December 11, 2024

What is Personal Finance? Importance and Tips

As the old saying goes, money can’t buy happiness — but it’s much easier to feel healthy and happy when you can meet your financial obligations. That’s where personal finance comes in.

Knowing what personal finance is can help you keep your money in check and handle everything that comes your way. It encompasses the most important aspects of your financial life, like saving and planning for future goals, more mundane activities like buying groceries and paying bills, and managing and reducing debt.

Here’s how to form a basic financial plan and build a solid foundation for your future.

What is personal finance, and why is it important?

Personal finance is the act of managing your money — from paying bills on time to opening investment accounts. It’s a broad term, and while it’s about staying organized and aware with your money, it also has emotional weight. What you do with your money impacts your life in huge ways.

Let’s say you dream of getting an apartment of your own or buying your first home. Maybe you want to further your education or pay off your existing student loans. Whatever your goals are, accurate and consistent personal financial planning can help you achieve them. Tools like Earnin’s mortgage loan calculator or auto loan payoff calculator can help you visualize your financial journey and make informed decisions.

Personal finance can also help you feel more confident day-to-day. By understanding things like budgeting and investing, you can establish healthy money habits, keep debt to a minimum, and grow a nest egg — all of which leaves you feeling in control of your finances. You can also remain calm and resilient in the face of life’s uncertainties, knowing you can handle setbacks like layoffs, unexpected car repairs, and even medical emergencies.

6 key areas of personal finance

No matter your situation, your personal financial plans will likely depend on these key components:

1. Income

Income is the foundation of your personal finances. It refers to any money you earn from various sources, including wages, bonuses, and investments. Understanding your income streams — both their stability and growth potential — helps you gauge what you have and how to plan accordingly.

2. Spending

Managing your spending involves tracking your expenses as well as distinguishing between needs and wants. You might find you’re spending more than you thought in certain categories, like shopping and going out.

By practicing mindful spending and avoiding unnecessary purchases, you help your income cover costs and align with your financial goals.

3. Saving

Saving involves setting aside a portion of your income for future use or emergencies. It’s arguably the most important part of personal finance because it sets you up for success in so many areas.

Establishing an emergency fund — typically equivalent to a few months’ worth of living expenses — provides you with a financial safety net in case of surprise expenses. And saving for specific goals, like homeownership, education, or retirement, allows you to progress toward your most important life plans.

4. Investing

Investing involves putting money into assets to generate more money over time. Common investment vehicles include stocks, mutual funds, and retirement accounts like 401(k)s and IRAs. But it could also include real estate and other purchases that grow in value.

Investing can be complicated, so it’s something to discuss with a financial advisor before diving in. Over time, you’ll want to develop an investment strategy tailored to your individual risk tolerance, time horizon, and financial objectives.

5. Protection

Emergencies are expensive, and getting insurance is the best way to protect yourself from shelling out thousands when the unexpected happens. This includes health insurance, disability insurance, and property insurance, just to name a few. It may seem pricey at first, but including these types of insurance in your financial plan helps prevent major setbacks and save money in the long run.

6. Debt management

As life goes on, you might put debt management on the back burner. But repaying it regularly can keep you from dealing with high interest and unpaid bills.

First, understand different types of debt and how they apply to you, like credit card debt, student loans, and mortgages. Then, you can develop a strategy to pay everything off efficiently. Prioritizing paying high-interest debts, making payments on time, and avoiding unnecessary borrowing, can all help you reduce debt and maintain a good credit score.

12 essential personal finance tips

Learning how to create a financial plan starts with the basics. Here are some of the most important tips to know for your personal finance journey:

1. Live below your means

Practice frugality and avoid lifestyle inflation by living below your means. That means spending less money than you make. While it’s difficult to do when you’re living paycheck to paycheck, saving even $20 a month can add up and help you reach your goals. Focus on needs rather than wants, prioritize value-based spending, and resist the temptation to keep up with others' habits.

2. Pay yourself first

Prioritize saving by putting a portion of your income to savings or investments before shopping or paying the rest of your bills. Automate contributions to retirement accounts or savings accounts to hold yourself accountable.

3. Start saving early

Take advantage of the power of interest by starting to save and invest as early as possible. Interest grows your money over time, also known as compounding — so even small contributions can grow significantly if you’re consistent.

4. Nurture your credit score

When it comes to getting a loan or even renting an apartment, a solid credit score is everything. Maintain a positive credit history by making timely payments, keeping credit card balances low, and avoiding excessive debt. While it’s possible to get a no-credit-check loan or access other options for people with low scores, it’s worth it to bring your score up and show your reliability.

5. Determine your budget (and stick to it!)

Creating a budget to track income and expenses lets you identify areas for saving and spending adjustments. Use budgeting tools or apps to categorize expenses and set limits for discretionary spending.

6. Build an emergency fund

Establish an emergency fund to cover unexpected expenses or financial setbacks, like medical emergencies, job loss, or repairs to your car or home. Have a few months’ worth of living expenses in a readily accessible savings account just in case.

7. Never borrow what you can't repay

Borrow responsibly and avoid accumulating debt beyond your means. Before taking on debt, assess your ability to make timely payments and consider the long-term implications of borrowing. Buying a car with a loan, for example, isn’t worth it if you can’t make the payments. Wait it out and stick to public transport for now.

8. Plan for the future

Set specific financial goals for the short term and long term, like making a big purchase, completely paying off debt, or retiring comfortably. Even smaller goals are worth planning for, like slightly upgrading your apartment or getting a new phone. The point is to work toward something and learn discipline.

Develop a financial plan that outlines strategies to achieve your goals, including saving and investing, debt repayment plans, and risk management. There’s nothing more satisfying than checking a goal off your list.

9. Diversify your investments

Once you’re ready to start an investment portfolio, spread your risk by diversifying across different kinds of investments. You don’t have to build wealth with big real estate purchases or stock shares. Just have at least two methods — like multiple mutual fund accounts that invest in different industries — to keep yourself safe if one fails.

10. Invest in yourself

It’s easy to get caught up in saving every penny. But don’t forget about the most important part of your life — you. If you want to build your career or find a new hobby, don’t forget to continuously invest in your education and personal development. You’ll access better opportunities and make sure you’re a priority in your own life.

11. Review and adjust regularly

Regularly review your financial situation, goals, and progress toward achieving them, and make adjustments as needed. Changes in your income and life circumstances will always happen. Your plan should keep up.

12. Get professional advice when needed

Consider consulting with financial professionals — like financial planners, tax advisors, or investment advisors — for personalized guidance and advice. Every situation is unique, so speaking to someone who knows what you need can help you navigate complex decisions and build your strategy more accurately.

Boost your personal finances with EarnIn

Ready to put these key components of financial planning into action?

The EarnIn app offers the tools and resources you need to manage your finances with extra cash. The Cash Out tool lets you access your paycheck as you work — up to $150 a day and up to $750 every pay period. Take control of your financial journey and download Earnin now.

Please note, the material collected in this post is for informational purposes only and is not intended to be relied upon as or construed as advice regarding any specific circumstances. Nor is it an endorsement of any organization or services.