One of life’s most important skills is financial literacy. Yet, many in our country lack basic financial awareness which leads to poor decision-making. Essentially, financial literacy is all about knowing how to manage your money and make informed financial decisions. It sounds simple, but it is a comprehensive skill that includes various aspects of personal finance, such as budgeting, saving, investing, and managing debt. So let’s understand the benefits of financial literacy, and look at seven ways you can boost your financial literacy awareness.
1. Understand Your Income and Expenses
To be financially aware, the first thing you need to do is be mindful of your own income and expenses. Here are some things you can do to get a handle on your current financial situation:
- Identify and track all your sources of income – If you are a salaried person, your income might not be limited to just a salary. Similarly, if you are a business owner, your income might not be limited to profits. Take into account any bonuses you earn, interest you receive from savings accounts and fixed deposits, dividends from stocks, rental income, or any other resources. This will give you a clearer picture of the money coming into your house every month.
- Identify and track all your expenses – Broadly speaking, expenses are of two types – essential expenses, and non-essential expenses. Essential expenses are also called needs, and they include your rent, mortgage, groceries, electricity and water bills, and other expenses you cannot do without. Non-essential expenses are also called wants, and they cover things like ordering food, dining out, hobbies, and entertainment.
For a thorough assessment of your financial situation, you can also consider your assets and liabilities. Assets include your savings, investments, properties, vehicles, jewellery, etc. Basically, assets constitute everything you own. Liabilities, on the other hand, include all that you owe. This includes home loans, education loans, credit card bills, or any other kind of debt you need to pay. Subtracting your total liabilities from your total assets will make you aware of your net worth.
This metric is great at telling you where you currently stand financially and helps you plan how to get where you want to be. It’s a good idea to track your net worth regularly, as it allows you to monitor your financial progress over time. For example, if your net worth is increasing, it means you’re on the right track. On the other hand, if you notice a decline in your net worth, it means something is off, and you should reassess your spending habits, investment strategies, or debt management techniques.
2. Create a Budget
Now that you have a clear understanding of your income and expenses, it’s time to learn how to budget. Budgeting will help you keep track of your income and expenses, and with its help, you can make sure you don’t spend more than you earn. One of the most popular ways to create a budget is by following the 50/30/20 rule. The rule is simple – 50% of your income should be used to meet your essential expenses and 30% can be used to cover non-essential spending. The remaining 20% is the amount of income you should aim to save.
This structure allows you to meet your needs comfortably and save a healthy amount without having to sacrifice your quality of life. Here are some tips for successful budgeting:
- Everyone has a unique financial situation. While the 50/30/20 rule is a helpful guideline, it is just that – a guideline. It’s important to tailor your budget to fit your needs and circumstances. As your income increases, you can shift to a structure that resembles the 50/30/20 rule.
- The non-essential category of your budget will help you identify areas where you can cut expenses. This must be done carefully, as making too many cuts can negatively impact your lifestyle can lead to burnout. If you stay realistic, you’ll be able to stick to your budget.
- Savings should be a priority. As Warren Buffett says, ”Do not save what is left after spending, but spend what is left after saving.” The conventional thinking around savings was that they are whatever income is left after spending. But when you prioritise your savings, you are making a decision to make your future better.
- If you have debt, paying it off as soon as possible should also be a priority. The sooner you pay it off, the more you will save in interest.
- Expenses are not set in stone. Circumstances arise when we have to spend more than our budget allows. To deal with these expenses, it’s important to create a separate account, called the emergency fund. This fund is used to cover unexpected expenses such as car repairs and medical bills.
- Impulses should be controlled. One of the biggest reasons why people go above their budget is because they make unnecessary purchases without thinking about the bigger financial picture. It takes true discipline to overcome this instant gratification, so it’s crucial to practise self-control and give oneself time to kick this bad habit.
- Keep tracking your budgeting progress. As your financial situation changes, you should adjust your budget to stay on track with your financial goals.
