Best rules for budgeting
A lot of folks find it difficult to plan their finances. There are a lot of platforms that help people make investments, but how much to invest, where to invest, how to save is still a big question mark. So in today’s newsletter, I’m going to talk about some general rules of thumb for planning and budgeting your finances.
Necessary spending - Investments - Luxury spending
Generally, people get their salaries first. Then they spend their money on necessities (roti-kapda-makaan), then they spend it on luxuries (like movies, eating our, parties etc.), and with whatever is left, they invest. And that precisely, is the wrong approach.
A prudent way to plan, is after getting your income (or salary), you first spend on the necessities like rent, grocery, commute etc., then you invest your money, and only after that, do you spend on luxuries such as movies, fancy dinners and the rest. Practically, this means setting up your SIP or other investment dates in the beginning of the month. And stretch yourself a little on your investment amount. If your account is low on balance, you automatically won’t have money to spend on luxuries. And it’s always better to have your account depleted by spending on investments rather than on luxuries (although a bank account should ideally never be depleted).
This is a golden rule when it comes to budgeting. It outlines the ratio which your necessary spends, investments and luxury spends should follow. It’s fairly simple:
AT MOST 50% of your income should go towards necessary spends. If your necessary spends are higher than 50% of your income, this means you need to get a higher paying job, or you need another source of income (but make sure going to movies is not classified as a necessary spend :p)
AT LEAST 20% of your income should be invested. Higher the better.
AT MOST 30% of your income should go towards luxury spending. If your luxury spends are crossing 30% of your income, you need to cut down on a few parties, dinners, movies or handbags :)
This rule tells us what proportion of our money should be invested in equity and other instruments. Again, very simple:
The percentage of your investment that should be invested in equity = 100 minus Your Age.
Therefore, if you’re 30 years old and are planning to do an SIP of Rs. 10,000 every month, you should invest roughly 7,000 in an Equity Mutual Fund, and the rest can be in debt or any other product.
The logic behind this is that the lesser your age, the more risk you can take. So with age, your equity proportion should come down.
Again, this is just a general rule of thumb. If you’re 30 years old, you could do 60% in equity or even 80% in equity, depending on your risk appetite. The 100-age rule just gives you a rough estimate.
Well, that’s all for today. Hopefully these 3 Personal Finance planning tips help you start and/or maintain your money management journey well!
Till then, make sure you share this newsletter with friends and family to help them understand the nuances of Personal Finance!