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In this guide we talk about 6 different categories of action that an individual should be actively doing to move through the stages of financial well-being. In summary, If you can get to a stage in life where you have residual income, have paid off any bad loans and have established a contingency fund then we believe you have reached financial stability. The next step from there as you will read below, is to get to a stage where you have started investing wisely. If you can get to a place where your passive income from your investments can cover your living expenses, then in our opinion you have reach an exciting stage of financial in-dependency . This means you does not actually have to work in order to live your day to day life. But this also means that you are limited as to how much you can spend, this is where we go on further to generate enough returns to be totally and really financially free.
So where do we begin?
Budgeting underpins all forms of financial planning and before we even move on to action number 1, we need to know exactly where we stand. We need list all your assets and all your liabilities, all our income and all our expenditure. Once we know this then we can truly move forward.
Nevertheless once this is done, whether you are in debt, living pay cheque to pay cheque, saving regularly, already investing or financially free, this is the post for you. Perhaps I should have made this the first stage!!
Let's go!
1. Increase Income
You may have come across the fact that there are 3 types of income. Earned Income, passive income and portfolio income. We talk more about passive & portfolio income below in the investing wisely section. Earned income is for most people their primary source of income and this involves trading time for money. Having a job for example where you give up 35 to 40 hours a week for a monthly salary. To increase your income in this aspect, this is what I suggest. Increase your earnings potential by becoming more VALUABLE, because ultimately people exchange money for value and its no different in the working force.
Example:
Professional qualifications - You can do this by taking professional exams that may qualify you to do certain things. for example, I have worked in the investment management industry and so i took recognized qualification called the IMC which gave me a level 4 qualification. This thus allowed me to take on certain regulated roles which I wouldn't have been able to do without it.
Self Education - Also very important. Learning other skills that may or may not be directly required by your role, but really makes you more valuable. For example, finding ways to improve your soft skills, or perhaps becoming competent using a specific type of software. In the ever growing technological world where there is a huge focus on efficiency, having tech type skills such building macros and/or coding can shoot your potential salary by 20% in my personal opinion.
Get a new job - If you are underpaid, consider taking a leap of faith by looking for a new role that will pay you according to the VALUE you bring to the organisation. Never ever undervalue or underestimate yourself.
Get an additional job - For some people this is a good option to consider for the short term, for example if you are in debt, and/or you are struggling to have any residual income left at the end of the month. We talk about paying off debt and creating an emergency fund further below. Getting an addition job in the short run could speed up this process.
2. Reduce Your Expenses
Now we move into the territory that most people do not enjoy talking about or being told to do. CUT BACK. At the beginning of this post we spoke about budgeting, I would advise printing out your last 3 months statements, look to see what goes in and what goes out! Colour code them so you know the things that you are always going to pay for, regardless of whether you are making money or not. These are essentially your necessities. For the things you don't need, use a difference colour, and make an intentional decision to reduce them.
One of the biggest mistakes people make is that when they get a pay rise, so when they 'increase income' they also increase their expenses thus the net difference is still the same. Some even increase their expenses at higher rate than their increase in salary, forgetting the fact that mr tax takes some of that so called increase.
The further you can increase your income and reduce your expenses the higher your residual income. We are now in a position where we can actually save money or use it effectively.
3. Pay off bad debt and create a Contingency fund
So you've increased your income and reduced your expenses such that you have some money saved at the end of the month. You are no longer living pay cheque to pay cheque, month to month. The next step is to really attack that consumer debt. Here I am not referring to student loan or mortgages, but I am referring to that credit card that's has been giving you sleepless nights, that pay day loan that almost caused you depression. PAY THEM OFF. You want to get rid of them as soon as possible and there are many strategies to do this. Depending on how many cards that you have you may want to adopt Dave Ramsey's approach by paying off the lowest first and moving up from there. You can find his Money make over book on the resources page.
Once you've paid off all the bad debt, you should still maintain the increasing income and reducing element such that you still have a residual saving which you can use to save up what we call an emergency fund. Now, I don't like the term emergency so let's call it your contingency fund. This should be at an absolute minimum of 3 months of your total expenses. Remember? the one you colour coordinated as necessities? yes those ones. makes sure you tally it up and have at least 6 MONTHS worth saved up in an account that you do not touch unless you really have to. This is your rainy day fund. If you lost your job tomorrow, this is the account that will fund you until you go back unto your feet. This is the fund that STOP YOU from going back into debt. It is really important. I will challenge you to save up 6 months worth, heck, better a year. Anything above a year becomes too much of an opportunity cost. Meaning you may have been better off taking some investment risk to earn a better return that what the bank will give you!
This moves us nicely into the 4th stage.
4. Invest wisely
Ok, I admit it, this is my favourite part because investments are exciting. At this stage you can say you are financially stable because you have paid off all the bad high interest debt and you have savings in place for any contingencies. Now it's time to make your money work hard for you. We spoke about earned income in the first stages of increasing income. I spoke about this type because it is usually the easiest and more assured way of making money without risk. Now I've called this section investing WISELY on purpose because there is a thought process that needs to go into it. You need to consider your investment objective, your time horizon, meaning how long can you lock you capital away for and lastly how much risk can you can stomach. In other words what is your willingness and the ability to take that risk. You should consider all 5 asset classes, which are equities (stocks & shares), fixed income (bonds), real estate (property), commodities (such as gold) and cash. You also need to think about the type of account you want to use, considering wrappers such as Investment ISA's and pensions accounts in the UK. You can browse our Investment blogs for brilliant and useful guides around investing wisely.
If you need some guidance on how to invest then please book a 1:1 consultation with us, or attend one of our classes/seminars/workshops.
5. Protect your wealth
Imagine if wealth was a house and you spent all these year building a brilliant massive house, and one day a tornado came and whipped it all, now you have NOTHING. That will be tragic right? Well this is where we really need to be intentional in protecting our wealth. Or imagine if you passed away, how would you want your hard earned assets to be distributed? In terms of protecting your wealth, we are talking about protection products such as life assurance and estate planning which protects you against inheritance tax. Once you get to a place of significant wealth, you want to be able to pass on your wealth to your children for example; there are way to do this, like setting up a trust. Other insurance products such as term assurance is also very important when taking out products such as mortgages.
Give us a shout and we can direct you towards a financial adviser who can help you with this.
6. Review & Repeat
This, my friends, is self explanatory. You need to be consistently budgeting and allocating your money effectively. If you have to withdraw from emergency fund, wait sorry, i mean your Contingency fund, then replace it. Put money back.
Golden Nuggets:
Always track your financial position. Look at yourself as how you will look at a business, what does your personal financial statements look like? Your balance sheet, income statement, cash flow statement, cash flow forecast and so on. Carry out a financial health check as often as possible.
'Your personal financial analysis should consider your income and expenditure, assets and liabilities, it is the only way you can really analysis where you stand financially' - Mr Jacques Opoku