Having a rule of thumb to follow in your investing and savings journey may be useful as a guiding light. These general guidelines may be applied by individuals who are just starting out in financial planning as well as those who are in the middle of their careers and do not yet have a comprehensive plan in place. However, keep in mind that there is no such thing as a ‘one-size-fits-all’ solution since these principles only provide a basic guideline and may not always deliver a precise image.
With that in mind, here are ten financial planning ground rules you may follow as you embark on your financial planning journey.
- Pay yourself first
This means that you must save a particular amount of your monthly income before spending it. The rule should be “income less savings equals expenses.” Identify your objectives, estimate the inflation-adjusted money required, and then determine how much you need to save towards these objectives. Following that, ensure that money is sent from your paycheck to your objectives on a monthly basis, and manage your home costs with the remainder.
- How much should you save
- Someone starting a job at the age of 25, for example, can save 10% of their post-tax income. As your revenue grows, raise this percentage to 15%. As you get older and your income and financial responsibilities increase, be sure you’re saving enough for your goals. Save at least 35% of your post-tax income by the time you’re in your 40s.
- 50-20-30 rule
This guideline will assist you in determining how much to save and how much to spend each month. In this case, 50% of your income should go towards living expenditures such as household expenses and groceries; 20% towards savings for your short, medium, and long-term objectives; and 30% towards spending such as outings, meals, and travel. You may adjust the percentages based on your age, circumstances, and so forth.
- 20/4/10 Rule
This guideline assists you in keeping your costs under control while purchasing a new automobile. Here, 20 represents the down payment amount, i.e., you should pay 20% of the automobile price. However, it is preferable to put down as much money as possible. The number four represents the number of years of funding. Although lenders can provide terms of up to 7 years, it is best to limit them to 4 years. The best proportion of your net take-home pay that should go towards vehicle loan EMIs is 10.
- Have an emergency fund
An emergency can occur at any time and requires rapid action. Your emergency fund is not intended to satisfy your long-term goals; rather, it serves as a safety net. Although there is no hard and fast rule for how much emergency cash one needs, 3-6 months’ worth of home costs should serve as one’s emergency corpus.
- How much life insurance you need
Ideally, you should have at least ten times your yearly salary in life insurance. The real need, however, may vary depending on your age, financial aspirations, financial dependents, collected wealth, and so forth. A pure-term insurance plan is the most cost-effective option to get life insurance. A pure-term plan is a low-cost, high-coverage protection plan in which the premium is exclusively dedicated to risk coverage. You will not receive anything if you survive the term of the life insurance policy since there is no savings part of the premium.
- How much to save for retirement
Most financial advisers recommend a retirement corpus of around 20 times your yearly salary. While some argue that 30 times is a better ratio since it accounts for inflation. It provides you with a purpose to go backwards and estimate how much money you’ll need to save from now until you retire. However, before using this guideline, keep two things in mind. For starters, this regulation only takes into account revenue and not costs. Second, it may work better for individuals who will retire in years rather than for those who will retire soon.
- How much home loan to take
Banks and other lenders will not lend an amount on which the EMIs will exceed 45-50% of the borrower’s monthly take-home salary, including any current EMIs on auto or personal loans. The monthly EMI for a house loan should be less than 30% of the monthly income. Ideally, total EMI commitments (home and other loans) should be less than 50% of monthly income. Also, make sure your credit score is at least 750 in order to receive the best rates.
- How much to invest in equity
When it comes to stock investing, it is commonly stated that the ‘100 minus age’ strategy must be used. A 30-year-old should invest 70% of his investible excess in shares and the remainder in debt. Furthermore, as one matures, the allocation to equities should be lowered. Being active in stocks until at least three years before retiring will assist with long-term goals such as retirement.
- How to diversify
To diversify your portfolio, you don’t need more than four to six strategies. If you just have a limited sum to invest, you don’t need to invest in more than one or two programs. Investing in every type of mutual fund will not provide you with the best return or diversity. Have a targeted portfolio that corresponds to your aim, timeframe, and risk profile – this is especially crucial if you are investing a modest amount.