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Most people will agree that basic personal finance should be a skill taught at school level already. Unfortunately, this is not the case in South Africa and although many young people have very good intentions of being financially responsible, they feel completely out of their debt and intimidated when they receive their first paycheque, bonus or resign from a formal job for the first time.
These 5 tips are, in my opinion, as a financial adviser, the cornerstone to being financially responsible and will form the base that can be built on for years to come on your financial journey.
In this article we will consider the first two tips, giving you some time to consider and digest them. Next week we will look at the final three tips that will ensure your financial foundation is a solid one.
Tip 1: Know where your money is going
It sounds cliché, and you have definitely heard this before – but it cannot be emphasised enough – you can’t be financially responsible if you don’t know where your money is going every month. This step is the first step to creating a budget, because you will be able to determine how much of your income needs to be allocated to which expenses.
So often, while doing a retirement planning analysis for a client, I have seen that they have no idea what their minimum monthly financial needs are. When you ask them what amount they need to have paid out to them as an annuity during their retirement they can’t give a ball park figure. This is not just a question that you must be able to answer when you are retiring, having a clear number in your head of what your total monthly expenses are, is so important to ensure you are financially responsible.
When doing these retirement planning analyses, I have also seen incidents where people didn’t realise that they have a debit order or subscription getting deducted from their account each month. This is extremely worrisome and a clear sign of someone that does not have a handle on their finances. As a starting point it is important to form the habit of regularly checking your bank statement, not just to stay up to date with your expenses, but also to ensure there aren’t any fraud happening on your account. With online shopping becoming more popular we stand the risk of compromising our banking information. Checking your statements will also help ensure that you know about any such suspicious transactions that can often be small regular credits on your account.
The best way, in my opinion, to keep track of your expenses is by setting up a spreadsheet that you update each month. Create a new tab, with a standard template, for each new month as this allows you to refer back to a previous month if you want to make a comparison. On this sheet, try to group your expenses in categories such as household, entertainment, children etc. Also keep track of what money is coming into your account each month, how much you are contributing to your retirement products as well as expenses that you may anticipate, such as a car service. Go one step further and also show on this sheet how much money you were able to save this month and if you do invest this money make a note of where you invested it.
Keeping record of your expenses, income and investments will not only help you to be more mindful of your expenses, but it will also, as mentioned earlier, help you to create a clear and realistic budget. Perhaps you overspent slightly on entertainment one month, because you had a few friends’ birthday parties, but for the next month you lower your entertainment budget to ensure your long-term financial goals stay on track.
Tip 2: Have an emergency fund
Emergency funds are a pot of money you keep liquid and on stand by for, as the name suggests, emergencies. Start saving up for an emergency fund as soon as possible and aim to keep at least two months’ worth of your net salary in this emergency fund. Most banks have a savings account where you can earn slightly higher interest than on your normal account and these savings accounts work perfectly for emergency funds. Just make sure that this savings account is indeed liquid and that you can withdraw money from it at any time.
Emergency funds are crucial for your overall financial wellbeing, because it will ensure that when an emergency does happen, such as having to buy new car tires, or being in between jobs, you won’t derail your overall financial strategy and long-term goals. Should you not have an emergency fund, you might otherwise have to take on expensive short-term debt or have to withdraw from long-term investments such as a retirement fund. Although life is unpredictable and you would sometimes have to consider other options, an emergency fund will just help to ease financial stress. This is not a luxury only the rich can afford, but is something that everyone can have if they are responsible with their money.
Setting up an emergency fund and a monthly spreadsheet of your expenses are two practical ways of getting your financial wellbeing on-track. Although both may require some discipline it will quickly become second nature and you will soon reap the rewards.