3. Educate Yourself About Financial Literacy
Financial literacy means understanding the basics of money management. It includes personal finance areas such as budgeting, saving, investing, family wealth planning, and making informed financial decisions, as well as broader concepts like inflation, interest rates, tax laws, and market fluctuations. It’s important to be well-versed in this art because it gives you more control over your finances and prevents you from making uninformed decisions, like investing blunders. It will also help you avoid debt traps and build wealth over time.
Here are some ways you can boost your financial literacy:
- Read books written by well-respected finance experts, such as Dave Ramsey and Suze Orman.
- Regularly read finance-related blogs. You’re taking a step towards increasing your financial literacy right now!
- Keep up with market-related news because it will give you insights into trends, financial risks, and other things that can affect your personal finances. It will also enable you to identify new investment opportunities or help you understand when it would be wise to pull out of certain investments.
- You can also take online courses offered by reputable education platforms like Coursera to learn at your own pace.
- Lastly, talking to experts yourself is one of the most effective ways to learn. Financial advisors have a wealth of knowledge and can help you understand financial concepts better as they take your personal situation into account.
It’s important to make learning a habit because financial literacy is not a one and done thing but rather an ongoing process. Start slow and as you get more comfortable and informed, you will want to dive deeper into more complex financial topics.
4. Set Financial Goals
Financial goals give direction to your journey. Financial goals are broadly divided into three categories – short-term goals, such as building an emergency fund and saving for a family vacation, mid-term goals like buying a dream home, and long-term goals, such as building a retirement corpus. The clearer your financial goals, the more focused and purposeful your financial decisions will be. One way to make goals well-defined is through the SMART goal setting criteria.
Let’s take a look at an example to see how it works. Suppose Ramesh wants to buy a car priced at Rs. 10 lakh next year. Here is how he can define his goal – “I aim to buy a Tata Punch priced at Rs. 10 lakh after 12 months. To do so I’ll save Rs. 3 lakh as a down payment, and finance the rest through a loan.” Here is how this goal is considered SMART:
- Specific – Ramesh wants to buy Tata Punch at Rs. 10 lakh next year. He’ll pay Rs. 3,00,00 as a down payment and take a loan for the rest.
- Measurable – Ramesh needs to save Rs. 25,000 each month (Rs. 3,00,000/12).
- Attainable – This indicates whether the goal is realistic given Ramesh’s financial situation. If Ramesh can save Rs. 25,000 every month for the next year, it is attainable. Otherwise, he may have to either increase the time frame of the goal or aim for a lower down payment. He must also consider the EMIs he’ll need to pay over the following years to make sure that his overall budget stays sustainable.
- Relevant – This factor ensures that the financial goal aligns with Ramesh’s overall financial plans and priorities. Since he is in desperate need of a car, this goal is relevant. Suppose he wanted to buy this car ‘just because’, it might not be as relevant to his overall financial well-being.
- Time bound – By giving himself a deadline of 12 months, Ramesh has made this goal time bound.
While setting financial goals, it’s also important to prioritise them. We all work towards multiple things at a time, but our immediate focus should be on things that are time-sensitive or the most important to us.
5. Monitor and Review Your Credit Score
WHen you apply to take a loan, banks check your credit score. This score tells banks about your credit history and thus represents your creditworthiness. Banks analyse it to see your ability to repay debt, how you manage credit, and how well you meet financial obligations. Based on this score, banks evaluate how much risk they would be taking by giving you a loan. The higher your CIBIL score, the lower the risk is for the lender. This means maintaining a higher credit score will get you loans more easily. Other than this, there are several benefits of a good credit score:
- Lenders will offer you lower interest rates compared to others.
- You’ll increase your chances of getting pre-approved loans.
- You’ll get approval for a higher credit limit and loan amount.
- Banks will offer you premium credit cards, which come with a range of benefits and features such as better travel rewards and cashback offers.
- You may be even offered a longer loan repayment tenure.
As you can see there are many benefits to having a good CIBIL score. If you want to improve your creditworthiness, here are some things you can do:
- Pay your credit card dues and your loan EMIs on time. This is one of the biggest factors that determines how high one’s credit score is.
