How To Control Your Finances
Do you ever seem to find yourself without enough money? Do you find that money slips from your hand as fast as a bar of soap? Do you find it easier to stick your head in the sand rather than face your bills or review your bank statements?
If this sounds like you, you’re certainly not alone. Being good with money is not a natural practice for most of us.
This post is designed to help you get control of your finances by equipping you with the knowledge and skills you need to make informed choices about money. So, what are you waiting for? It’s time to get learning, start saving and look forward to a calmer, more secure future.
You can land a cheaper mortgage by saving for a larger deposit and reining in your expenses.
Let’s begin by addressing one of the most cumbersome financial problems of our era – and what is most likely your largest expense – housing.
Over the last few decades, house prices across Western countries have escalated rapidly. This has made the prospect of home-ownership nothing but a pipe dream for a whole generation of young people.
A report by the Institute for Fiscal Studies estimates that average house prices across the UK have risen to at least ten times the average salary of 25 to 34 year-olds, and in London, it’s as much as 16 times.
Given that you’re unlikely to be able to borrow more than four or five times your salary with a mortgage, you can see why there’s an affordability problem – the numbers just don’t add up.
Unfortunately, for those wanting to get on the housing ladder, there are no quick solutions. But there are things you can do to appear less risky to lenders, and that will help you borrow more and secure a cheaper mortgage.
Whether you can afford to buy a house really depends on two things: can you raise enough for the deposit, and can you convince the bank to let you borrow the rest?
Regarding deposits, the general rule is that the more you can put toward a deposit, the less you have to borrow, and the lower your interest rate is likely to be. Most first-time buyers will only be able to afford a deposit equivalent to 5 percent of the value of their house. But, here’s some advice: if you can scrape together at least a 10 percent deposit, you should – because this is the threshold for substantially cheaper interest rates.
Whether the bank will let you borrow the rest depends chiefly on your income, which you probably can’t do much to change. But one thing you can do is team up with another salaried person, which will effectively double how much you can borrow.
Your outgoings are also important. You’ll have to show at least three months of bank statements – or two to three years of bank statements if you’re self-employed – so it’s vital that you don’t default on any bills or make excessive purchases within this period.
This deep dive into your finances might seem excessive, but it should also make you think about whether you can actually afford to make the monthly repayments on a mortgage for the better part of your life. Or if you even want to.
Improving your credit score can get you better deals on loans and mortgages.
Another crucial factor that banks look at when evaluating you for a mortgage or any loan, for that matter, is your credit score.
Your credit score is a number created by credit reference agencies. These agencies keep track of your interactions with financial institutions like banks and energy suppliers. The idea of a credit score is to evaluate your past borrowing behavior so that lenders have some indication of how likely you will be to repay a loan in the future.
Credit scores are important for everything from applying for a credit card to being accepted as a tenant. But, most importantly, they’re essential for getting cheaper mortgages. Any blemish on your credit score, due to, say, defaulting on a bill for several years, could get you turned down for a cheaper mortgage, costing you thousands in extra interest.
Another quirk of the credit-score system that has long perplexed borrowers is that having no credit history is often worse than having a negative credit history. But just think, if a stranger asked you for money and you didn’t know a single thing about their history of repaying loans, you’d probably be reluctant to hand them money too. Lenders need something to go on.
This can be a problem for first-time buyers who haven’t yet had the chance to build a credit score. The easiest way to remedy this is to start borrowing small amounts. You could, for example, take out a credit card and start using it for daily expenses but make sure you pay it off in full each month!
There are plenty of things you can do to improve your credit score. For one, you can pay all your bills on time. Defaults will stay on your credit report for six years! Also, avoid applying for too many financial products within too short a space of time – things like savings accounts, loans, and credit cards – as this doesn’t go down well with a lot of lenders. And remember, even if your application is turned down, it’ll still affect your credit score.
It can be extremely frustrating knowing that these mysterious credit agencies have such a frightening amount of control over your life. It’s important to remember that you do have certain rights. If there’s anything on your credit report you think is unfair, contact the agency to have the issue investigated and, hopefully, struck off.
No matter how much debt you have, it’s not unmanageable.
Unaffordable housing is one problem that defines this generation – another is debt. Whether it’s life-time mortgages, astronomical student loans, or spiraling credit-card debt, we’re up to our eyeballs in the stuff.
