April 11, 2014

Simplifying Personal Finance

Simplifying Personal Finance
A game of percentages

You check out online forums and discussion panels and people are always asking questions like, ‘How much should I save’, ‘How much can I afford on housing per month with XX income,’ or ‘Should I put forth all effort towards repaying outstanding debt or just make minimum payments.’ Without disclosing specifics about your personal finance information and situation, there is a simpler way to calculate how much you should allocate each month to each specific group of expenses. Let’s talk a little bit about percentages and income proportions.

Housing costs

Rule of thumb has it that 33-35% of your monthly income should go towards housing expenses, whether that mortgage or a rental. This is a little tougher on homeowners when taxes, insurance, small and large maintenance costs, and renovations are factored into this. If you’re paying more than 35% in housing costs and are having trouble making ends meet on other bills, consider additional housing opportunities or test the waters for roommates to move in with you to help split costs.

Transportation

Next to housing, transportation and automotive expenses comprise the second tier of monthly expenses. This not only includes the amount spent on gasoline per month, but also monthly car payments, repairs, maintenance, and insurance. If you don’t drive a car, taxis and bus/train costs is categorized here. A good number to allocate transportation costs is 15%. So if you make $3k per month, $450 of that should go towards all your transportation costs.

Debt Payments

Debt is a wildcard of sorts here. Most people deal with some type of debt, whether that credit card, student loan, car, mortgage or otherwise. The extent of an individual’s debt is all subjective. This means minimum payments will be situational. But for a conservative estimate, 10-15% won’t set you back. While making minimum payments is easiest on your bank account, you should really contribute more to that debt if the interest rate is greater than 10%. If you’re monthly debt payments run much greater than 15%, exploring debt consolidation options to help relieve that pressure is not a bad idea.

Miscellaneous/Living Expenses

Following your fixed monthly bills come the variables. This includes your entertainment, travel, food, clothing, and medical expenses. This should comprise around one-quarter of your monthly bills. Sticking to the same monthly income as was used in the earlier example, $750 for these costs seems like a large chunk of money to be throwing at. But when you consider how many of these expenses go into this amount that putters out quicker than you may think. The money left over that isn’t spent should be diverted into savings.

Savings

Here we go – one of the top personal finance questions. How much should you save? If you’ve followed the paragraph from top to bottom, you’ll find 10% is what you have left over to allocate. This should be the minimum you save. You shouldn’t have to spend the full 35% on housing per month nor spend all 25% on living expenses. This is where saving can get fun. Set personal records for yourself each month on how much you can save without sacrificing living essentials. If all goes to plan, you should be able to save significantly more than $3,000 per year. Again 10% should be the minimum amount you are tucking away into a CD or savings account.

There you have it, breaking down each group of expenses and allocating a proportion of your monthly income to it. Obviously this will largely depend on income and the actual costs of each area will depend on the individual, but this should serve as a formidable baseline of which you can look to-to judge your own spending habits and personal finance situation.

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