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Building a Budget That Works for You: Personalization Tips

Published May 21, 24
17 min read

Financial literacy is the knowledge and skills needed to make well-informed and effective financial decisions. It is comparable to learning how to play a complex sport. Just as athletes need to master the fundamentals of their sport, individuals benefit from understanding essential financial concepts to effectively manage their wealth and build a secure financial future.

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In the complex financial world of today, people are increasingly responsible for managing their own finances. Financial decisions have a long-lasting impact, from managing student loans to planning your retirement. A study by the FINRA Investor Education Foundation found a correlation between high financial literacy and positive financial behaviors such as having emergency savings and planning for retirement.

But it is important to know that financial education alone does not guarantee success. Critics say that focusing solely upon individual financial education neglects systemic concerns that contribute towards financial inequality. Some researchers suggest that financial education has limited effectiveness in changing behavior, pointing to factors such as behavioral biases and the complexity of financial products as significant challenges.

A second perspective is that behavioral economics insights should be added to financial literacy education. This approach recognizes people's inability to make rational financial choices, even with the knowledge they need. Strategies based on behavioral economics, such as automatic enrollment in savings plans, have shown promise in improving financial outcomes.

Takeaway: Financial literacy is a useful tool to help you navigate your personal finances. However, it is only one part of a larger economic puzzle. Systemic factors, individual circumstances, and behavioral tendencies all play significant roles in financial outcomes.

Fundamentals of Finance

Basic Financial Concepts

Financial literacy starts with understanding the fundamentals of Finance. These include understanding:

  1. Income: Money received, typically from work or investments.

  2. Expenses: Money spent on goods and services.

  3. Assets: Anything you own that has value.

  4. Liabilities are debts or financial obligations.

  5. Net Worth: The difference between your assets and liabilities.

  6. Cash Flow: Total amount of money entering and leaving a business. It is important for liquidity.

  7. Compound Interest: Interest calculated on the initial principal and the accumulated interest of previous periods.

Let's take a deeper look at these concepts.

You can also find out more about the Income Tax

The sources of income can be varied:

  • Earned income: Salaries, wages, bonuses

  • Investment income: Dividends, interest, capital gains

  • Passive income: Rental income, royalties, online businesses

Understanding the various income sources is essential for budgeting and planning taxes. In many tax systems earned income, for example, is taxed at higher rates than long-term profits.

Assets vs. Liabilities

Assets include things that you own with value or income. Examples include:

  • Real estate

  • Stocks & bonds

  • Savings Accounts

  • Businesses

In contrast, liabilities are financial obligations. Included in this category are:

  • Mortgages

  • Car loans

  • Charge card debt

  • Student Loans

The relationship between assets and liabilities is a key factor in assessing financial health. According to some financial theories, it is better to focus on assets that produce income or increase in value while minimising liabilities. It's important to remember that not all debt is bad. For example, a mortgage can be considered as an investment into an asset (real property) that could appreciate over time.

Compound interest

Compound Interest is the concept that you can earn interest on your own interest and exponentially grow over time. This concept has both positive and negative effects on individuals. It can boost investments, but if debts are not managed correctly it will cause them to grow rapidly.

Take, for instance, a $1,000 investment with 7% return per annum:

  • After 10 years the amount would increase to $1967

  • After 20 years the amount would be $3,870

  • In 30 years it would have grown to $7.612

This demonstrates the potential long-term impact of compound interest. Remember that these are just hypothetical examples. Actual investment returns will vary greatly and can include periods where losses may occur.

These basics help people to get a clearer view of their finances, similar to how knowing the result in a match helps them plan the next step.

Financial Planning and Goal Setting

Financial planning is the process of setting financial goals, and then creating strategies for achieving them. It's comparable to an athlete's training regimen, which outlines the steps needed to reach peak performance.

Financial planning includes:

  1. Set SMART financial goals (Specific Measurable Achievable Relevant Time-bound Financial Goals)

  2. Create a comprehensive Budget

  3. Developing savings and investment strategies

  4. Regularly reviewing and adjusting the plan

Setting SMART Financial Goals

In finance and other fields, SMART acronym is used to guide goal-setting.

  • Specific: Clear and well-defined goals are easier to work towards. Saving money, for example, can be vague. But "Save $ 10,000" is more specific.

  • You should track your progress. In this situation, you could measure the amount you've already saved towards your $10,000 target.

  • Realistic: Your goals should be achievable.

  • Relevance: Goals should reflect your life's objectives and values.

  • Setting a date can help motivate and focus. For example: "Save $10,000 over 2 years."

