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Personal financial management is an important aspect of life that is often neglected. Even schools don’t teach us the basics of personal finance. It might not be the most exciting subject, but money management is crucial if you ever want to retire. Let’s be real; nobody wants to work for their entire life!
Without knowing how to manage your finances, it won’t matter how much money you make. I’ve seen several high earners live paycheck to paycheck throughout my career. At first, it was shocking to see people make ten times the average income and still struggle to make ends meet.
Unfortunately, living paycheck to paycheck is very widespread in the US, even for high earners. The biggest reason is that people never learn how to handle their money. Another part of the issue is that many try to live a lifestyle that is above their means.
The good news is regardless of your income or setbacks; you can improve your financial situation and get things back on track.
This article will break down all the vital details of personal finance and how to best manage your money. Welcome to personal financial management 101.
What Kind of Financial Life do You Want?
Not everyone wants the same thing out of life. Sure, it would be nice to win the lottery and have unlimited amounts of money, but most everybody will need to earn their income.
How much money do you need to live? How much to live comfortably? Start asking yourself what lifestyle you want to have and if you’re willing to put in the work to achieve it.
We all want a lot of money, but not everyone is willing to work hard enough to get it. Find a level of income that you will be happy with that aligns with your work ethic and skills.
Some people want to work as much as possible and earn as much as possible. Others want to work as little as possible and make enough just to be somewhat comfortable.
Make a Plan
Once you’ve identified the financial life you want, make a plan on how to achieve it. For example, is your current job or career the right path to be on? Will you need to go back to school or start a business to get to your desired income level?
Planning the life you want revolves around how much money you make. It’s just how the world works. So consider changing career paths, starting a business, working on a side hustle, or whatever it takes to make your plans feasible.
Set Short-term and Long-term Goals
Part of making a plan come together is setting goals and reaching them. This is where you can get detailed about what you want to achieve.
Take plenty of time to write down specific short-term and long-term goals. They should be realistic and within your plan to build the financial life you want.
Not all goals have to be about making or saving money. Instead, think about what will make you happy and what will improve your well-being along with your financial situation.
Examples of short-term goals:
- Traveling or taking the vacation you always wanted.
- Staying true to a budget.
- Paying down debt.
- Improving your credit score.
- Starting a side business.
Examples of long-term goals:
Once you know what lifestyle you want and have a plan with clear goals, it’s time to prioritize them and get to work.
Create a Realistic Budget
A budget that is aligned with your goals and income level is the most critical part of personal financial management. The best way to achieve financial success is by taking consistent steps every day until you get there. A realistic budget makes everything more manageable once you get in the habit of sticking with it.
Start by calculating your monthly income and monthly recurring expenses. The amount left over is what can go towards food, entertainment, savings, paying off debt, etc. Creating a budget is the easy part. The hard part is consistently following it every month.
Here are the key factors for an effective budget:
- Track your income
- Track your expenses
- Set spending limits
- Review often
Keep it simple but do pay attention to detail. It’s okay to track every penny.
Eliminate Debt and Build Credit
Debt is like an anchor holding you down and stopping you from reaching your financial goals. Suppose you have high-interest debt or “bad debt” focus on paying it off as soon as possible. Bad debt includes credit cards, auto loans, personal loans, or any unnecessary high-interest liabilities.
Being debt-free is the best feeling in the world. But not all debt is bad. Low-interest rate debt is acceptable, especially if it is a mortgage. You will need to decide which debt is worth paying off and which debt is okay to make minimum payments.
Paying down your debt will help build your credit over time. Therefore, it’s essential to understand your credit health and keep your score high. Some people may disagree but having a good credit score means you will never have trouble getting a loan.
If you don’t have any debt and want to build your credit, consider getting a credit card. Only use it for necessary purchases and pay off the balance every month. You can earn money and rewards simply by paying with a credit card.
Build an Emergency Fund
Personally, I rather focus on eliminating high-interest debt before stashing away money for emergencies. But you can do both or start with building an emergency fund first, whichever you’re most comfortable with.
Emergency funds are nest eggs used for rainy days and, of course, emergencies. Unfortunately, I’ve made the mistake of having too large of an emergency fund and watched it get inflated away. Don’t make the same mistake! So how much should your emergency fund be?
Here are some simple guidelines to follow when building an emergency fund:
- 3 months of living expenses is the standard minimum you should save.
- 6 months of living expenses is a happy medium.
- 12 months of living expenses is best if your income is inconsistent, have investment properties, a big family, etc.
- A high-yield savings account is the best place for an emergency fund.
Now, remember these are just guidelines. Having too little saved can put you in a bad situation. On the other hand, saving too much will cost you money due to low-interest rates and inflation. Personal finance is personal. You know the best amount to save in your life for emergencies better than anyone else.
Invest and Prepare for Retirement
Here is the fun part, investing. You need to invest your money as early as possible to let the power of compounding work its magic. Sadly, most people put off saving for retirement and miss out on literally millions of dollars.
Open a retirement account right away if you don’t already have one. There are different retirement accounts to choose from. If your employer offers a 401k, be sure to invest in it, especially if they match contributions. You should also get an IRA. You have a choice of a Traditional IRA or Roth IRA. The traditional IRA is taxed at retirement, and the Roth is taxed preretirement.
You should aim to max out your retirement accounts every year if you have the funds available. Then, your older self will thank you once you’re ready to depart from the workforce.
Open a Taxable Investment Account
A taxable investment account has no contribution limits, and you can withdraw funds at any time. Of course, you will be taxed on any dividends or capital gains, but don’t let that stop you from opening one up. There are several great brokers to choose from these days with little to no fees.
Learn the basics of investing and trading. This will help you better manage your money and save you from the high costs of financial advisors. Most financial advisors will just stick your money in an index or mutual fund, which you can easily do yourself.
Increase Your Cash Flow
Personal financial management is all about allocating and managing your money. Once you have that down, work on increasing your cash flow. There are multiple ways to make money without a job. Start by evaluating your strengths and what value you can bring to the table; the money will follow.
A simple way to increase cash flow is to cut down on your expenses. It’s easier to save a dollar than to make one. By saving money, you get to have more of your income at your disposal. Use it for investments.
Passive income is the most sought-after and the best money to make. Investing in real estate, stocks, and businesses are all great ways to make money while you sleep. Passive cash flow is necessary for financial freedom.
“If you don’t find a way to make money while you sleep, you will work until you die.”– Warren Buffett
It’s never too late to get your financial life in order, irrespective of your age or income. By following the steps in this article, you can be a master of personal financial management. You just have to start and stay disciplined.