It pays to steer your hard-earned money in the right direction so that it works for you. Here are three simple guidelines that you will put you on top of the savings game. It may take a bit of time, but will be worth the effort.
Create a personal cash-flow statement
A personal cash-flow statement provides a point-in-time snapshot of what income comes into your household from your job and/or any other sources, as well as what you're spending and saving. Only by examining your cash flows can you determine whether your spending and savings patterns align with your long-term goals.
This will help you determine where your money is coming from--and where it’s going. You'll need the following pieces of data to complete it.
- Most recent paycheck. (If your salary is variable, use an average of your pay over the past six to 12 months.)
- Income from other sources, such as rent or a pension
- Monthly investments/savings amounts
- Statements for recurrent debt, such as a home loan
- A record of fixed and discretionary expenses
Subtract your expenses from your income to arrive at your monthly cash-flow surplus or deficit.
If you're in the red from a monthly cash-flow standpoint, or if you're in the black but need to find a way to increase your savings/investment rate, you'll need to adjust your spending.
Check your savings rate
If you're in the black and steering money to savings/investments on a regular basis, check your savings rate. You may be a victim of savings shortfall. You may need to bump up your savings and reduce spending.
Saving 10% of income is the old rule of thumb, but in many cases that won't be enough; 15% or 20% is a better target, especially if you're a higher-income earner.
Don’t blindly fall for the 10% rule; take the time to calibrate your savings rates to factor in your own situations: your income, how much you have managed to save so far, your proximity to reaching retirement (or any other financial goal), and the return you can expect to earn on your investments. A 10% savings rate is better than nothing, but it's not going to be enough in many cases. By using your own financial goals to formulate concrete savings targets you have a better shot at reaching your financial goals than if you fall back on rules of thumb.
Identify and prioritise your financial goals
Take a close look at what financial goals you'd like to achieve, factoring in your wishes as well as what makes sense from a financial/return on investment perspective. Even if you haven't spent much time on goal setting, you can do a quick and dirty version right now.
List your financial goals--short-, intermediate-, and long-term--and rank from highest to lowest priority. Don't forget to include debt paydown as a goal, especially if you have high-interest-rate debt on your household balance sheet; paying down that debt should be right up near the top of your list.
Building an emergency fund should also be toward the top of the priority pyramid for all investors.
Now that you have listed your goals, quantify them. If a goal is very close at hand--for example, you'd like to amass Rs 5 lakhs for a home deposit by year-end--you don't need to get bogged down in thinking about how inflation will affect your goal amount. But if your goal is further out in the future, it's worth thinking through and quantifying how your goal amount could increase over your savings horizon.
You can use an inflation calculator to determine what a goal will cost in the future. It's a heavier lift to figure out how much you'll need for very long-term goals with multiyear durations, especially retirement. Because there are so many moving parts to determining cash-flow needs for a retirement that could last 25 or 30 years or even longer. I recommend talking to a financial adviser. You will have to take into account your proximity to retirement; your expected years in retirement; other sources of income you'll be able to rely on in retirement, such as the pension; and the complexion of your investment portfolio, among other factors. You'll be able to create an estimate of how much money you'll need for retirement based on your current income and spending.