Budgeting for the Year

A budget is a financial plan that helps track income and expenses. Here is a brief overview of the budgeting procedure:

  1. Track all income sources

  2. List all expenses, categorizing them as fixed (e.g., rent) or variable (e.g., entertainment)

  3. Compare income to expenses

  4. Analyze results and make adjustments

The 50/30/20 rule has become a popular budgeting guideline.

  • Housing, food and utilities are 50% of the income.

  • Enjoy 30% off on entertainment and dining out

  • 10% for debt repayment and savings

But it is important to keep in mind that each individual's circumstances are different. Critics of such rules argue that they may not be realistic for many people, particularly those with low incomes or high costs of living.

Savings and Investment Concepts

Investing and saving are important components of most financial plans. Here are some similar concepts:

  1. Emergency Fund: A savings buffer for unexpected expenses or income disruptions.

  2. Retirement Savings: Long-term savings for post-work life, often involving specific account types with tax implications.

  3. Short-term saving: For goals between 1-5years away, these are usually in easily accessible accounts.

  4. Long-term Investments: For goals more than 5 years away, often involving a diversified investment portfolio.

It is worth noting the differences in opinion on what constitutes a good investment strategy and how much you should be saving for an emergency or retirement. These decisions are based on the individual's circumstances, their risk tolerance and their financial goals.

Financial planning can be thought of as mapping out a route for a long journey. This involves knowing the starting point, which is your current financial situation, the destination (financial objectives), and the possible routes to reach that destination (financial strategy).

Diversification and Risk Management

Understanding Financial Hazards

The risk management process in finance is a combination of identifying the potential threats that could threaten your financial stability and implementing measures to minimize these risks. This concept is similar to how athletes train to avoid injuries and ensure peak performance.

Financial risk management includes:

  1. Identifying potential risk

  2. Assessing risk tolerance

  3. Implementing risk mitigation strategies

  4. Diversifying Investments

Identification of potential risks

Financial risks can come from various sources:

  • Market risk: The possibility of losing money due to factors that affect the overall performance of the financial markets.

  • Credit risk is the risk of loss that arises from a borrower failing to pay back a loan, or not meeting contractual obligations.

  • Inflation-related risk: The possibility that the purchasing value of money will diminish over time.

  • Liquidity risk: The risk of not being able to quickly sell an investment at a fair price.

  • Personal risk: Specific risks to an individual, such as job losses or health problems.

Assessing Risk Tolerance

Risk tolerance refers to an individual's ability and willingness to endure fluctuations in the value of their investments. This is influenced by:

  • Age: Younger individuals typically have more time to recover from potential losses.

  • Financial goals. A conservative approach to short-term objectives is often required.

  • Income stability. A stable income could allow more risk in investing.

  • Personal comfort: Some individuals are more comfortable with risk than others.

Risk Mitigation Strategies

Common risk mitigation strategies include:

  1. Insurance: A way to protect yourself from major financial losses. Included in this is health insurance, life, property, and disability insurance.

  2. Emergency Funds: These funds are designed to provide a cushion of financial support in the event that unexpected expenses arise or if you lose your income.

  3. Manage your debt: This will reduce your financial vulnerability.

  4. Continuous learning: Staying up-to-date on financial issues can help make more informed decisions.

Diversification: A Key Risk Management Strategy

Diversification as a risk-management strategy is sometimes described by the phrase "not putting everything in one basket." Spreading your investments across multiple asset classes, sectors, and regions will reduce the risk of poor returns on any one investment.

Consider diversification like a soccer team's defensive strategy. A team doesn't rely on just one defender to protect the goal; they use multiple players in different positions to create a strong defense. A diversified portfolio of investments uses different types of investment to protect against potential financial losses.

Diversification types

  1. Asset Class Diversification is the practice of spreading investments among stocks, bonds and real estate as well as other asset classes.

  2. Sector Diversification (Investing): Diversifying your investments across the different sectors of an economy.

  3. Geographic Diversification: Investing across different countries or regions.

  4. Time Diversification Investing over time, rather than in one go (dollar cost averaging).

Diversification is widely accepted in finance but it does not guarantee against losses. All investments involve some level of risks, and multiple asset classes may decline at the same moment, as we saw during major economic crisis.

Some critics assert that diversification is a difficult task, especially to individual investors due to the increasing interconnectedness of the global economic system. Some critics argue that correlations between assets can increase during times of stress in the market, which reduces diversification's benefits.

Diversification is still a key principle of portfolio theory, and it's widely accepted as a way to manage risk in investments.

Investment Strategies and Asset Allocution

Investment strategies are plans designed to guide decisions about allocating assets in various financial instruments. These strategies can also be compared with an athlete's carefully planned training regime, which is tailored to maximize performance.