- Check your credit report for errors and discrepancies. If you find any, immediately report them to your bank as inaccuracies may be lowering your credit score.
- Keep your credit utilisation ratio low. This ratio tells lenders about how much credit you are using compared to the amount available to you. Generally, a 30% credit utilisation ratio is considered good.
- If you have too many open loan inquiries, the lenders may look at this as a red flag because it signals that you are in desperate need of a loan. This can hurt your credit score and make lenders wary of approving your application. Avoid having too many applications.
6. Invest Wisely
Your financial goals give you direction, budgeting and savings make managing your finances more disciplined, and investing is what helps you realise your long-term financial dreams. Investing also happens to be one of the areas of personal finance where people tend to make the most mistakes. They chase trends, fail to diversify, and react emotionally to market fluctuations. The biggest mistake people make with investing, however, is that they think of it as something that can make them rich overnight. While the stock market does present that potential, a sudden explosion of your portfolio’s value is a rare event.
Most people tend to lose money when they seek quick gains. It is important to remember that successful investing requires time, patience, and a well thought out strategy. Here are some things you can consider for better investing:
- Analyse how much risk you can take – Different investors have different risk tolerance. How much risk one can take depends on one’s personal preferences and financial situation. To understand your risk tolerance you can consider how much risk you can handle without feeling stressed and what your financial situation can support.
- Diversify – Diversification is the process of spreading investments across different asset classes and industries. This process reduces risk because if one investment fails or performs poorly, others can perform better and balance your portfolio.
- Be patient – Investing with a long-term view works best because you allow your money to harness the power of compounding interest. The effects of compounding interest are most apparent over a long period.
- Plan for taxes – Taxes can take a huge bite out of your returns, so it’s important to incorporate tax planning into your investment strategy.
- Be disciplined – Invest regularly. One of the best ways to instil investing discipline is by investing through SIPs (Systematic Investment Plans). With an SIP, a predetermined amount gets automatically deducted from your linked bank account on a predetermined date and gets invested into a mutual fund.
- Start early – The importance of starting early cannot be stressed enough. This allows your money to work for you longer and leads to greater wealth accumulation.
- Regularly review your portfolio – Your financial situation and market conditions are dynamic. By reviewing your portfolio regularly you can make sure your investments stay aligned with your investment horizon, financial goals, and risk tolerance, and can make any necessary readjustments.
- Don’t hesitate to consult with an investment advisor – An expert can give you personalised and unbiased advice, and help you understand the complex world of investing. They can help you avoid common mistakes, save taxes, minimise risks, and monitor your portfolio to ensure everything stays aligned with your financial goals.
7. Plan for Retirement
After a life of hard work, retirement gives us the opportunity to enjoy the fruits of our labour, to pursue passions and hobbies that took a backseat during our working years, and spend time with family and friends. Of course, no parent would want to be a burden on their children, so planning for a peaceful and comfortable retirement is vital.
Retirement planning is the part of financial planning that helps you ensure a stable and comfortable future after you stop working. It includes setting aside funds, investing wisely, and creating a strategy to cover your expenses and maintain the lifestyle you desire during your retirement.
Even if you are someone who’s just beginning their career, starting to plan for retirement early can be highly beneficial. This not only gives you money more time to grow but also allows you to take more risks with your investment. For example, a younger individual can invest in equity instruments like stocks or equity mutual funds, and earn higher returns over the long term. This is because time allows their investments to weather market fluctuations and recover from short-term volatility. On the other hand, an older individual wouldn’t be able to take as much risk and would look to preserve his capital by investing in low-risk instruments such as bonds and liquid funds.
Conclusion
Finances are a huge part of our lives that dictate our ability to achieve goals, maintain stability, and enjoy a stress-free life. Badly managed finances even lead to poor health, increased stress, and strained relationships. With financial literacy awareness, you can gain the knowledge and skills needed to manage your finances better, avoid common mistakes, and make informed decisions. A financial advisor can give a big boost to your financial literacy by giving you unbiased and personalised advice tailored to your specific situation.