The debt charity StepChange estimates that, in the UK alone, there are 21 million people struggling to pay their bills on time, and 3.3 million people suffering from severe problem debt.
So, if you’re struggling with debt, you’re certainly not alone. But you need to stay on top of it. Understanding how to manage your debt will save you a lot of pain and money in the future.
This might seem obvious, but the general rule of thumb when borrowing money is to borrow as little as possible and pay it back as quickly as possible. That way, you minimize the amount of interest you have to pay on top of what you borrowed.
So, let’s imagine you’re £3,000 in debt on your credit card, and you have to pay 19 percent interest. If you only pay the minimum required payment each month – say £74 – it would take you 27 years to pay off your debt in full and would cost you £7,192 in total. That’s more than double what you borrowed. If, instead, you pushed yourself to pay £108 a month, you’d pay it all off after only three years, and it would only cost you £3,879 overall.
It simply doesn’t pay to bury your head in the sand and pretend your debts don’t exist. You’ll only magnify the grief you have to face down the line.
If you’re really struggling with your debt repayments, you should contact your creditor to arrange a more manageable repayment plan. If you explain your situation, many creditors will also offer you some interest-free breathing space of at least 30 days.
Failing that, you do have other options. Debt really shouldn’t be something to lose sleep over. Remember, no debt is completely insurmountable. Even bankruptcy isn’t all that difficult to bounce back from should you decide to wipe the slate clean and start again.
If you're in a substantial amount of problem debt and you’re finding it overwhelming to pay off, then get help. There are a lot of institutions out there dedicated to helping people in your position. If you’re in the UK, check out StepChange’s online debt calculator and free advice service.
You can budget effectively without lowering your standard of living.
Unfortunately, with housing costs and debt to pay off, most of us exist in a constant state of needing more money. If we can’t earn more, there’s really only one option left – budgeting.
Yet, budgeting doesn’t always come naturally to us. It often feels easier to flash our plastic than to rein in our temptations.
Perhaps the problem is that we often engage in retail therapy to make ourselves feel better. So, when we hear the word budgeting, it invokes a sense of puritan-like restraint and a life as plain as breadsticks.
But budgeting really doesn’t need to imply a reduced quality of life. We all know that a lot of what we buy doesn’t make us any happier. So, budgeting isn’t about cutting back on life’s pleasures; it’s about cutting back on needless spending. And to do this, we need to be a little less unthinking with our debit cards and a little more mindful.
This is where the Japanese concept of Kakeibo can really help us. The word literally translates to a kind of household ledger in which you keep track of your day-to-day expenses. But it also refers to the philosophy and art of personal money management.
The principle goal of Kakeibo is to imbue a sense of mindfulness into your everyday spending. Honestly, just being aware of your spending is sometimes all it takes to rein yourself in. If you knew that the £4 tray of prawn gyoza you buy for lunch every day costs you over £1,000 a year, you’d probably make your own lunch more often.
The first step in the Kakeibo method is to do some basic accounting. Write down your total income for the month and then subtract all the necessary expenses from this figure, such as rent and bills. Next, decide on a savings target – maybe 20 percent of your income – and subtract this from the total as well. Then divide what’s left into four, and you have your spending money for the week.
The next step is to divide your money into pots. Let’s face it, if there’s money in your current account, in your eyes, it’s probably going to be fair game for spending. So separate that money into different accounts as soon as your salary comes in each month: one for savings, one for essentials, and another for everyday spending.
The Kakeibo method makes it easy to save with minimal effort. Since you do all the calculations in advance, you don’t need to struggle with the mental math while your card’s already poised.
Investing your money in a fund is a safe way to grow your savings.
Since the 2008 financial crash, interest rates have fallen to record lows, even lower than inflation. That means your savings are growing more slowly than the currency is decreasing in value. In other words, you’re losing money.
For this reason, you’re arguably better off taking your money out of your savings account and putting it into an investment fund instead, as these usually have better returns.
But wait a second. Investing? Don’t you have to be rolling in cash to invest?
Well, not really, not unless you intend to go full Wolf of Wall Street. As a matter of fact, investing your money isn’t any more complicated than opening a savings account – all you need is a spare evening after work.
But granted, maybe you don’t know the first thing about investing. Where do you begin?