Key aspects of investment strategies include:

  1. Asset allocation: Dividing investments among different asset categories

  2. Diversifying your portfolio by investing in different asset categories

  3. Rebalancing and regular monitoring: Adjusting your portfolio over time

Asset Allocation

Asset allocation is the act of allocating your investment amongst different asset types. Three main asset categories are:

  1. Stocks (Equities:) Represent ownership of a company. In general, higher returns are expected but at a higher risk.

  2. Bonds with Fixed Income: These bonds represent loans to government or corporate entities. Generally considered to offer lower returns but with lower risk.

  3. Cash and Cash-Equivalents: This includes short-term government bond, savings accounts, money market fund, and other cash equivalents. These investments have the lowest rates of return but offer the highest level of security.

Factors that can influence asset allocation decisions include:

  • Risk tolerance

  • Investment timeline

  • Financial goals

You should be aware that asset allocation does not have a universal solution. Even though there are some rules of thumb that can be used (such subtracting the age of 100 or 111 to find out what percentage of a portfolio you should have in stocks), this is a generalization and may not suit everyone.

Portfolio Diversification

Diversification can be done within each asset class.

  • Stocks: This includes investing in companies of varying sizes (small-caps, midcaps, large-caps), sectors, and geo-regions.

  • Bonds: You can vary the issuers, credit quality and maturity.

  • Alternative investments: For additional diversification, some investors add real estate, commodities, and other alternative investments.

Investment Vehicles

There are various ways to invest in these asset classes:

  1. Individual stocks and bonds: These offer direct ownership, but require more management and research.

  2. Mutual Funds are managed portfolios consisting of stocks, bonds and other securities.

  3. Exchange-Traded Funds (ETFs): Similar to mutual funds but traded like stocks.

  4. Index Funds are mutual funds or ETFs that track a particular market index.

  5. Real Estate Investment Trusts: These REITs allow you to invest in real estate, without actually owning any property.

Active vs. Investing passively

Active versus passive investment is a hot topic in the world of investing.

  • Active Investing: Involves trying to outperform the market by picking individual stocks or timing the market. It requires more time and knowledge. Fees are often higher.

  • Passive Investing: Involves buying and holding a diversified portfolio, often through index funds. This is based on the belief that it's hard to consistently outperform a market.

This debate is still ongoing with supporters on both sides. Advocates of Active Investing argue that skilled manager can outperform market. While proponents for Passive Investing point to studies proving that, in the long run, the majority actively managed fund underperform benchmark indices.

Regular Monitoring and Rebalancing

Over time, it is possible that some investments perform better than others. As a result, the portfolio may drift from its original allocation. Rebalancing involves adjusting the asset allocation in the portfolio on a regular basis.

Rebalancing involves selling stocks to buy bonds. For example, the target allocation for a portfolio is 60% stocks to 40% bonds. However, after a good year on the stock market, the portfolio has changed to 70% stocks to 30% bonds.

It is important to know that different schools of thought exist on the frequency with which to rebalance. These range from rebalancing on a fixed basis (e.g. annual) to rebalancing only when allocations go beyond a specific threshold.

Consider asset allocation as a balanced diet. As athletes require a combination of carbohydrates, proteins and fats to perform optimally, an investment portfolio includes a variety of assets that work together towards financial goals, while managing risk.

All investments come with risk, including possible loss of principal. Past performance is not a guarantee of future results.

Plan for Retirement and Long-Term Planning

Long-term planning includes strategies that ensure financial stability throughout your life. This includes estate planning as well as retirement planning. These are comparable to an athletes' long-term strategic career plan, which aims to maintain financial stability even after their sport career ends.

The following components are essential to long-term planning:

  1. Retirement planning: Estimating future expenses, setting savings goals, and understanding retirement account options

  2. Estate planning: Planning for the transfer of assets following death. Wills, trusts, as well tax considerations.

  3. Planning for future healthcare: Consideration of future healthcare needs as well as potential long-term care costs

Retirement Planning

Retirement planning involves estimating how much money might be needed in retirement and understanding various ways to save for retirement. Here are a few key points:

  1. Estimating retirement needs: According to certain financial theories, retirees will need between 70-80% their pre-retirement earnings in order to maintain a standard of life during retirement. However, this is a generalization and individual needs can vary significantly.

  2. Retirement Accounts

    • 401(k), or employer-sponsored retirement accounts. They often include matching contributions by the employer.

    • Individual Retirement Accounts, or IRAs, can be Traditional, (potentially tax deductible contributions with taxed withdraws), and Roth, (after-tax contributions with potentially tax-free withdraws).

    • SEP IRAs & Solo 401 (k)s: Options for retirement accounts for independent contractors.

