What is the definition of personal finance?
Personal finance is a remarkably broad subject. The simplest way to define personal finance might be to take a look at each of the topics which come under the personal finance umbrella.
One of the fundamentals of personal finance is record keeping. It provides the foundation for everything else to build on. Keeping records means keeping track of all of your financial transactions. This includes what you earn, what you spend, what and where your savings (if any) are, insurance, and the list goes on. Record keeping can be as simple or as complex as you like. Some people will be thrive on tracking every individual cent that gets earned, saved and spent on a daily basis. Others will find this way too much overhead and will instead record approximate figures on a weekly or even monthly basis. Most people will find a working solution somewhere between these two extremes.
However you decide to do it, the main thing is to keep at it. Record keeping will enable you to understand what your financial position is now and how you've progressed over time. It will also provide valuable input into the planning process.
Budgeting could be considered the counterpart of record keeping. The two go arm in arm. Budgeting is the practice of estimating future income and expenditure. To create a budget you would normally offset your expenses against your income month by month for the next year (and beyond). That way you can see what the surplus or shortfall is each month. This can help with planning your investments or by identifying where your future cash flow problems might lie.
Another key area of personal finance is your financial position. Knowing this is key. When used in conjunction with your record keeping and budgeting, your statement of financial position is a key tool in meeting your financial goals. In it's simplest form, it's a document which lists your assets and your liabilities and which will hopefully show a surplus on the asset side. Even if it doesn't show a surplus of assets, it will provide you with a starting point on your road to freedom from debt.
Credit and other forms of Personal Debt.
And speaking of debt, this is another broad topic within personal finance. Not many of us can go through life without resorting to some sort of debt. Whether it's a mortgage to fund the purchase of a house, a personal loan to buy the car of our dreams or credit card debt to be used for day to day living and the odd larger consumer purchase, most of us will be in debt at some time or other.
But there are different types of debt. Borrowing money to finance investments can be a powerful wealth generating tool. However payday loans and other forms of cash advance are normally to be avoided if at all possible.
Saving and Investing.
Saving money is something we should all aspire to. It could be saving enough money to put aside in an emergency fund to provide a financial buffer in unforeseen circumstances. Or it might be saving for the kids' education or maybe even an overseas trip. And saving ties in nicely with budgeting. Saving is what we can do what the money which our budget tells us should be left over each month.
Then once you've accumulated some savings, you may look at how to invest them. Investing is a complex area with many complex investment products available. You might buy shares, real estate or a mutual fund. You can even invest in non-financial asset like art or wine providing you know what you are doing. Investing is how you take your accumulated saving and put them to best use to grow your wealth over the long term.
What does insurance have to do with personal finance? Well, what's the point in doing all of that hard work to get your personal finances in order just to see some catastrophic event wipe it all out? That's why insurance is such an important part of personal finance. Whether it's your house, your car, your income, your health or even your life, you need to make sure you have enough insurance for the worst case scenario.
Nobody likes paying tax, but with some careful planning and good advice, you can at least minimize the amount of tax you need to pay. I'm sure most people would agree that we pay more than enough tax already. And by organizing our personal finances better, we may be able to reduce our taxes freeing up more money to save and invest.
For some people this is what it's all about. You need to make sure that nest egg has grown large enough to support you once you stop paid employment. By putting the right strategies in place earlier in life you can help ensure you have a comfortable retirement.
Mastering each of the above topics should put you well on the way to living large in retirement.
They say that death and taxes are the two certainties in life. While nobody likes to think about their own mortality, it's important to consider your estate. How should it be distributed? Do you have any special wishes? Is your will up to date? A little planning and forethought may at least remove some of the financial worries from this difficult time.
I think the topics above cover this broad subject area reasonably well. In future posts, I will refer back to this "What Is Personal Finance" post often as I drill down on each of these topics.