How to Manage Money Smartly?
How to manage money seems like a universal question that most people ask at some point of time in their lives. More than being a question, this is a skill you must be savvy with.
However, most people do not have a framework to save and invest money effectively. Even those with marketable earning skills lack the habits and knowledge required to make their money grow.
Perhaps one reason for this deficit is the lack of exposure to money management skills during the formative years in schools and colleges. Well, it’s never too late to start this journey and learn how to manage your money efficiently and achieve all of your financial and life goals. Continue reading to learn more about how to manage money smartly.
Why is Financial Planning Important?
Life can be pretty uncertain, as demonstrated by the onset of events like the pandemic, consequent recession, inflation, war, and other world events. However, research indicates that those who are best prepared to face all eventualities have built a financial cushion.
Financial planning encompasses all actions taken to apply general management principles to your financial resources. It includes planning, organising, procuring funds, investing, etc.
Learning how to manage money smartly is not a difficult task. Taking small steps every day and inculcating certain habits on a daily and monthly basis can help you grow your nest eggs. People who save and invest regularly, irrespective of the size of their income, are best geared to be financially resilient in difficult times.
Financial planning is essential for the following reasons:
- Guarded retirement plan
- Better income management
- Security from inflation
- Improved flow of cash
- Informed investment decisions
- Ability to fulfil unforeseen financial emergencies
Now that you have a fair idea about what financial planning is and why it is essential, it’s time to learn the steps to manage money smartly.
8 Steps on How to Manage Money
Financial planning is all about building skills and habits of saving, which can make it an enjoyable, exciting journey and not an overwhelming one. We have curated 8 key steps on how to manage your finances, which are as follows:
1. Set your goals
The first step in this journey is to outline a mix of short-term, mid-term, and long-term goals, just as you would when building a business. Without having a target in mind, it is difficult to achieve any outcomes. The same is the case with managing finances. If you don’t have a blueprint of what you’re going to do with your finances, you’ll stumble on your way to managing the same. Hence, this is the starting point for how to manage money effectively.
Short-term goals typically have a time horizon of up to three years. Goals can include everything from buying a medical insurance policy for you and your family to buying a car, planning a vacation, etc. Investment options for those looking to achieve short-term goals include fixed deposits (FDs), debt mutual funds, bonds, and monthly income schemes (MISs) within a one to three-year investment time frame. These investments come with low risk and mostly guaranteed returns.
The time horizon for medium-term goals typically stretches from three to five years. Goals can include planning for your child’s education, buying a house, or even starting a business. Since the investment horizon is much longer, you can look at investing in instruments such as fixed maturity plans, hybrid mutual funds, bonds with a three to five-year maturity time frame, as well as blue chip stocks, which come with less risk but high potential returns.
Long-term goals have a time frame of more than five years. These can include retirement planning, investing capital in a promising business, and funding children’s college education or weddings. These days, consumers are looking to become financially free, which means that their investment income should exceed their earned income. This allows them to retire early, but continue working should they choose to without any obligation. Investments that lead to long-term wealth creation are investing in the stock market, equity mutual funds, the National Pension Scheme (NPS), the Public Provident Fund (PPF), and a mix of large, medium, and small-cap funds.
2. Open a savings account
Opening and utilising a savings account smartly helps you manage all the transactions—from receiving a salary and other sources of income to making investments in various instruments—under one roof.
Moreover, a savings bank account with a good national or private bank is often the key to unlocking a world of financial benefits. A net banking-enabled savings bank account, for instance, allows you to make FDs, and invest in SIPs, PPFs, and bonds, among a plethora of other financial instruments of your choice right from your mobile phone. When you have access to a large pool of investment vehicles on your smartphone, making the investment becomes easier and more likely.
3. Build an emergency fund
Before one starts the investment journey, it is important to build an emergency fund. This step is geared toward how to manage personal finances in a crisis. An emergency fund typically comprises three to 24 months of living expenses.
Crises can be characterised by emergency hospitalisation, loss of income due to job loss, home repairs, and emergency travel, among others. One month of living expenses includes all the basic necessities such as rent, cost of utilities, transportation, food, groceries, and debt repayments. In the event of a crisis, you can depend on the emergency fund instead of breaking investments.
