 |
Personal Finance ExplainedTitle: Personal Finance 101 Author: David Berky Article:The subject of personal finance is very broad, but as abeginning, I would like to discuss what I consider thefoundation - security. Security Security to me means that I am prepared for the "hit by a bus"scenario. I have life insurance to provide for my wife and children.Health, disability, auto and home insurance policies alsoprovide me additional protection in their respective areas. I also have a list of where these policies are, who my agents are, phone numbers and basic policy information (#s, amounts, costs, etc.) I keep this information both in a file at my house and ina safety deposit box at the bank (a friends home will also work- think: "house burns down" scenario). Also my wife and mybrother and sister-in-law who live nearby also know where thesethings are. Personal Finance 101 I also try to maintain an emergency fund of cash in a bankaccount or money market account (with checks) so that I amprepared for a financial disaster, layoff, or natural disaster.It took several years to build up this cash fund. I started witha goal to have enough cash for 6 months of my normal financialneeds (mortgage, food, insurance, transportation, etc.). Now Iam trying for 12 months' worth. I do this by saving a littleeach month, and "investing" a portion of all "found" money(gifts, inheritances, tax returns, anything unexpected). Personal Finance 101 I have a will and update it each year around New Year's toreflect any changes in my life during the past year (newchildren, new home or business, etc.). Most people don't need anextensive will, the forms you buy at your office supply storewill do. But in some states if you die without one, watch out.What happens to your money and even your children could beentirely up to some state or court appointed official. Personal Finance 101 Stability The next level of personal finance is stability. Stability to me means that first of all I live within my means.I don't spend more than I earn. Otherwise I am spending mysavings, investments, emergency money, or getting into debt. Ihave a lot of debt, but most of it is real estate which isproducing some income. I try to avoid credit card debt andpurchase everything with money I already have. I don't buythings expecting that next month I will have more money or Iwill get a big raise or promotion. You can't sell me a car basedon a monthly payment amount; I want to know the final price! Personal Finance 101 In order to make sure that I am living within my means, Icreated a simple budget and I track my expenses using SimpleJoe's Expense Tracker. I can tell how much I have spent in eachbudget category and I know when to keep a closer eye on certaintypes of expenses, or when and where I can cut expenses and whatI can live without in order to stay within my budget. Countingpennies is pretty tedious, but tracking where the dollars go canbe eye-opening. Personal Finance 101 Another aspect of stability is avoiding or eliminating debt.Debt in itself is a form of stability; you always have to makethose payments until it is all paid off. Some recent reports show that the average American is $7,000 -$20,000 in debt. Most of it is consumer debt: credit cards,store accounts, rent-to-own, auto loans, etc. And those types ofconsumer debt usually charge a higher interest rate than anysavings account, CD, or money market account; even more thanmost high-flying risky investments. This means that $1,000 in debt at 18% is costing you 9 timeswhat your $1,000 savings account at 2% is producing. Consumerdebt is a dangerous spiral that is very hard to get out of. The first problem is, as mentioned before, living within yourmeans. Don't get further into debt to support an extravagantlifestyle. Or even if you are frugal, if you are using creditcards and debt to finance your purchases, you either need tostop purchasing luxury items or find a way to increase yourincome to support these purchases/payments. Personal Finance 101 You may even have to lower your standard-of-living because youhave racked up considerable debt and need to free up some moneyto pay it down. But don't wait to start. Those minimum paymentsare often designed to keep you paying 18% interest for 40 years!That's longer than most home loans. You could even end up payingmore than 10 times the original cost of the item just ininterest payments. Is that new stereo really worth that much? To help people get themselves out of debt we created the "PayOff My Debts" tool in Simple Joe's Money Tools. It is alsoavailable as a stand-alone product called Simple Joe's DebtEraser. These tools help you create a Rapid Debt Reduction Planwhich shows you how much to pay on each debt each month in orderto save as much on interest charges as possible and pay off yourdebts as soon as possible. These tools can help you systematically eliminate your debtswhether you owe $1,000 or $100,000. The key is to start livingbelow your means and start focusing on paying off your debt. It doesn't make much sense to be worried about whether or notyour 401k earns 8 or 9% this year, if you are paying 21% on yourcredit card debt. Personal Finance 101 A third aspect that starts in the stability category andtranscends to the next personal finance level, growth, is theconcept of investing in yourself. By this I mean spending timeto educate yourself in personal finance matters, as you aredoing right now and spending time gaining more knowledge andimproving your skills or even developing new ones. As an employee, this can have a direct relation to who gets laidoff during the next round of cutbacks. If you have some skillsor have demonstrated some abilities that are not possessed byyour co-workers and these skills make you a more valuableemployee, you are less likely to get the pink-slip. Personal Finance 101 Also while you are making yourself more valuable to your currentemployer, you are also making yourself worth more to futureemployers. It is much easier to land a job if you have somespecial skills that are in high demand or even if you bring somespecial knowledge or experience that you fellow job-seekers mayhave overlooked or failed to invest in. Being in the computer industry, I have to spend hours each weekreading trade magazines, exploring web sites, and readingemailed newsletters to keep abreast of what is new in my field.If I stopped learning just five years ago, I would have missedout on the Internet revolution, email, web sites and themajority of the income I now enjoy. Personal Finance 101 Keeping myself informed and up to date takes time and resources,but it helps me protect my current income and expand my skillsto help me earn income in other areas. This increases mystability by allowing me to not have to rely on one client,employer or source of income. A chair with four legs will alwaysbe more stable than a stool with only three. Personal Finance 101 Growth The next level of personal finance, as I alluded to before, isgrowth. Once you are secure and stable, you can begin to think aboutbuilding your wealth. Not that you have to figure out how tobecome the next Bill Gates or Warren Buffet. But you have tostart building the "nest-egg" that you will rely on when youretire. Personal Finance 101 And don't think that Social Security has you covered, or thatyour 401k will grow back to what it was a couple years ago. Orthat your current employer is going to re-institute the generouspension plans of yesteryear. 