You’ll most likely invest in a fund via an online platform known as a fund supermarket. These are companies that administer your investments on your behalf for a fee, and in exchange, they offer various tools, advice, and graphics to help you manage your portfolio.
Unless you really want to get involved, you don’t actually need to make any decisions about which shares or assets to invest in. The only decision you need to make is which investment funds you want to jump on board.
Investment funds are like a big pot in which a bunch of separate investors have pooled their money. Only the fund manager – someone who knows what they’re doing – makes the difficult decisions about where and what to invest in.
This is all great, but isn’t investing risky?In theory, yes, there is an element of risk involved in investing. But, in practice, if you’re only investing in funds, you’re highly unlikely to end up with less money than you started. That’s because the whole point of an investment fund is to minimize risk.
It does this by giving everybody in the fund a percentage stake in a much larger and more diverse spread of assets than any individual could afford by themselves. The more diverse the spread of assets, the less vulnerable investors are to fluctuations in the value of any one type of asset.
This practice is called diversifying – otherwise known as not putting all your eggs in one basket – and it’s one of the pillars of safe investing.
Ultimately, the experience of investing your money in a fund is much the same as keeping it in a savings account, so definitely consider it as a legitimate option for growing your money.
The earlier you set up a pension plan, the better.
Pensions are the least sexy of all personal finance topics – and that’s saying something.
Saving for a future that may never happen, in accounts that you can’t touch for decades, is the least fun kind of saving. At least saving for a house or a holiday gives you something tangible to look forward to.
Nevertheless, it’s important to save for your future. You might not want to hear it, but someday you’ll be old. And, with average life-expectancy creeping ever upward, you probably won’t want to still be serving coffees when you’re pushing 100.
The hard truth is, it’s better to start contributing toward a pension when you’re young. The sooner you start, the more time you’ll have to make contributions and grow your pot thanks to the miracle of compound interest.
But why do you even need a pension? Why can’t you just keep your money in a savings account?
Well, governments are keen for their citizens to save up for retirement while they’re young and still able to earn. So, to encourage you to save, they offer pretty generous tax reliefs on money you put into a pension pot.
At its simplest, a pension is really nothing more than a savings account or an investment fund that’s been wrapped in a tax break.
That’s why a pension is a more lucrative way to save than merely tossing money into a current account of stashing it under the bed until you’re 70. The downside, of course, is that you have to lock that money away until you retire.
So, how much should you be saving? Brace yourself, because it’s probably much more than you imagined. Most experts say that, in order to maintain the same quality of life you have now, you’ll need about two-thirds of your current salary for every year of retirement, which you should assume will be at least 20 years.
Therefore, if your current salary is about £30,000, then to have a yearly payout of £20,000 over 20 years of retirement, you’ll need to save £400,000. To save that amount, you’d realistically have to save about £750 a month in your pension fund.
This might not match up with your situation exactly, but it should light a fire under you. The easiest way to figure out how much you need to save is to use an online pension calculator.
Discussing finances regularly and openly can improve your relationship.
It’s up to each couple to hash out an arrangement that works for them. But, of course, couples aren’t always going to agree, so they should be prepared for some awkward conversations around the dinner table.
It shouldn’t come as a surprise that money is the most common source of conflict between couples in relationship counseling.
Part of the problem is that partners often have very different expectations about the social value of money and how it should be spent. For example, one partner might interpret lavish spending on clothes as an expression of success, while the other thinks it’s just plain wasteful.
For this reason, couples counselors recommend open and regular communication about financial expectations – especially if you have joint finances.
Any resentments around money need to be aired and talked about with your partner. While these often feel petty and not worth talking about, they can easily get out of hand and cause more destructive conflicts.
A technique employed in couples’ counseling to help restore trust around finances is contracting. You can try it at home too. The idea with contracting is that you work together to set out a series of financial guidelines that you both sign off on. You might, for example, contract that the other is not allowed to comment on any purchases you make with your personal account. Or you might decide how much each person must contribute to rent and bills given your different salaries.
Remember, fairness in relationships doesn’t always mean that each partner must contribute the same amount of money. It’s rare to find a couple who both earn the same income when they meet and continue to earn the same income for the duration of their life together.
Managing your money also requires managing your emotional relationship with money.
