How to Start Managing Personal Finances
Peter has a job but does not make enough, or at least his spending is much higher than what he makes.
Literally living paycheck to paycheck, he is accumulating debt, and the bank has already started charging horrendous financial fees. So, the first thought of Peter was to look for another job with a better salary. He has been considering it for a while already. He is unhappy with his career or salary, feeling incredibly undervalued and working with a manager that lacks experience immensely.
But is it what Peter truly needs? Let's play that scenario.
Peter looks for a job and finds one quickly. The new job has better pay and perks. He paid his debts in the first three months and was back on track. But in the fourth month, he got several expenses, including medical bills, travelling, new clothes for the new job, and a few networking events to meet his new colleagues. So, he was back on square one.
Our situation does not change much for most of us, even if we make more money. We might wear better clothes, hang out in fancier places, and get overpriced coffee more often, but our lifestyle won't change dramatically. So, the solution to our problems is usually not more money but a different approach. Indeed, money can -and will- help substantially, but it will not fix our problems in the long run unless we make some twists in our habits and daily decisions.
The solution to our problems is usually not more money but a different approach.
Going from A to B:
1. Determine your point B. What is your ideal money situation? What does it mean to be prosperous for you? How do you see yourself living that life? The more details, the better.
2. You need to identify your current situation, i.e., point A. What is your income? What are your expenses? What is your saving and investing situation?
3. Decide on how to get from A to B.
In this article, we will help you get from A to B. We will discuss some practical tips and strategies to help you manage your finances effectively.
Do Not Create a Budget; create a Spending Plan.
A Spending plan helps you track your income and expenses, allowing you to see where your money is going and how much you have left over. To create a spending plan, start by listing all your sources of income, including your salary, the weekend gig, and any other sources of income. Next, list all your monthly expenses, including rent, fees, groceries, entertainment, and additional costs.
Be honest. If entertainment takes 50% of your salary, write it down. Once you clearly understand your income and expenses, you can start adjusting the accounts and see where you can -realistically and sustainably- make an effort or a 180-degree change. Set aside some money for savings and emergencies, even two dollars.
Note: No need to reinvent the wheel. Use an out-of-the-shelf solution. Several templates exist, including a few good ones from Google Excel spreadsheets.
Track your expenses
To stick to your spending plan, you need to track your expenses regularly. This can be done using a spreadsheet, a personal finance app, or a notebook. The key is to record all your expenses, including small purchases like coffee or snacks. By tracking your expenses, you can identify areas where you overspend and adjust your spending plan as needed.
You can feed the spreadsheet daily, once a week or monthly. Make sure you find a schedule that works for you; otherwise, you cannot keep it up after a few months.
Pay off your debts
If you have debts, such as credit card balances or loans, it's important to pay them off immediately. High-interest debts can quickly spiral out of control and become a significant financial burden. Start by paying off the debts with the highest interest rates first, then work your way down the list.
If you struggle to pay off your debts, consider setting up a spending plan with the bank. Instalments are not ideal, but they help fix costs and plan when you will finish covering the debt. Most usually than not, a credit card instalment plan is better than a cash loan. But check with your bank and what are your more affordable options. Also, do not forget to check all the handling fees!
Live within your means.
Once you have a clear idea of your income and expenses, you can start identifying areas where you can save money or use it better and add the emergency fund, retirement, and investments. Again, I will not suggest a rule on allocating your funds; that is up to you and your situation and preferences. Just make sure you are covering the basics and saving for those imponderables.
One of the most essential principles of personal finance is to live within your means. This means spending less than what you earn and avoiding unnecessary expenses. It's important to prioritize your spending and focus on what matters most.
Build an emergency fund.
An emergency fund is a savings account that you can use to cover unexpected expenses, such as car repairs or medical bills. It's essential to have an emergency fund in place to avoid relying on credit cards or loans in case of an emergency.
To build an emergency fund, set aside a small amount each month, such as 5% of your income. Any amount will do. Over time, you can increase this amount as your financial situation improves.
Save for retirement
It's never too early to start saving for retirement. The earlier you start saving, the more time your money has for growing. If your employer offers a retirement plan, take advantage of it. If not, consider opening an individual retirement account.
Once you have a precise spending plan, you can consider investments. Investing is a great way to grow your wealth over time, but investing wisely is important. I would suggest reading The Little Book of Common-Sense Investing and starting from there. Next, learn about different investment options, such as ETFs, stocks and bonds, and mutual funds.
Avoid lifestyle inflation
As your income increases, it's easy to fall into the lifestyle inflation trap. This is when you start spending more money as your income increases, often on things you don't really need. To avoid lifestyle inflation, focus on building your savings and investing in your future rather than indulging in unnecessary expenses.
Review and adjust your financial plan regularly.
Finally, it's essential to review and adjust your financial plan regularly. Your financial situation may change, and your plan should reflect these changes. So periodically check your plan, savings, and investments and adjust as needed.
The ultimate goal is you can take control of your finances and achieve financial security.
In conclusion, managing your finances requires discipline, knowledge, and a willingness to make changes. It does not matter how much you drive or how you use the money; the ultimate goal is you can take control of your finances and achieve financial security.