401ks are much cheaper toadminister and you, the employee, take the hit when the marketgoes down, not the employer. My father is nearing retirement age and I think he has a goodplan. He has done some research and estimated what his expensesare going to be when he is retired. He then took a look at hispotential sources of income during his retirement. Personal Finance 101 He figured that Social Security would cover about a third ofwhat he wanted to live on. Only a third! And he has worked hisentire life. Would you like to instantly have to live on onlyone third of what you currently make? Retirement is suppose tobe the golden years, so where's the gold? Luckily throughout his career, my father has worked forcompanies that have had pension plans and he had worked longenough at each company to be eligible for some pension money.This is rare these days because today the average worker willchange jobs and companies at least five times during his/hercareer. Also, as I mentioned before, companies are switching tolower cost 401k plans that do not guarantee you any fixedpayments. In my father's situation, his pension money would cover anotherthird of the retirement income he wanted. So now he had toeither figure out where the last third was going to come from,or start cutting out expenses during retirement, like notvisiting his children so much. None of us liked the sound ofthat. So my father started learning about the stock market andinvesting in stocks and mutual funds. He made a plan for growinghis wealth and then educated himself as to how he couldaccomplish his plan. I wish I could say that he is doing better than he is, butluckily he has some time still to put his plan into action andride out any market downturns. (He can do this because he hasthe security of insurance and emergency money, and the stabilityof little debt and a strong set of skills.) By learning about how stocks, bonds, mutual funds, index funds,options, futures, commodities, real estate and other financialtools work you lay the foundation for growing your wealth. Youmay start with just $100 in a bank CD, but as you learn more andbecome more sophisticated, you can invest in more and moreopportunities. You will learn about how risk and reward are related, that asthe risk increases so does the size of the potential reward.Just like at the race track, you'll make more on the long shot,but the odds are against it. Also you can learn how to tilt theodds in your favor and protect yourself against risk. For those who are just starting out in the growth phase or whowant to dabble a bit before completing the other levels ofpersonal finance, my suggestion would be to look into indexmutual funds. Especially no-load index funds (no initial/salesfee). These funds are made up of the same stocks that make up thepopular market indexes like the Dow Jones, S&P and NASDAQ100.The costs are low because management is simple and as a mutualfund you can invest a little at a time. Also they are easy tofollow since you see them on all the news shows and in thenewspaper. Personal Finance 101 Protection and Management The final level of personal finance is the protection andmanagement of your wealth. Most people never develop wealthenough to need this level. But some of the concepts can beapplied to any amount of wealth you possess, $10,000 to$10,000,000. Part of the protection harks back to your will as we discussedon the first personal finance level: security. With any significant wealth or valuable asset (your home, car,heirlooms, 401k, IRA, business, etc.) you will want some way ofdisposing of that asset upon your death. Whether it is go to goyour family, favorite charity, or local church, if no one knowsabout it, "it ain't gonna happen". As you start to accumulate wealth in excess of $350,000, you maywant to consult an attorney about creating a trust. A trust isan entity that can own property and pass that property to anyoneyou name in your will. Usually the trust is designed to provideincome to children from the assets that are placed in the trust. The trust can survive you so that your assets and income may bepassed on to your children or next-of-kin without excessivetaxation and legal entanglements. Some states will take up to55% of your assets as taxes when you pass away. Protection also relates back to insurance. Now it may be time tolook at a multi-million dollar umbrella policy that will protectyou from lawsuits designed to part you and your wealth. You maynow be a bigger target, so purchase a suit of armor. The management aspect comes into play where you may start toconcern yourself with taxation, ownership, distribution ofincome and possibly endowments to charities or other non-profitinstitutions. You may hire a person or company to manage your wealth, or youmay choose to do it yourself. Most people who have earned theirwealth through the "sweat of their brow" have already becomeadept at managing their assets. Some continue to personallymanage their wealth because of the enjoyment or challenge itgives them. Others are ready to turn it over to a trustworthy manager (whoonly gets paid a percentage of your increase) and travel theworld, or sit on a beach and count the waves. Whatever your dreams for retirement (and why wait until you are65), understanding the different levels of personal finance andspending the time and resources to educate yourself will pay offwhether you live next to Bill Gates or Homer Simpson. Personal Finance 101 About the author: © Simple Joe, Inc. David Berky is president of Simple Joe. Oneof Simple Joe's best selling products is fresh finance articles personal finance to online-loans-pro.com |