In this article:
Personal finance is the way that you manage your money in order to cover your expenses and reach your goals. Learning about personal finance can help you get a firm handle on your money and make progress toward financial milestones, such as setting some money aside for an emergency or getting out of debt.
Here's more on what personal finance is, why it matters and the key areas of personal finance to tackle first.
What Is Personal Finance?
Personal finance is a term that covers all the pieces of your financial life. In essence, it's how you manage your money, putting your income toward covering your expenses and affording your wants.
It's also how you use your money as a tool to build your ideal financial life. A big part of effective personal financial management comes down to spending less than you earn and putting the difference into savings.
Find High-Yield Savings Accounts
Why Is Personal Finance Important?
Personal finance is important because it helps you manage your money well and build financial stability over time. Learning money management fundamentals empowers you to gain better control of your cash flow and gives you more opportunities to spend and save money in accordance with your own ideals and goals. In simple terms, personal finance is the key to getting your money to work for you.
Fundamentals of Personal Finance
Here's a breakdown of the key areas of personal finance to learn about and start managing first.
1. Budgeting
Your budget is the foundation of your financial life. It's how you allocate your income to buy the things you need, pay your bills and save for the future. In basic terms, a budget is just a plan for how you'll spend your money. But it's also a way to set intentions for the life you want to build, and a way to align your spending habits with your goals.
Without a budget, it can be easy to overspend. In turn, that can put a lot of stress on you financially, and could lead to missing bills or falling into debt.
On the other hand, tracking your spending and aiming to stick to a spending plan helps you plan for expenses, and gives you a guide for how to adjust your spending habits to stay within your means. Over time, spending less than you earn can help you avoid debt, add to your savings and build financial security.
To create a budget, start by crunching the numbers to find out how much income you have left after subtracting your basic expenses each month. Then, learn about different budgeting methods to pick one that works best for you. Consider using a budgeting app to automate tracking and sorting transactions.
Learn more >> How to Make a Budget
2. Saving
Saving is setting aside some of your money for future use. In practice, one of the best ways to save is to direct a portion of each paycheck directly into a savings account.
People save with different goals in mind. In general, it's a good idea to start with an emergency fund. Setting aside money in an emergency fund makes you more resilient should things go wrong. Emergency expenses or job losses can happen to anyone, but building up a financial buffer can help you make it through in one piece.
Since emergency funds are cash you may need quickly, it's a good idea to save that money somewhere liquid. For example, consider a high-yield savings account, which allows you to access your money easily and helps you earn more while it grows in your account.
You can also set up funds to save for a house or a new car. Beyond creating financial stability, setting aside a portion of your income for other things you want (such as large purchases or vacations) is a strategy for affording those luxuries without going into debt.
Learn more >> How to Save Money
3. Investing
Similar to saving, investing can mean setting aside some of your income for future goals, rather than spending it in the moment. When you invest, you buy assets in the hope that they'll grow in value over time, leaving you with more money than you started with. Most investors can go a long way by sticking with the basics: investing in retirement accounts.
Types of Investing Accounts
Here's a breakdown of two types of accounts and investments to know:
- Retirement accounts: Putting aside a portion of each paycheck into a workplace 401(k) plan or an individual retirement account (IRA) helps you maximize your tax advantages while working toward your retirement goal. This is a good and somewhat simple way to start investing.
- Taxable accounts: Beyond retirement investing, you may choose to invest additional funds in a brokerage account. You'll have the freedom to buy and sell assets as you wish without worrying about early withdrawal penalties, but you won't get the tax advantages you do with a retirement account.
Types of Assets
In addition to where you keep your assets, investors need to know what types of assets to buy.
- Stocks: Stocks represent ownership shares of a company. They tend to be volatile, meaning they can swing upward or downward in value rapidly.
- Fixed income investments: These are debt securities, such as bonds and certificates of deposit (CDs). Fixed income assets pay you a conservative rate of interest in exchange for leaving your money deposited for a set term, such as two years. They work well when you want to generate extra income on your savings for a near-term goal.
- Diversified funds: Mutual funds, exchange-traded funds and index funds are each types of assets that invest broadly to spread out risk and take advantage of overall market growth. Each has its own features, pros and cons, and there are overlaps among the three. You can buy diversified funds through retirement accounts or taxable brokerage accounts.
Overall, investing is a way to benefit from exposure to market growth. Understanding the fundamentals of investing—such as balancing risk in your portfolio—helps you make informed choices and avoid investing mistakes. If you need help coming up with an individualized investing plan, consider reaching out to a financial advisor.
Learn more >> How to Start Investing
4. Managing Debt
How and when you choose to borrow and take on debt can either help you reach your financial goals or become an obstacle to building the life you want.
Debt is money that you owe to someone else, such as a credit card issuer, mortgage company, the government or another lender. Having some debt isn't unusual. Certain types of debt can even be considered good debt if they come with an affordable interest rate and provide long-term benefits (such as student loans or a mortgage).
On the other hand, bad debt is money you borrow for something that quickly loses value, costs you a lot in interest or hurts your ability to make your monthly payments. For example, using credit card debt to make discretionary purchases such as meals out, concert tickets or other items that you can't pay off quickly and don't increase your financial stability could be considered bad debt.
High-interest debt saps income away from your other financial goals. Plus, when debt impacts your credit, it can hurt your ability to take advantage of good borrowing opportunities, such as a mortgage for a home.
Debt can be easy to fall into and difficult to dig your way out of. Avoiding bad debt should be among your main financial priorities. Budgeting and creating an emergency fund are two ways to set yourself up for success.
If you're already carrying high-interest balances, make a plan to pay your debt off so you can make progress toward financial stability:
- Consider using a repayment strategy such as the debt snowball method or debt avalanche method.
- Check your credit report for free through Experian for an overview of what you owe.
- If you need additional help, consider reaching out to a credit counselor for individualized advice.
Learn more >> How to Get Out of Debt
5. Choosing Insurance
Insurance may not be the first thing that comes to mind when you think about managing your money, but it's a key financial tool for managing risk.
Insurance helps you hedge against financial loss in the event of an emergency: You pay a monthly premium in exchange for protection should life throw a major curveball your way. Picking policies that provide the coverage you need and offer you the best value is a big part of your full financial management picture.
Here are some main types of insurance to learn about:
The best way to go about researching policies and buying insurance depends on the type of insurance. For example, getting health insurance through work, when possible, tends to be the more affordable option. On the other hand, when it comes to auto insurance, the best place to start is typically by researching and selecting a policy online.
Learn more >> How to Get an Insurance Quote
The Bottom Line
Learning about personal finance and improving your money management skills can help you make progress toward building the life you want. When you begin to see your money as a tool for accomplishing your goals, it can help you set new priorities. It can also help you find motivation to work on the areas of your financial life that are standing in your way, such as high-interest debt or lack of a clear budget.