What Does Financial Literacy Mean? 12 Principles You Can’t Miss
Updated: Aug 18, 2020
Everyday, we need to manage our money from paying our home rent to paying a lunch bill. However, we are seldom taught about how to manage our money smart. In other words, many people are not sound in financial literacy.
Financial literacy is the ability to understand and effectively apply various financial skills, including personal financial management, budgeting, and investing. It helps us to make financially responsible decisions, which are integral to our everyday lives.
12 Principles of Personal Financial Literacy
Jump$tart Coalition, an U.S. non-profit organization promoting financial literacy education, published 12 Principles of Personal Financial Literacy which are the great foundation in personal finance that everyone needs to know –
Understand your net income – Know how much money you bring home after all deductions, such as taxes and insurance. This is the money you have to spend on needs and wants.
Pay yourself first – Before you spend your paycheck, put money toward your goals, whether savings, retirement, or investments; always pay yourself first.
Recognize the time value of money – The sooner you start saving, the more money you’ll have in the future. Every day that you waste not saving is like throwing money out the window.
Know your interest rates – Don’t assume all bank accounts are created equal. Compare APYs* from various banks to get the most bang for your buck.
Don’t spend what you can’t repay – Don’t rely on credit cards and loans to pay your way. If you can’t pay cash or you can’t afford to pay the balance charged off in full, you shouldn’t be spending it.
Live on a budget – A budget is like a map for your money. Don’t just guess what you have to spend and where it needs to go. Have a plan and review it annually.
Know the ‘Rule of 72’ – If you want to know how fast your money will double, take 72 divided by the APY*. For example, a 5% APY would take 14.4 years to double your money.
You must take risks to earn high returns – Earning high returns means taking a risk. How much risk you take depends on your own tolerance. It’s important to diversify your risks, though, by having your money invested in both high-risk and low-risk investments.
No returns are guaranteed – Don’t fall for advertising tactics that promise guaranteed returns. No returns are 100% foolproof. If someone promises a guarantee, it’s likely a scam.
Know your goals – Write your goals down and figure out a strategic plan to reach them. Set deadlines, dollar amounts, and ways to achieve your goals.
Use your credit wisely – Your credit score is a reflection of your credit past, however, it affects your financial future. Poor financial decisions in the past will make it hard to get financing in the future.
Have insurance – Always carry insurance to cover your health, accidents, and assets. Review your insurance needs periodically and always ensure that you carry enough insurance to minimize your risk of a complete loss.
*The annual percentage yield (APY) is the real rate of return earned on a savings deposit or investment taking into account the effect of compounding interest.
Next, we go into the discussion of financial planning and the steps on financial planning.
Financial planning encompasses a large number of actions. It includes budgeting, but also planning, saving, analyzing your current financial status, and creating strategies to achieve your goals.
It’s not a step anyone should take lightly as it affects you now and for the rest of your life. Having proper personal financial principles will help you achieve financial success moving forward.
The Financial Planning Process
The financial planning process is a delicate one. It involves several steps, each of which involves your own participation as well as that of your chosen financial professional.
The more honest you are with yourself and (or) your financial planner, the better you’ll be able to execute your chosen strategies.
Use the following steps when creating your financial plan^:
1. Assess your current financial situation
Grab your most recent bank statements, credit card statements, and asset statements. Look closely at your liabilities, income, and your net worth.
Together with your financial planner, assess where you stand financially, deciding what you may need to change immediately to ensure a positive financial future.
2. Set your financial goals
Now it’s time to look at your future. What do you want out of your finances? What financial goals do you have for the short-term, mid-term, and long-term?
Short-term goals are those you can accomplish in the next year or two. Mid-term goals are those you achieve within the next five years and long-term goals are those beyond five years (think retirement).
3. Set strategies to meet your financial goals
Once you know what you want to achieve, it’s time to figure out how to achieve it. You or your financial professional will work closely with you to set your current budget, investments, and savings strategies to help you reach those goals.
4. Implementing your strategies
The final step is implementing your strategies. Now that you have them down on paper, it’s time to put them into action. Your financial planner will help you determine how to implement the steps slowly so as not to overwhelm you.
You’ll also set up checkpoints to determine how well you’re meeting your goals, what you may need to adjust and how.
^ With reference to Certified Financial Planner (CFP), a CFP should go through 7 steps in the financial planning process and we exclude the following steps i) data collection, ii) goal alignment, and iii) presenting financial recommendations, which are the jobs performed by financial planner.
Find a Trusted Financial Professional
Putting it all together – you need a financial professional to see you through your financial present and future. Having someone that can put together a proper plan of personal financial principals, help you implement it, and then follow up for you is the secret to financial success.
Managing your finances yourself can get overwhelming and subjective. You may let your wants cloud your judgment or you may make rash decisions out of fear.
Let a professional financial advisor help guide you to the right choices. A neutral third party with plenty of experience and knowledge can help you see the big picture and understand how to stay the course to reach your goals.
The financial planning process can seem overwhelming at first, but when you break it down, it’s a simple process. Having someone by your side helping you oversee the process and ensure that you stay the path is important. Just as important is making adjustments along the way.
Knowing where you stand in meeting your goals and what you can change to get there faster is the key to good financial health. Get the help you need to plan your financial future and the rest will fall into place.
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