Understanding the Basics of Personal Finance
Personal finance is the strategic management that an individual or a household performs in order to plan, save, budget, and invest money over time, considering various economic risks and prospective life outcomes. In order to perform the necessary planning, an individual must know the current financial status of his/her personal finances. The key elements to successful personal finance are knowledge about personal finance, discipline, and ability to modify spending and saving habits. To further understand how these three key elements interact with one another, a brief discussion about the main concepts of personal finance is in order.
In order to achieve personal finance goals, an individual must understand and analyze his/her entire personal financial situation at both short-term and long-term perspectives. Short-term financial goals refer to those that an individual must accomplish within the next two to four years, such as buying a new home, buying a new car, or paying off credit card debt. Long-term financial goals are more complex and generally take a minimum of five years to accomplish, such as saving for retirement. It is important to determine what short-term and long-term personal financial goals are most relevant to an individual, depending on his/her current lifestyle.
One of the most important concepts of personal finance is determining what level of income will provide a person with enough money to support himself/herself, their spouse, and their children in the case of a death. This concept makes sense in both the long-term and short-term perspectives. A good example of this concept is when someone wants to buy a new car, they should figure out how much they will be able to afford and then make plans to adequately fund that goal. Another important aspect of funding future retirement expenses is determining how much of that income will come from Social Security and other public benefits. Another important part of determining future retirement expenses is understanding how much current assets (such as real estate) will be worth when they are no longer useful to that person. This concept makes sense both in the long-term and short-term perspectives.
Investing is another concept related to personal finance. The two concepts are often used interchangeably but they have different meanings. When it comes to investing, it means making purchases with the intent to make a profit. On the other hand, budgeting means having a system that allows you to save for, or manage, a particular expense. There are many examples of budgeting practices used by those who want to save for retirement, such as IRA’s, but IRA’s can be defined further by Congress so that they can be used for investing purposes as well as saving for retirement.
Both budgeting and investing practices can be complex, so it is critical to remember that there are ways to simplify both concepts. For instance, using a spreadsheet to record every month’s personal finance information and then analyzing that information is a great way to track savings and expenditures and see where things may be going wrong. It is also important to set aside a budget when beginning a new personal finance practice, because it will serve as a road map to help track your progress toward achieving financial freedom. By having a monthly budget you will be able to see at a glance if your personal finance goals are being met. In addition, keeping track of your goals will help you determine what needs to be done in order to meet them.
Finally, budgeting and investing can be done in-house using software like Quicken, Money Makers, or other accounting packages. Many people prefer to use computer software because it is much easier to update financial records when needed or to maintain records longer than it would be manually. Whatever technique you choose, it is important to be consistent with whatever practices you choose, especially in the areas of budgeting and investing. Personal finance really just takes some time to learn, but the rewards can be significant.