4. Investing based on your risk profile
Just as you work to earn money, your money starts working for you when you make the right investments. However, unlike your active income, which stops when you take a vacation or go to sleep, your investments continue working for you. Investments never take a vacation. Based on your risk profile, start making investments every month.
This habit of making informed investing decisions and making investments builds a consistent pool of money that you can access going forward. As your investments compound, your wealth will keep growing, and you will also feel more motivated to continue the investment journey.
5. Diversify your portfolio
A basic rule for building any investment portfolio is that it must be risk-diversified. This means investing in a mix of equity-based, debt-based, and hybrid investments that balances your portfolio and safeguard against any market downturn.
You should also consider investing in gold-based assets to hedge against inflation such as gold SGBs. It is also a good idea to have a mix of assets offered by private companies as well as those that come with a sovereign guarantee by the government.
6. Use tax-saving investment instruments
A key aspect of how to manage money better is to focus on tax efficiency:
- You can get up to INR 1.5 lakh of tax deductions under Section 80C of the Income Tax Act, 1961 by investing in instruments such as PPF, post office savings, National Savings Certificates (NSC), five-year fixed deposits, and Equity Linked Savings Schemes (ELSS).
- You can get an additional deduction of INR 50,000 under Section 80CCD of the Income Tax Act, 1961 by investing in the National Pension Scheme.
- You can get a deduction of INR 25,000 under Section 80CCD of the Income Tax Act, 1961 by buying medical insurance for yourself, your parents, spouse, and children.
7. Look for a passive income source
Besides making investments, you can also earn passive income. One of the great ways to generate passive income is by monetizing a piece of real estate lying vacant. Just ensure that the space is well-maintained and that appropriate agreements are signed so that there is no room for dispute. Maintenance ensures that its value appreciates with time; you can get a higher value during a property sale in the future if your property is well-maintained.
8. Avoid debt
Going into debt reduces your net worth due to compounding interest, which sometimes can grow more than the initial principal. Make it a priority to pay off debt at the earliest. Also, be cautious when taking a personal loan or withdrawing cash from your credit card, as they come with high-interest rates. If you use a credit card, always ensure to pay your bill on time and choose cards that offer benefits in terms of rewards, cashback, and other perks like travel miles to save as much as possible.
Do you Know the Difference Between Saving and Investing?
Consumers often accumulate savings in their savings bank accounts or keep physical cash/assets in their homes. However, money not invested does not compound and earn any interest (or very little interest), dividends, or capital gains. This limits your potential to create long-term wealth and lengthens the journey towards financial freedom.
One of the top lessons on how to manage money better is to realise that saving and investing are different. Savings, either in cash, assets or FDs, have virtually no risk but earn very less interest or generate income. Investing, albeit it comes with variable risks, is incubating money to multiply it at a higher rate by harnessing informed decisions and strategically investing it via various financial vehicles.
For instance, you can start your investment journey by investing a small amount every month. Dabble with the idea of investing in a Systematic Investment Plan (SIP), where you invest an amount as low as INR 500 each month and watch it compound and grow.
How to manage my money smartly is a question that a growing number of people are asking. By following these steps mentioned in the article systematically, you can accelerate your financial planning journey and meet all your financial goals within the relevant time horizon.
Wint Wealth’s comprehensive financial instruments platform offers you lucrative investment options, with end-to-end information under one roof, so that you can make the best investment decisions.
What is the 50-30-20 rule for managing money?
50% must be spent on essential needs, 30% on wants, and 20% on savings and investing.
What are the five principles of money management?
They consist of listing your goals, building an emergency fund, starting investing, investing in tax-saving instruments, and avoiding debt.
What is the risk-return tradeoff in investing?
This famous investment principle indicates that if you take more risk, the higher the potential reward. However, you must do due diligence before investing in high-risk investments.
How can I start making a passive income with little money?
Investing is also considered a source of passive income. You can start by investing as low as INR 500. Another approach is renting a property or a room in your home for rental income.
What is an emergency fund?
This fund comprises 3 to 24 months of living expenses that you can depend on during a crisis instead of breaking investments.