If you find yourself reading this post, chances are you’re ready to take control of your finances once and for all. Maybe you’ve found yourself Googling phrases like, “how to manage money” or “how to learn about personal finance.” But let’s be honest, the results are overwhelming and the information available can be confusing.
Don’t give up! You’re on a journey to understand your money, and that is an absolute necessity. Money touches everyone’s life, rich or poor, and how you handle your finances can make all the difference.
If you’re looking for an introduction to personal finance, this is it. We’ll walk you through all the first steps to take in order to help you understand your debt, cash flow, and create an actionable plan to help you move forward with your personal finance basics.
What is Personal Finance?
Before we dive into the nitty gritty, it’s important to understand the personal finance definition and why it’s important. Unfortunately, many of us don’t receive this education in school and we may have learned some unhealthy attitudes and habits surrounding money from our parents.
The good news is that you can re-learn healthy habits and make a change. That’s not to say that the journey is an easy one, but it is important for yourself and your family to master the basics.
At the most basic level, personal finance is your approach to how you handle your money. From the money you get paid to what you spend it on, these habits make up your personal finances.
It’s important to note that personal finances are just that: personal. You have unique situations and circumstances that will require careful thought and planning. From your income to debt to expenses, there are many variables that you’ll need to consider when it comes to your money.
There is no one-size-fits-all approach, and if you have specific questions about your situation, please schedule an appointment with a financial professional.
Why You Need to Learn Personal Finance Basics
Can I let you in on a little secret?
You ALREADY have personal finances. We all do. If you have money, expenses, income, and bills, you have a personal finance story.
But unfortunately, for most Americans, this isn’t a story with a happy ending. In fact, the average American has over $96,000 in debt, which includes mortgages, credit cards, and student loans.
It’s also an often cited statistic that 56% of Americans couldn’t cover a $1000 emergency from their savings.
But that doesn’t have to be the reality for you.
Learning how to manage money and about a wide range of personal finance topics will allow you to make more informed and intentional decisions. Instead of being reactive with your funds, you can plan ahead and have full confidence that you’re making wise decisions with every dollar you make and spend.
Top Tips for Your Personal Finance Planning
It can seem daunting to learn about finances and its specifics. It’s likely why so many of us feel ill-equipped to take on this task ourselves. The reality, however, is that understanding personal finances is not so complicated when you start small: your own bank account.
By doing a deeper dive into your income, expenses, and debt, you’re taking the first step to identify your strengths and weaknesses, as well as make a plan for the future. These five tips will help you break down these first steps into bite-size pieces to help you get started.
Tip #1: Know How Much You Actually Make Each Month
It seems straight forward, but many of us don’t understand the ins and outs of our paychecks. There are several components of your pay stub to be mindful of each pay day.
First is your gross pay, or the total amount you get paid before taxes and deductions. From there, you’ll often see the following items taken out like federal and state withholdings, medicare, and social security.
Depending on your workplace benefits, you might also see deductions for healthcare and retirement that are taken out pre-tax. All these deductions have an impact on your personal finances and are worth tracking to make sure they’re accurate each pay check.
Your net, or take home, pay is the amount you have to budget each month for your living expenses. This is made more complicated if your paychecks are inconsistent or variable, but tracking it over time may help you come up with a general ballpark.
Tip #2: Know How Much You Actually Make Each Month
Once you know your average monthly income, it’s time to start understanding where you money goes each month.
Begin by writing down all your fixed monthly expenses. These are often items such as:
- Mortgage/rent
- Insurance (car, home, and life)
- Utilities such as phone and internet
- Debt payments (car, personal, or student loans)
- Childcare
- Subscriptions and memberships
- Emergency fund and sinking fund savings
Subtract these numbers from your monthly net pay and see what number is left to work with for your remaining expenses.
Tip #3: Look at Your Variable Expenses
Your variable expenses can be the biggest budget-busters, so knowing your typical numbers is important to help you identify areas where you can cut back.
There are a few ways to figure out these numbers. First is to go back through your financial statements from the past several months and categorize them. An easier way is to use a budgeting app, like Mint or Personal Capital, to help automate the process.
Some common categories for variable expenses include:
- Groceries and restaurants
- Utilities such as electricity, water, gas, etc.
- Gas and transportation
- Healthcare costs
- Entertainment
Subtract these average numbers from what’s remaining after your fixed expenses. If you find your spending is higher than your income, it’s time to take action by cutting expenses.
Tip #4: Know Your Debt
For most Americans, debt is a way of life. And while there is a case to be made for good debt versus bad debt, buying things you can’t afford that don’t add to your net worth is always a bad financial decision.
While it can take some effort, take the time to dig into your debts, including minimum payments and percentage rates. Write them down, using our free debt tracker planner to help you track them.
From there, you can take one of two approaches to tackle your debt pay-off: the snowball or the avalanche. Either approach is proven to work, and it’s up to you to decide what works best for your situation.
Debt Snowball
A debt snowball pay-off strategy is incredibly helpful if you need some quick wins to help you see progress. With this approach, you’ll work at paying off your debt with the smallest balance first, regardless of your interest rate.
For example, you have three loans: a $5,000 car loan at 7%, a student loan of $50,000 at 5%, and a credit card of $9,000 at 18%.
With this method, you’ll focus on the $5,000 car loan first and make minimum payments on the other two. Once you know how much money you can put towards the loan (after calculating your monthly income and expenses), you’ll put as much as you can until it’s paid off.
After you’ve paid off the debt with the lowest balance, you’ll then focus on the credit card loan, combining the payment you had been putting towards the car loan and the minimum payment you’d been making on the credit card until it, too, is paid off.
Finally, you’ll roll all those loan payments into the student loan once the credit card is also paid off.
Debt Avalanche
Similar to a debt snowball, you’ll focus on one debt at a time with the debt avalanche. The difference, however, if that you’ll tackle the loan with the highest interest rate first, regardless of the balance.
Let’s take our example from above: a $5,000 car loan at 7%, a student loan of $50,000 at 5%, and a credit card of $9,000 at 18%.
A debt avalanche would have you focus on the credit card debt first, as it has the highest interest rate. And while it has a larger balance than the car loan, the compounding interest of 18% will add up much quicker if you just make the minimum payments.
You’ll put as much as you can towards that $9,000 debt and make the minimums on the car loan and student loan. Once the credit card is paid off, you’ll roll that payment into the debt with the next highest interest rate, the car loan. When that’s paid off you’ll tackle the student loan with the lowest rate.
Tip #5: Choose Your Action Step
Once you’ve done the hard work of looking at all your income, expenses, and debt, it’s time to come up with a plan to help you get a handle on your personal finance planning.
Depending on your situation, there are a number of possibilities you may identify. Some of them may include:
- Create and stick to a budget
- pay down debt
- increase your savings and emergency fund
- reduce your spending
- invest for retirement
Don’t overwhelm yourself by trying to do everything at once. That’s an easy way to burn out and lose momentum. Instead, pick one area to focus on and master before you move on to another step.
Personal Finances 101: You’re Ready
Don’t forget, you already have personal finances. But now you have some actionable steps to help you understand where your money goes each month, as well as what to do next. You’re on your way!
Once you’re ready to move on, make sure you check out some of our other blog posts on saving, investing, and debt pay-off to help you take your journey to the next level.
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