Financial rules are as important as earning well and securing investments. Financial rules will ensure that the accumulated wealth is spent and allocated to investments and expenses judiciously. We present to you 10 Golden Rules of Personal Finance, an expansive list of well-known personal finance rules to keep handy.
This rule is about the allocation of income to expenses and investments.
50% – Needs (Basic needs, Rent, Financial Liabilities)
30% – Wants (Vacation, significant expenses, entertainment)
20%- Savings (Equity, Mutual Funds, Bonds, Gold etc.)
The savings bracket can always be increased to maximise wealth. Also, one should start saving early and get the benefits of compounding.
This rule helps you set reasonable expectations regarding returns from various investments made for the long term.
10% Returns – Equity/Mutual Funds
5% – Debts (Fixed Deposits, could be slightly higher for other debt instruments such as bonds)
3% – Savings Account
Follow this rule in accordance with the 100 minus your age rule and invest accordingly in equities to increase overall returns.
100 minus your age rule
Equity markets can be volatile and are primarily suitable for investors eyeing a high return for high risks. This rule is suggested for the asset allocation of a portfolio. Subtract your age from 100 to ascertain how much of your savings should be allocated to equities.
Example – If your age is 30 so 100 – 30 = 70% of your savings should be invested in Equities and Equity related instruments like Equity Mutual Funds. Conversely for someone who’s age is 70, he should invest only 30% of his portfolio in Equities and Equity related instruments like Equity Mutual Funds..
Needless to say this is a thumb rule and may not apply for professional investors.
Rule of 72
Want to know in how many years your investment will be doubled? Divide 72 by your rate of returns; that’s the number of years.
Example – On a 12% rate of return, your investment will be doubled in (72/12) = 6 years.
Similarly, at an 8% rate of returns, your investment will be doubled in (72/8)= 9 years
Rule of 144
This rule is similar to the rule of 72. To know in how many years your investment will be tripled, divide 144 by your rate of returns; that’s the number of years.
Example – On a 12% rate of return, your investment will be doubled in (144/12) = 12 years.
If you invested 1 lakh at 12% return, it would be 3 lakhs in 12 years, 9 lakhs in 24 years and 27 lakhs in 36 years.
Rule of 70
It estimates the appropriate estimate of your reduced wealth due to inflation a few years down the line.
Dividing 70 by the estimated long term inflation rate tells you in how many years your wealth will be reduced to half its value. It takes inflation of 7% only 10 years to reduce your wealth to half its value.
For example – in India, the long term inflation rate is 5% which will take 70/5= just 14 years to reduce your wealth to half its value.
40% EMI rule
You should never have more than 40% of your income into EMIs.
Example – With a salary of 60,000 per month, your EMIs should not exceed 24,000.
Rule of 4%
This rule for financial freedom is essential for retired personnel. Never take out more than 4% of your retirement corpus per year. The Corpus required is 25 times of your estimated Annual Expenses. E.g., If your annual expenses after 50 years of age are Rs. 5,00,000/- then Corpus which you require is Rs. 1.25 crores.
Also, it is crucial to invest the retirement corpus in a mix of debt instruments and equity to keep growing the Corpus which will last you a long time.
Life Insurance Rule
Always strive to take a policy having a sum insured of 20X your current annual income. This will help cover family expenses in the future in case of an untimely demise.
Emergency Fund rule
Put an amount of at least 3 times of your current monthly income in an emergency fund to support in case of loss of employment or a medical emergency.
If possible, keep 6 times the amount of your current salary in liquid or near liquid assets (liquid mutual funds) as a safe bet.
1-week spending rule
If you want to purchase an expensive item but are unsure about it, delay the purchase for a week. This will give you time to process the absolute importance of the item, its returns or benefits, and avoid an impulse purchasing decision.
We hope these 10 Golden Rules of Personal Finance help you to plan a financially successful future. If you need any assistance on Investment or How To Invest In Mutual Funds Feel free to contact Wealth Baba – Financial Planner & Investment Advisor in India. We will try to help you out in the best possible way.