  3. Social Security is a government program that provides retirement benefits. It is important to know how the system works and factors that may affect the benefit amount.

  4. The 4% rule: A guideline that suggests retirees can withdraw 4% of their retirement portfolio the first year after retiring, and then adjust this amount each year for inflation, with a good chance of not losing their money. [...previous text remains the same ...]

  5. The 4% Rule: A guideline suggesting that retirees could withdraw 4% of their portfolio in the first year of retirement, then adjust that amount for inflation each year, with a high probability of not outliving their money. The 4% Rule has been debated. Some financial experts believe it is too conservative, while others say that depending on individual circumstances and market conditions, the rule may be too aggressive.

You should be aware that retirement planning involves a lot of variables. Retirement outcomes can be affected by factors such as inflation rates, market performance and healthcare costs.

Estate Planning

Estate planning consists of preparing the assets to be transferred after death. Among the most important components of estate planning are:

  1. Will: Document that specifies how a person wants to distribute their assets upon death.

  2. Trusts can be legal entities or individuals that own assets. Trusts are available in different forms, with different functions and benefits.

  3. Power of Attorney - Designates someone who can make financial decisions for a person if the individual is not able to.

  4. Healthcare Directives: These documents specify the wishes of an individual for their medical care should they become incapacitated.

Estate planning is complex and involves tax laws, family dynamics, as well as personal wishes. Laws governing estates may vary greatly by country or state.

Healthcare Planning

Plan for your future healthcare needs as healthcare costs continue their upward trend in many countries.

  1. Health Savings Accounts: These accounts are tax-advantaged in some countries. Eligibility rules and eligibility can change.

  2. Long-term care insurance: Coverage for the cost of long-term care at home or in a nursing facility. These policies are available at a wide range of prices.

  3. Medicare is a government-sponsored health insurance program that in the United States is primarily for people aged 65 and older. Understanding the coverage and limitations of Medicare is important for retirement planning.

There are many differences in healthcare systems around the world. Therefore, planning healthcare can be different depending on one's location.

The conclusion of the article is:

Financial literacy encompasses many concepts, ranging from simple budgeting strategies to complex investment plans. Financial literacy is a complex field that includes many different concepts.

  1. Understanding fundamental financial concepts

  2. Develop your skills in goal-setting and financial planning

  3. Managing financial risks through strategies like diversification

  4. Understanding the various asset allocation strategies and investment strategies

  5. Planning for retirement and estate planning, as well as long-term financial needs

The financial world is constantly changing. While these concepts will help you to become more financially literate, they are not the only thing that matters. New financial products, changing regulations, and shifts in the global economy can all impact personal financial management.

Defensive financial knowledge alone does not guarantee success. As discussed earlier, systemic factors, individual circumstances, and behavioral tendencies all play significant roles in financial outcomes. Financial literacy education is often criticized for failing to address systemic inequality and placing too much responsibility on the individual.

Another perspective emphasizes the importance of combining financial education with insights from behavioral economics. This approach recognizes that people don't always make rational financial decisions, even when they have the necessary knowledge. It may be more beneficial to improve financial outcomes if strategies are designed that take into account human behavior and decision making processes.

The fact that personal finance rarely follows a "one-size-fits all" approach is also important. It's important to recognize that what works for someone else may not work for you due to different income levels, goals and risk tolerance.

Given the complexity and ever-changing nature of personal finance, ongoing learning is key. It could include:

  • Keep up with the latest economic news

  • Financial plans should be reviewed and updated regularly

  • Seeking out reputable sources of financial information

  • Professional advice is important for financial situations that are complex.

Remember, while financial literacy is an important tool, it's just one piece of the puzzle in managing personal finances. The ability to think critically, adaptability and the willingness to learn and change strategies is a valuable skill in navigating financial landscapes.

Financial literacy means different things to different people - from achieving financial security to funding important life goals to being able to give back to one's community. For different people, financial literacy could mean a variety of things - from achieving a sense of security, to funding major life goals, to being in a position to give back.

Financial literacy can help individuals navigate through the many complex financial decisions that they will face in their lifetime. It's still important to think about your own unique situation, and to seek advice from a professional when necessary. This is especially true for making big financial decisions.


The information provided in this article is for general informational and educational purposes only. It is not intended as financial advice, nor should it be construed or relied upon as such. The author and publishers of this content are not licensed financial advisors and do not provide personalized financial advice or recommendations. The concepts discussed may not be suitable for everyone, and the information provided does not take into account individual circumstances, financial situations, or needs. Before making any financial decisions, readers should conduct their own research and consult with a qualified financial advisor. The author and publishers shall not be liable for any errors, inaccuracies, omissions, or any actions taken in reliance on this information.