The topic of personal finance has been on my mind for the last few days.
I’ve been reflecting on how I invest. It hasn’t changed since I wrote Investing, Simply, one year ago. That’s a good thing, because I’ve settled on something that works, and is right for me.
I’ve also spent the last six months getting back to some basic principles for managing money. Eighteen months before that, I was self funding an app and doing a bit of consulting. I was spending more than I was earning, so I wasn’t practicing most of these principles. This changed six months ago, when I joined DIGIT and relocated to Dublin.
I figured it’s a good time to bring together my views on personal finance.
My relationship with money has changed in the last few years. I used to care mostly about being rich. My goals were to have a house worth ‘X’, own fast cars, ‘X’ money in the bank and ‘X’ net worth. Whatever it took.
I was making progress towards my financial goals, but it wasn’t making me happy. I was often stressed and frustrated. I was sacrificing my health and relationships. I panicked and realised I might reach my financial goals, but not make the most out of life.
That said, I still think money is important because it provides freedom. It’s not always obvious, until you need to use it. Some examples include.
- Weathering economic downturns (property or industry crashes, interest rate changes etc.)
- Deciding to take some time out to see the world
- Starting your own business (often requires some type of self funding)
- Unexpectedly losing your job
- Taking an extended period of time away from work (for whatever reason you like)
- Changing career (often requires investment into education and less income in the short-term)
- Being able to help people
- Falling ill and needing to take unpaid leave from work
The above are all situations we might find ourselves in – some of them our decisions, others forced upon us. Being financially secure gives you flexibility to handle them, without worrying about money.
I can deal with all the above. I might get some anxiety about moving backwards, but it won’t break me. That’s a great feeling and it’s available to anyone if you stick to some basic principles for managing money.
Below are the principles I stick to. They work for me, so maybe they can work for you:
Save by Direct Debit
Everyone knows they should do this, but most don’t. Set up a separate bank account for saving. Then, set up a direct debit from your main account into the savings account each month – preferably just after you get paid. It’s amazing how quickly you adjust to live without it.
It doesn’t matter how small it is, do whatever you can afford. What’s important is to build the habit of saving. Because it’s automated, there is no action needed from you each month. It just happens.
It’s motivating to see a cash pot grow. You’ll find it won’t take long before you’re thinking about ways to save more and grow the pot even bigger.
Since getting back to working again, we’re saving 17% of our income. Not quite the 50% I was saving when I was single and living at home rent-free. But, now I have a family, we’re on one income and the cost of living in Dublin is high. So, 17% feels a decent number for now.
A no brainer. A life without debt feels great. If you have debt, make clearing it your top priority. Put every spare bit of cash you have into reducing it.
Even though it’s technically a debt, the only exception for me, would be a mortgage. This is because you’re building equity in a property, which over the long-term appreciates.
I would also suggest saving a small amount by direct debit, even if you have debt. You sacrifice some interest on the debt you choose not to pay off, but you start to build the habit of saving early. It’s well worth the tradeoff.
Know your in’s and out’s
’Run your personal finances like a business’ is a bit of a cheesy saying, but it’s true. You should know your monthly income and expenses down to the penny.
For most people, income is the easy bit, because it’s fairly predictable. Where things tend to get out of control is with outgoings.
I have mine in a spreadsheet. It starts with income, which for me is predictable because I’m on a salary. Next comes rent and utilities (gas, water, tv, broadband etc.) Then, other expenses such as groceries, dog food, petrol etc. Then comes personal spending budgets. What’s left after all that, is saved.
This means I’m rarely surprised. Everything is predictable and I’m able to save a consistent amount each month.
Set a weekly spending budget. Take it out in cash at the beginning of the week
It’s simple, and it works brilliantly. I wrote about it here – Overspending is bad and how to stop it.
Have a cash reserve
After clearing debt, I think building a cash reserve should be the highest priority – 3 months (net) salary, but preferably 6 months. This gives you peace of mind and allows you to deal with any surprises. It also gives you freedom to treat yourself from time to time. All without worrying about where the money is going to come from.
If you have no debt and a cash reserve, you need to start making your money work for you. Most people underestimate the power of compound interest. Play with this compound interest calculator to see what I mean.
As I said at the start, Investing, Simply still reflects my views on investing. I ended up selling the Woodford funds. I now have everything in low fee indexes (half in S&P 500 and half in FTSE all-share) and I max out my ISA allowance. I have a long-term view (10+ years) and plan to keep adding to them as often as I can.
I’m convinced being frugal in your 20’s and 30’s is one of the most important factors to getting into a solid position before you are 40. A frugal attitude = a high savings rate = more savings = more to invest = more wealth. You’d be surprised what you can achieve over a period of 10-15 years. Don’t believe me? See 1500days.com or thinksaveretire.com or mrmoneymustache.com or millennial-revolution.com.
I hate most types of insurance. Premiums keep increasing and insurance companies make it expensive and hard to claim. Feels like a racket to me.
I prefer to self-insure. Instead of having insurance policies, I just draw from a cash reserve when I need to pay for something. Obviously this doesn’t include insurance you have a legal obligation to have (car). Also, if you have a mortgage, I think life insurance for that amount is a smart move.
By the way, I have no idea if this is the best financial approach. I just have this gut feeling that I will be better off dealing with things when they come up. I also hate the process of signing up, renewing and finding competitive quotes etc.
Avoid fast cars
I hate giving this advice, because I love cars. But, I’ve owned a few fast cars and they are a drain. Oddly, I don’t regret them (other than the BMW I bought with a personal loan when I was 20!).
For the last ten years, each car I owned, I have bought outright. I also knew what I was getting into when I bought the fast ones (maintenance and depreciation). They were fun, but they burned a big hole in my pocket.
For the last few years, I’ve got more sensible. I own an 2010 Audi A3 TDI S Line. Looks nice and is super economical. Much smarter.
Some further reading
I’ve read some great books on personal finance in the last few years. Much of it has shaped my current views. Here are some of the main ones:
- The Millionaire Next Door by Thomas J. Stanley Ph.D
- The Simple Path to Wealth by J L Collins
- How to Get Rich by Felix Dennis
- Richest Man in Babylon by George S. Clason
- Think and Grow Rich by Napoleon Hill et al
- I Will Teach You To Be Rich by Ramit Sethi (not read yet, but I suspect it’s very good)
As I warned at the start of this post, the above is simply what is working for me. They fit with my lifestyle, attitude to life and how I think about risk. I tend to be fairly risk adverse, so the above views tend to fit with that.
If you have any questions or different ways of doing things, I would love to hear them.