Even if you are smart enough to do your own taxes or handle a portfolio of individual stocks, that doesn’t mean you should. Setting up an account at a brokerage and spending a few hundred dollars on a certified public accountant (CPA) or a financial manager (at least once) could be a good way to get your planning off the ground.
Personal Finance Skills
Using skills you probably already have is the key to getting your finances back on track. It’s also important to realize that the same rules that help you succeed in business and your job work just as well for managing your own money. Putting your finances in order of importance, weighing the costs and rewards, and not spending too much are three important skills.
- Finance Prioritization: This means that you can take a look at your funds, figure out what brings in money, and make sure you keep doing those things.
- Assessing the Costs and Benefits: Professionals don’t spread themselves too thin because they have this key skill. People who want to get rich always have a list of ideas for how to do so, whether it’s a side business or an investment idea. There are times and places to take a chance, but if you want to run your finances like a business, you need to take a step back and look at the possible costs and benefits of any new venture.
- Restraining Your Spending: This is the last big-picture skill that must be used to handle personal finances like a business. Financial managers meet with successful people who still spend more than they make all the time. If you spend $275,000 a year, making $250,000 a year won’t help you much. To build your net worth, you need to learn to put off spending on things that don’t add to your wealth until you’ve reached your regular savings or debt-reduction goals.
Personal Finance Education
Money management isn’t one of the most popular subjects taught in schools. Many college degrees require some financial education, but it isn’t geared towards people. This means that most of us will have to get our personal finance education from our parents (if we’re lucky) or teach ourselves.
You don’t have to spend much money to learn how to handle it better, which is good news. You can find out everything you need to know for free on the Internet and in books from the library. Almost all media outlets regularly give out tips on how to handle money.
Personal finance blogs are a great place to start when you want to learn more about money. Instead of getting general advice like you would in a personal finance piece, you will find out exactly what problems real people face and how they deal with them.
Mr. Money Moustache has a lot of posts that give advice on how to get out of the rat race and retire early by making unusual choices.
Through first-person accounts, CentSai helps you make a wide range of financial choices.
Million Mile Secrets and The Points Guy both teach you how to use credit card points to travel for a small fraction of what it would cost to pay full price. These sites often have links to other blogs, so as you read, you’ll find more sites.
At the Library
If you don’t already have a library card, you may need to go to your library in person to get one. Once you have one, you can check out personal finance podcasts and e-books online without leaving your house. Your local library may have copies of some of the following best-sellers: I’ll Teach You to Be Rich, The Millionaire Next Door, Your Money or Your Life, and Rich Dad, Poor Dad. Personal finance favourites like Think and Grow Rich, The Little Book of Common Sense Investing, The Total Money Makeover, and Personal Finance for Dummies are also available as audiobooks.
Free Online Classes
If you like how lessons and quizzes are set up, try one of these free online classes on personal finance:
- The Morningstar Investing Classroom is a place where both new and experienced investors can learn about stocks, funds, bonds, and portfolios. Some of the courses you can take are “Stocks Versus Other Investments,” “Methods for Investing in Mutual Funds,” “Determining Your Asset Mix,” and “Introduction to Government Bonds.” Each course takes about 10 minutes, and at the end there is a quiz to make sure you got the lesson.
- Harvard University and the Massachusetts Institute of Technology made EdX, which is a place to learn online. It has at least three lessons on personal finance: “How to Save Money: Making Smart Financial Decisions” from the University of California at Berkeley, “Personal Finance” from Purdue University, and “Finance for Everyone: Smart Tools for Decision-Making” from the University of Michigan. You’ll learn how credit works, what kinds of insurance you might want, how to save the most for retirement, how to read your credit report, and what the time value of money is.
- “Planning for a Secure Retirement” is a Purdue University course that you can take online. It is divided into 10 main modules, and each main module has four to six sub-modules on things like Social Security, 401(k) and 403(b) plans, and IRAs. You’ll find out how willing you are to take risks, think about what kind of retirement living you want, and figure out how much money you’ll need.
- Missouri State University offers a free online video course called “Personal Finance” through iTunes. Beginners who want to learn about personal financial statements and budgets, how to use consumer credit wisely, and how to make choices about cars and housing should take this basic course.
Frequent Asked Questions
Personal finance refers to the management of an individual’s or a family’s financial resources. It involves making informed decisions about how to earn, spend, save, invest, and manage money to achieve various financial goals and ensure financial security. Personal finance encompasses a wide range of topics, including budgeting, debt management, investing, retirement planning, insurance, taxes, and estate planning.
Here are some key components of personal finance:
1. Budgeting: Creating a budget helps you track your income and expenses, ensuring you live within your means and allocate money wisely to meet your financial goals.
2. Saving: Setting aside money regularly in a savings account or other financial instruments for future needs, emergencies, or specific goals like buying a house or going on vacation.
3. Investing: Putting your money into various assets, such as stocks, bonds, real estate, or mutual funds, to grow wealth and achieve long-term financial objectives.
4. Debt Management: Understanding and managing debts responsibly, which involves paying off high-interest debts, avoiding unnecessary borrowing, and using credit wisely.
5. Retirement Planning: Preparing for retirement by contributing to retirement accounts (like 401(k) or IRA) to ensure financial stability during your golden years.
6. Insurance: Protecting yourself and your assets with various types of insurance, such as health insurance, life insurance, home insurance, and car insurance.
7. Tax Planning: Maximizing tax efficiency by understanding applicable tax laws and using legal strategies to minimize tax liabilities.
8. Estate Planning: Creating a plan for the distribution of your assets after your death, including wills, trusts, and designating beneficiaries.
Personal finance is essential for everyone, regardless of their income level or financial situation. It empowers individuals to make informed financial decisions and work toward achieving financial stability, security, and long-term prosperity.