Let’s talk about personal finance!

When it comes to personal finance, most of us share a common belief. Even if our peers simply waste their earnings on unnecessary things, we seek to be responsible in managing ours. Truth be told, we all spend our hard-earned money, responsibly or irresponsibly, one way or another. Now, it is not the objective of this article to ask anyone to stop spending, rather to talk about how to manage and spend money wisely. 

Let us begin with the 50/30/20 rule. This famous rule simply suggests the allocation of monthly earnings into three categories - needs, wants, and debts or savings. 

Roughly 50 percent of the monthly earning should be allocated for our needs, like housing, food, utility bills, health insurance and medication, education, clothing, and other essentials. The next 30 percent should be dedicated to 'wants' that make our lives enjoyable, like shopping, dining out, vacations, hobbies, etc. Finally, the remaining 20 percent should be kept for savings and/ or debt repayment. 

However, this general rule mostly applies to young adults from developed nations who have certain social securities, like healthcare and retirement benefits. Thus, some adjustments might be needed in our case to compensate for the limited social benefits. 

The first and foremost rule is that always spend less than what you earn. It might sound obvious, but many of us simply fail to do so and resort to credit cards and loans or charity from parents to close the gap. So, to avoid that scenario, we must budget our expenses. 

We should keep the 50/30/20 rule in mind while budgeting and should start by paying ourselves first. Paying ourselves means paying for our survival needs which should be covered by 50 percent of our salary. However, if you are among the lucky ones enjoying free lodging with your parents or living in the family-owned property, the surplus needs-budget should go to the savings section. 

The same goes for the clever people who are able to live below their means and can manage to spend less than 50 percent of their earnings on needs. Be smart and brutal while distinguishing between needs and wants, and prioritize needs only. Send any or all surplus budget from needs to the savings section.

Earning money is pointless unless it adds pleasure to our lives. Thus, it is also important that we spend on our 'wants' that make life enjoyable. However, to ensure that we do not go off track, strict budgeting is essential. Subdivide your 30 percent of the wants-budget in different categories for outdoor meals, extra shopping, trips, gifts, and others. Save enough every month from the wants-budget to finance your annual holiday trip. 

If you do end up spending above the budget in one month, try to compensate for that in the next month. All lifestyle improvements should be accommodated in this budget. Unfortunately, in this era of social media, we constantly compare our lives and living standards with that of our peers. This creates an unhealthy competition, and we keep on boosting our expenses unnecessarily. We must realize that by avoiding this short-term urges, we can ensure better financial stability and comfort in the long run. 

The final 20 percent of the budget falls into the debt or savings category. Repaying debt should always be prioritized over savings since interest paid on debt is generally higher than income received on secure savings. However, that exempts good debts like house mortgage or debt invested in a business. A car loan cannot be considered as a good debt since the car value depreciates over time. So, unless you can pay the car installments from the 'needs and wants' budget, better go for a used car instead of a new one. 

The savings part may be subdivided into emergency savings and savings for the future or retirement. The emergency savings should hold roughly six to twelve months of your living expense for the extreme case of no earnings or health emergencies.

The pace at which you want to grow this emergency fund is up to you, however, it is better to create the emergency fund first and then start saving for the future or retirement. 

Now, saving money alone is not enough for our financial stability, we would have to invest as well. There are a lot of books and lectures available on the internet regarding savings and feel free to browse for the one that suits you best. My suggestion would be a 70/30 approach, which would vary depending on your age and risk appetite. 

If the 70/30 rule is to be followed, 70 percent of the savings budget should go to a low-risk investments, like saving certificates or fixed deposit schemes. Although the return initially seems low for such investments, the wonder of compound interest makes it well worth it in the long run. 

The remaining 30 percent should go to a relatively high-risk area, like stocks. In general, investment in proper stocks should provide a higher yield comparing to the bank-provided interest rates. However, make sure to study and seek advice before investing, and always invest with long-term goals in mind. 

Spending money on education or skills development might also be considered an investment since practical knowledge might boost earning opportunities. 

Overall, having a balanced life is essential. We must dispel the myth that we should try to be happy and satisfied with whatever we have. We must have the drive to improve our present and future life. It's a fact that money does not make us happy, it is how and with whom we spend it that matters the most. So, we should budget carefully and spend wisely for a healthy present and a prosperous future.  

H. Islam is an investment enthusiast and researcher by profession. He can be reached at [email protected].

Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the opinions and views of The Business Standard.