Is the amount of money you earn sufficient to allow you to live comfortably? If you are similar to the majority of the people in the UK, the answer is no. It does not seem to matter how much we each earn because we all seem to have trouble living on it. It seems to be in our nature that even if we get a pay increase or make money some other way all we do is to go out and spend this extra income.
The problem with spending all our money is that we never put enough away for any unexpected costs (such as car repairs, burst pipes, etc). If we do not have any emergency savings then when disasters strike we have to borrow money to cope and then have to pay back the amount we borrowed along with interest. When this happens we find we have entered into a vicious circle as our earnings have stayed the same but our outgoings have now increased by the amount of the loan repayments.
We are therefore forced to reduce our standards of living as we cannot afford to spend so much money on items we could afford before we had to borrow the money. It then becomes even harder to save money than it was before and if another unexpected cost comes arises and we have to borrow more money then the circle gets smaller and smaller and we are on a downward spiral in monetary terms.
It could be suggested from the above that all we have to do is to earn more money in the first place but as stated above all we would do is to increase our outgoings to meet those additional incomings. No, what we really need to do is to manage our money better.
Let us have a look at a variety of reasons why we do not manage our money better.
Table of Contents
Lack of knowledge
Most people lack the financial knowledge to manage their money better. This can be due to them being bad money managers as they believe they are unlikely to become rich because their parents and friends are not rich and so they do not make the effort to learn how to manage their money better. Instead, they simply follow the crowd and if their friends have poor money management skills then they will inadvertently copy these bad habits. A good money manager should try to improve their knowledge by reading the financial pages of the papers, financial sites, or money blogs to find out how best to maximise their money. This would allow them to find out about the best places to save their money, the cheapest places to borrow money and to find out about tax-free products.
Lack of planning
Most of us live for today and try not to think of tomorrow, we have no plan that we follow in terms of our spending habits. A good money manager would have a budget, showing his income (wages, dividends, and interest) and a list of his expenditure (mortgage, electricity, food, clothing, alcohol, etc).
By comparing these two lists the good money manager will know if his income exceeds his expenditure in which case he can save money or alternatively if his expenditure exceeds his income then he needs to either reduce his expenditure or to increase his income.
If you draw were to sit down right now and draw up a budget you would probably be surprised as to how much money you spend on items that are not essential and that you could live without. Living without a few of these luxury items would allow you to save money up for any unexpected emergencies that might arise and would save you having to borrow money.
Once you can start saving you can set yourself targets, for example, to increase your savings by £1,000 by this time next year. The following year you could increase this target to £2,000, then £4,000 the next year and so on. If you can meet your targets you will be well on your way to having a financially secure future.
Want it now attitude
In the UK at the moment there are very few people who live within their means, most of us see something we want, and instead of waiting and saving up for the item we just buy it and either put it on our credit card or take out a loan to pay for it. The banks and credit card companies are almost throwing money at us with their “buy now, pay later” advertising so we end up taking their money, paying them a hefty amount of interest, and hoping that at some point in the future we will be able to afford to pay them back.
However, a good money manager should be willing to wait because they know if they save money up to pay for the item they are earning interest on their savings whilst a bad money manager ends up paying interest on their borrowings.
Given that some credit cards are charging in excess of 20% it does not seem a good idea to borrow money when we could just wait a little bit longer and save up for the item.
If you invested £10,000 in an account at a fixed rate of interest of 5% with the interest compounding every year, it would build up to £26,533 in 20 years, ignoring the effects of taxation. Let us imagine a friend invest £10,000 at a fixed rate of 10% it would seem reasonable to expect his balance after 20 years would be £53,066, being double the £26,533 but in fact, it would £67,275. This shows that a small difference in interest rates can make a significant difference in the value of money over time. This is known as compound interest because you are earning interest on the interest your initial deposit has earned.
The earlier you start to save the more money you will earn as shown by the fact that if you invested invested £10,000 when you were 20 for 40 years at a fixed rate of 10%, it would be worth £452,593 when you were 60. However, if you invested the same amount when you were 30 you would only receive £174,494 when you were 60. Worse still if you waited until you were 40, your investment would be worth only £67,275 by the time you were 60.
Interest rates are currently considerably less than 10% but the above signifies how important it is to make your money work for you and to highlight how small differences in savings rates can really add up. If you want to be a good money manager you should therefore keep an eye on the interest rates you receive from your savings to make sure they are competitive against other savings accounts.
Good money managers
To become a good money manager we need to improve our knowledge of financial matters as this will ensure we get the best savings rates and pay the lowest rates on our borrowings. We should shop around and not just ask the nearest bank or building society if they will lend us some money.
We need to have a plan as to where we are going based on our current income and expenditure. By sticking to a budget and being prepared to wait for something we want, it will save us money rather than costing us money. The sooner we start to apply these ideas then the sooner we can become good money managers and start out on our road to financial independence.