Money might not be able to buy you happiness, but constantly feeling as though you don’t have enough of it can have a detrimental effect on your mental health and quality of life.
Unfortunately, financial strain and mental health problems tend to compound one another, creating a vicious cycle. Money affects our mental health when, for example, we are stretched too thin to meet the bills we have to pay, or we feel overwhelmed by our debt obligations.
The mental health charity Mind estimates that people in unmanageable debt are 33 percent more likely to suffer depression and anxiety than the general population.
And, on the flip side, when we feel depressed and overwhelmed, we might not be able to face opening the bills and debt letters that arrive unwanted in our letterbox. Or we spend to make ourselves feel better.
The connection between our finances and our state of mind is the bedrock of financial therapy, which has recently taken off in the United States. Financial therapy mixes practical financial advice with more traditional emotional and psychological therapy.
What this practice demonstrates is that tackling money problems involves more than doing some accounting and calculating budget plans. Managing your money ultimately means managing your relationship with money – that is, how money makes you feel and behave.
Let’s consider some practical advice that should help you feel a bit better about your finances.
First, be realistic about your budgeting. Holding yourself to an unrealistic budget can make you feel terrible when you inevitably overspend. You might then give up budgeting altogether. Always budget some money for fun, pleasurable experiences too.
Next, consider getting yourself a folder and use it to store all your financial paperwork, such as bills, receipts, and statements, in one place. If you haven’t done this already, it’s a truly cathartic ritual that works wonders to cure scatter-brain syndrome.
And, finally, consider incorporating a mood diary into your household ledger. That means that alongside your day-to-day expenses, you can also keep a record of how you felt when you spent money. You might, for example, notice that you only do online shopping when you’re exhausted in the evening. So you could introduce a rule where you’re only allowed to make purchases in the morning – at which point, you probably won’t want it anymore.
Ethical funds are a safer and more lucrative option for your money.
Do you support the National Rifle Association? What about oil companies like Shell or Exxon?
You might not be a vocal supporter of gun rights or fossil fuels, but there is the chance that you may be propping up these industries without realizing it.
If you’ve ever been enrolled in a workplace pension, there’s a good chance that one or more of the investment funds chosen by your pension provider includes shares in companies you believe to be socially and environmentally irresponsible.
So what can you do about it? You don’t have any say in who your pension provider invests in, right?
Fortunately, it’s getting easier for people who care about the ethical impact of their money to do something about it.
Most workplace pension schemes should offer you the option of changing your default fund to what’s called an ethical fund. This is an investment fund that excludes companies deemed to be socially or environmentally detrimental, from gun manufacturers to gambling websites.
You might even have the option of investing in a positive impact fund that goes one step further. These take a more proactive stance to investing by only selecting companies deemed to have a positive impact on society. For example, Dame Helena Morrissey introduced the world’s first “girl fund,” which only invests in companies with a good track record for gender equality and diversity.
In the past, the objection to investing in ethical funds was that they weren’t as lucrative. Of course, if you’re investing money, it’s probably because you want that money to grow. This means you might be tempted to put your personal interest before the public good.
Fortunately, the view that taking an ethical stance means sacrificing financial return is outdated. Actually, experts are increasingly voicing the opposite opinion. Ethical investments might be safer and more lucrative in the long run.
This is due to society's changing values. The younger generation is far more socially and environmentally conscious than their baby-boomer parents, whose wealth they’ll soon be inheriting. As a result, while companies like gun manufacturers and fossil fuel providers were once safe bets, they’re increasingly seen as risky due to mounting pressure on governments to regulate these industries.
It’s important to remember that what you do with your money has an impact on the real world, so use it wisely.
Getting on top of your finances means tackling both the practical side of money – learning how financial products work and using them to your advantage – and the personal side of money – learning to control the way money makes you feel and behave.
Action plan: Try the 50/20/30 technique.
To budget effectively with minimum effort, it helps to put your income into separate pots when it comes in every month. The 50/20/30 technique gives you a good estimate of how you should divide your money. Put 50 percent of your income into an essentials account – that means rent, bills, and commuting costs. The next 20 percent goes toward paying off debt, or if you’ve paid off all your debt, you can put it into a savings account. The last 30 percent goes into your current account, and that constitutes the absolute limit you can spend on cocktails for the month.
