Improving financial health 1 step at a time.

Personal finance is how you manage your money. Every decision you make from that daily Starbucks to the size of your home has a compounding effect on your financial health.

The old adages like don’t buy a house for more than 2.5 times your salary or save 10% are great places to start, however you must customize to your circumstances and goals. If you want to retire faster than average you must save more than 10% or even 20% of salary to get to that goal.

1. Create a Budget and Increase Net Worth

For many money comes in and money flows out is the extent of financial planning.

Take the first step to your financial goals by knowing where you are by knowing your current Net Worth.

To satisfy your short term financial goals and long term goals such as retirement you need to set up a budget so that less money flows out than in. This positive cash flow difference can be invested for your future and begin to increase your Net Worth systematically.

The best budgets go into as much detail as possible. This allows you to pinpoint weaknesses. If everything is labeled misc or just expenses you have no idea where you can cut or where money is disappear with little thought. Spend some time to write down every category you spend on then separate by need and want then rank the wants.

Now you have a clearer picture on how to get from where you are today to saving enough for your future self.

2. Reduce Lifestyle Inflation

The easiest way for most people to increase saving without the negative side effect of having to cut expenses is to take any raises and bonuses and pay yourself first by increasing your emergency fund and investment accounts. If you were comfortable with life before it should not be too difficult to continue going forward.

Lifestyle inflation robs your future self of wealth and leads people to enter retirement with very little savings and increased financial stress. Be smart, stop trying to keep up with the Jones’s it is just not worth it.

3. Wants verse Needs

In your financial life you must pay for needs: clothing, housing, food, etc. In need I would include some base amount of savings to hit your long term goals. After these are satisfied then look to fulfill your wants and if there is miraculously money left over you can reach your financial goals even faster but in most cases individual wants use up all cash and more available each month.

4. Save Early

Compound interest is the eighth wonder of the world believed to be said by Albert Einstein. Each dollar you save today earns a lot more in 20, 30, and 40 years.

Think of a snowball rolling down the hill. Each successive roll adds more and more snow to a growing ball. What starts out baseball sized could turn into a mountain given a long enough runway. The same process works with investing. The small original contributions earn interest year after year while each interest payment also begins to earn interest.

Example:
A 20 year old would like to retire at 55 with $1 million nest egg. Starting at 20 they would have to save per year $580/month with an investment return of 7%, while starting at 30 they would have to save $1250/month with the same return.

As the example shows the sooner you start the easier it is to reach your long term financial goals.

5. Emergency Fund

You need an emergency fund. Minimum 6 month of salary saved. This fund will save you during periods of time where work is slow or you become unemployed. The worst thing you can do is dip into long term savings to cover these dry spells. This ruins your compound returns and requires more time to make up the shortfall. Just keep and emergency fund and do not touch long term investments until you reach its goal.

The Bottom Line

Personal finance has some great tips and good general guidelines but you must find out what strategies or savings levels works for your situation. The faster you want to retire the more you have to save each month.

Disclosure: I wrote this article myself, and it expresses my own opinions. I have no business relationship with any company whose stock is mentioned in this article. The information provided should NOT be considered advice. The topics discussed are risky and have the potential to lose a substantial amount. I am not an investment professional and therefore do not offer individual financial advice. Please do your own research before investing.