Understanding finance is considered one of the trickiest subjects of knowledge. Financial literacy is the knowledge requisite for financial management in personal lives, corporations, and the public sector. People do not pay much heed when it comes to learning a few chunks of financial literacy.
It is not a compulsion to learn every nitty-gritty of the financial system because it is a complex subject. However, people, in general, can learn little very useful knowledge to manage their finances in a better way. Why is it important? Because more than 60% of Americans do not even know their credit score.
Hence, one must have a baseline knowledge of the financial system so that one can improve their financial lifestyle. Five core elements shape the foundation of a financial education system. They are earning, spending, saving and investing, borrowing, and protecting. The basic knowledge of these components of finance will improve your day-to-day financial activities.
Setting Up the Trap (Key Points)
- Understanding finance at a base level is important for managing personal finances.
- There are five core aspects of a financial knowledge foundation.
- Earning, spending, saving and investing, borrowing, and protecting are the vital components of a financial system.
- First, you have to ascertain your gross or net income.
- The spending comes after you know how much you make in a month or a year. You must calculate your spending based on earnings and always keep it lower than the earnings to have a better credit score.
- Saving and investing are the core pillars of better financial management. You cannot invest unless you save. Therefore, these two things go hand-in-hand. Savings play an important role in securing retirement plans and 401(k).
- Borrowing is also a significant aspect of understanding a financial system. One may require borrowing to deal with emergent situations.
- Protecting financial assets from theft is also an important phase of understanding finance.
Earning | Understanding Finance
The first chunk of the knowledge you must be aware of is your earnings. Your net or gross income is the benchmark statistic for you to manage your finances. Even if your monthly varies a lot, you can calculate an average of four months and take the average factor as your income.
It is pertinent to mention that your income is the amount you are left with after the deduction of taxes and insurance payments. Once you are aware of your earnings, you can plan for subsequent activities for better financial management. Thus, estimating earnings is the first and foremost factor in understanding finance.
Spending | Understanding Finance
The second step in understanding finance is to evaluate your average spending amount. You have to keep your spending circle within the limits of your earnings to keep a higher credit score. One can easily estimate the spending after keeping track of it for two to three months.
You may use the popular 50-30-20 budgeting rule to compute your average spending. Spending has a decisive role in shaping your financial goals. Therefore, one must calculate the spending budget carefully.
Saving And Investing | Understanding Finance
Financial management is vague without saving and investing your money. Understanding finance is easy once you get a grip on your saving and investing ventures. According to financial experts, one must save 10% of their earnings and invest 5% of that savings in improving their financial well-being.
Saving your money will help you in the future in case of any emergencies where you might need a huge sum of money at once. Furthermore, saving is also vital for securing a retirement plan. With your saving every month you can invest in the retirement plan 401(k).
You can also use your savings to make huge purchases, such as buying a house or a car. Savings are the core component of a financial system that helps you to stabilize your personal finance. You can also invest in some profitable venture to make more money. Some may use their savings to pay their outstanding debts against them.
Borrowing | Understanding Finance
Generally, borrowing is considered an irrational approach by many people. However, one might need some borrowing money for various purposes, such as clearing student loans or paying off the debts of credit cards. You must be well-versed with the burrowing factor as it is the foundational knowledge of the financial system.
Moreover, you must remember that the interest rate is the percentage of the borrowing amount which you must pay while returning the borrowed amount. The interest rates vary per the borrower. Moreover, you will get to pay a lower interest rate if your credit score is higher. You must keep yourself aware of the borrowing aspects for understanding finance.
Protection | Understanding Finance
Lastly, one must keep in mind that financial assets are vulnerable to theft. Financial information and assets are prone to leakage and theft. Hackers or anti-social elements may use your information for malicious activities. Therefore, you must protect your financial assets in this digital yet vulnerable world. You must not share your personal information with anyone.
Never share your banking information or credit card number with anyone. Furthermore, you have to be proactive while using online e-commerce services. You should also keep on checking your bank statements and credit score for any irregularities. Taking precautionary measures for protecting financial assets is a prerequisite for understanding finance at a broader level.
Conclusion
Understanding finance is not a single chapter book. Rather, it is a plethora of knowledge. However, one must know the basic factor or the fundamental components of a financial system. There are five chief components of a financial system. They are earning, spending, saving and investing, borrowing, and protecting. A basic level of knowledge of these factors will help you make better financial decisions.
Hence, you will be able to manage your personal finances in a professional manner. Moreover, these methods will also keep you up-to-date with the latest practices in the financial sector.