Introduction
Personal Finance defines all the financial decisions and activities of a person. In simple words, personal finance means managing your money properly. This includes preparing a budget, making a financial plan, saving, spending wisely, and most importantly, smart investments.
Good personal finance means how well you manage your money, you must know where to save and where to invest, where is it useless, and how to manage it. You need to be consistent and disciplined in the process of developing good personal finance habits.
Personal Finance ensures that your money is spent and invested in the best possible way. But to manage it, it is very important for you to understand the basics of Personal Finance. We will also talk about the basics but first, let us know why Personal Finance is so important.
Personal Finance Benefits
Its benefits differ from person to person. For example, for some people, it makes money management easier, while for some people it helps improve their investments and financial planning.
Although it has many benefits, today we will talk about its three major benefits.
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Money Management
Personal Finance teaches us how to manage our money. Through this, you learn budgeting so you can control the money and it becomes easier to manage money.
Investments and Financial Planning
After learning to budget, you are able to do financial planning for your future. By building the habit of savings, you will be able to invest your saved money, which makes it easier to invest and do financial planning.
Achieving Goals
Personal finance helps us in achieving our financial goals because we have control over our money. We learn to do budgeting in a disciplined manner which is a part of personal finance.
You will start understanding your finances better. This lays the foundation for the financial planning you will do in the future. It helps you to increase your wealth and property.
Five Pillars
Now let us know in detail about the 5 pillars of Personal Finance, which are:- Income, Expenses, Savings, Investment, and Protection.
Income
There can be many sources of income. If you do a job then salary, if you are professional then profit or if you have a tenant then rent. Some people have only one income source while some have two or more, and some people have many like a businessman. Our advice is that you should not depend on just one income source, rather first you should focus on increasing your income source as much as you can.
Expenses
Most of people’s income goes towards daily expenses. Expenses include all types of expenses, such as daily needs. Managing expenses is as important as earning money. There are two ways to go about this: Maintain a spreadsheet where you record every expense and categorize them. You can then sum up the expenses on a monthly basis and compare your spending month by month.
There are 4 types of Expenses in personal finance – Fixed Essential Costs, Variable Essential Costs, Fixed Discretionary Costs, and Variable Discretionary Costs.
Essential Expenses
These expenses you make on things that are necessary for life. They are also known as the bare necessities.
Expenses in this category include the costs of food, water, shelter, and clothing. As you can see, these costs are essential for survival. And your income should be enough to cover at least these basic costs.
Essential expenses cannot be eliminated from your budget. But, you can work on reducing them and keeping them within some reasonable limit. Some Essential Expenses examples are:
- Rental expenses
- Your monthly grocery costs
- Basic clothing expenses
- The cost of taking public transit to work
Discretionary Expenses
These are the costs that you incur at your discretion. Meaning, you don’t actually need to pay for these things. If essential expenses are ‘needs,’ these are your ‘wants.’
Discretionary expenses are not a must for survival. However, they can make life simply more livable. Imagine a life without a good movie, a road trip, or other simple joys that money can buy.
Typically, you use only the disposable income you have for this. Disposable here means anything extra that’s left after your essentials are covered.
Some Discretionary Expenses Examples are:
- Vacations
- Hobby costs
- Luxury goods and services
- Subscriptions and memberships to magazines, entertainment, gyms, etc.
Fixed Expenses
These costs are standard expenses that are of a predetermined, fixed amount. You know exactly how much you’re going to pay for the expenses in this category. And this makes it much easier to account for them in your budget because you know beforehand how much you need to spend on these products or services. Fixed expenses can be either essential or discretionary, depending on the actual expense itself.
Some Fixed Expenses Examples are:
- Your internet bill (especially if it’s a top-up plan)
- Your mobile recharges or bills
- Your loan EMIs
Variable Expenses
Variable expenses are those costs that are not easy to determine upfront. The amount you spend on these products or services may vary from one month to the next.
To estimate variable costs in your budget, you could look at past records for similar expenses, like 3 months or so. You can then identify how much you tend to spend on these variable costs and budget for them accordingly.
Some Variable Expenses Examples are:
- Fuel charges
- Groceries and provisions
- Healthcare costs
- Home maintenance and repairs
Recurring Expenses
These are the costs that repeatedly occur, month on month. They can be fixed or variable, essential or discretionary. But since they are recurring in nature, you know you have to account for them in advance.
Some Recurring Expenses Examples are:
- Rent (Fixed)
- Subscriptions and gym memberships (Usually variable)
- Insurance premiums (Usually fixed)
- Loan EMIs (Usually fixed)
Non-Recurring Expenses
Non-recurring expenses are rare. They do not feature in your monthly scene. You won’t encounter these expenses often, but when they do come knocking, they can take a sizable chunk out of your savings. Think: an expensive iPhone or, god forbid, a hospital bill.
It’s always better to have a separate emergency fund for critical non-recurring expenses like:
- A medical emergency
- An unexpected home repair
- Damages to your vehicle that need repairs
- Loss of valuables or other assets
Savings
Savings means extra money, i.e. the money left after your expenses from your income. There are many ways to save like Saving Bank Account, Money Market Securities, Cash, etc. Saving is an important link for personal finance management.
Investment
Investment means you invest your saved money somewhere like Mutual Funds, Real Estate, Stock Market Commodities, etc. There is some risk in investing but it also gives good returns. Even by investing a certain time period and amount, you can double the amount of your invested money. But keep in mind that it is mandatory to have a combination of a fixed time and a fixed amount.
Protection
The amount kept by people for any adverse or sudden event is called Protection Money or Emergency Fund like we take any Health Insurance, Life Insurance, or Term Insurance. This is also a very important part of Personal Financing.
Conclusion
Overall, when you learn Personal Finance, you have control over your life. You do not work for money but money works for you. By learning these 5 basics and implementing them in a disciplined way, you can manage your money.
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