Tuesday, September 4, 2012

Getting Effective Personal Financial Education

Getting Effective Personal Financial Education

An investment in knowledge always pays the best interest.
Benjamin Franklin

According to Wikipedia, financial literacy is the ability to understand finance. More specifically, it refers to the set of skills and knowledge that allows an individual to make informed and effective decisions through their understanding of finances.

It implies that you have to get financial education by studying   financial information, understand it, do it and obtain valuable experience. You are likely to make financial mistakes along the way but you will be wiser. 

There are three stages in life to learn about relevant financial issues: 

At home:

Financial education starts at home for the kids.

Savings: It is the best time to educate your child about savings and how your money grows with compound interest.  It is also a good thing to talk about the simple rule of 72 (the time needed to double your money with a fixed annual interest rate. At 6% you will double your money in 12 years - 72/6) in relation to savings. Take the opportunity to talk about save-and-buy-later for a big ticket item when he or she is about to buy an expensive item like a laptop or an electronic dictionary. To save and buy later is a concept on effective use of money and avoid paying more on interest and getting into debt.        

In school:

In secondary school:

Education loan: When your child is about to enter college, polytechnic or university, it is also a good time to talk about student loan.  Getting a loan to pursue  tertiary education is not the best option. Think about it, before you get a job you are already in debt and there will be more debt to incur like car loan and mortgage. It is good to obtain a degree but there is no assurance that you will get a decent job of your choice or a job at all upon graduation.  

Higher education:

Debit cards: It is good for you to a have a debit card to gain knowledge and valuable experience of using plastic cards. The card is tie to your saving accounts and each time when the card is used the amount is deducted accordingly from the account. There is no way to spend more than what you have in your savings account.     

As a young adult:

Needs and wants: Landing on your first job after graduation is a great achievement. Getting your first pay check is a delightful thing and you are thinking of buying so many things. So it is time to learn about wants and needs, budget and living within your means. Needs are essential and wants are optional and you can go without.  A budget is a way to control spending so that it is less than what you have earned and there is still money left over every month to save for a rainy day.   

Good debt and bad debt: It is also important to learn about good debt and bad debt. Getting into debt to buy what you want is bad but getting a mortgage to buy your first house is OK because a house appreciates in value over time.  Getting a car loan is bad but how many of you can buy a car in cash? A car depreciates greatly in the first two years.  The outstanding loan may be more than the value of your car.

Credit cards: You will also acquire your first credit card.  It is crucial to know the danger of bankruptcy relating to young people and credit cards. Wise use of credit cards is about applying the knowledge of wants and needs, following your budget faithfully and paying the outstanding amount fully and promptly. The most important thing about credit card usage is for convenience and not to obtain credit and get into unmanageable debt.

Credit worthiness: Smart use of your credit cards is an excellent way to establish your credit worthiness. The key is paying the amount in full when you receive the monthly statement from the card issuer. It tells the financial institution that you are a financially responsible person. You are in good financial standing to grant credit because you pay promptly.

Net worth, assets and liabilities: Next you will learn more about your net worth, assets and liabilities. Your net worth is what you own less what you owe.  Let’s look at an example and simplify the issue for education purpose. One of your valuable assets is your house. It is worth, say 200,000. Does it mean that you own an asset with a value of $200,000? No, because you have taken a mortgage and you still owe the bank say, $100,000 (which is a liability) and if you sell the property you only get 100,000 after paying the bank off. So your net worth for your house is only $100,000.

Emergency fund: It is important to incorporate an amount for savings into your budget because if you are thinking of saving what is left, there will be nothing left.  One important thing about life is to save for major unexpected expenses such as car repairs, medical bills and the like. That is why it is called an emergency fund.

Car loan, mortgage, marriage and family: It is also timely to plan for the down-payment for your first car and your home. Think also about money you need to get married and start a family of your own. 

Insurance: The subject of insurance is vital for financial education. Learn to leverage on insurance to reduce the impact of personal disability due to sickness and accident. You also need to cover perils such as fire, flood and theft against damages done to your property.      

Tax: Tax is one thing you cannot ignore. Learn to take advantage of tax deductions to reduce your tax liability.  

Investment: How do you get money for investment? It is from your savings accumulated over time. You have to learn the different vehicles to invest such as stocks and shares, unit trusts, bonds, gold and property.
Retirement and children’s education: You invest with a major purpose. It is for your retirement when you are no longer working and there is no regular income. It is also essential to grow your wealth to meet your children’s education needs. It is always prudent to start early to save and invest for your future because a smaller amount is needed to get started.    

Wills: The last thing to know is the creation of wills to distribute your wealth according to your wishes in a hassle- free way when you are no longer around.

Financial education is a lifelong learning process. The most important thing is to avoid gambling and get rich quick schemes. The ultimate aim of personal finance is financial freedom.

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1 comment:

  1. Gaining financial literacy is definitely a lifelong process, and I believe parents need to be very involved. I like sites such as http://www.bankaroo.com--they let me work with my kids to set goals and track funds. Because technology is increasingly a part of finance, I think using the site is a more modern way to educate on the basics.


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