One of the best ways to get yourself headed down the path to financial freedom is by getting a grip on your personal finances. I'm talking about knowing where your money comes from and knowing where it goes - in detail. Without this important information, you'll likely end up working a lot harder and a lot longer than you need to. Today I'm going to give you five good reasons why you should be managing your money and not just "going with the flow."
First of all, let me explain what I mean by money management. Money management involves identifying where every dollar you earn comes from and monitoring where it goes. It means keeping track of this information over time so that you can use it to make sound financial decisions.
Before jumping right into money management, it might help to better understand the jargon of personal finance. If you have trouble keeping assets, liabilities, income, expenses, cash flow and net worth all straight, you might want to take a look at my series about the anatomy of personal finance. It'll help you with the common terminology used in personal finance and money management.
By far the most common method for tracking your personal finances these days is by using a software tool. Some common tools today include: Quicken and MS Money or open source options like GnuCash and KMyMoney if you are feeling frugal. These tools allow you to break your earning and spending down into categories so you can see which areas of your life are the most expensive and which are the most profitable.
Why would you want to do this? Well, here are five reasons to consider:
If you've ever wondered at the end of the month where all your money goes then you'll understand this reason. By tracking your personal finances in detail you'll be able to identify current or potential money problems. A common problem is spending more than you thought you were spending on something. Detailed money management will allow you to identify where your money goes so you can see if your gas bill is too high or if you are eating out too much. The first step to fixing a problem is identifying the problem in the first place.
Before you get too worried, I should tell you that getting a grip on your finances is not always about finding problems. It can be about finding successes too. For example, I was surprised when I discovered some dividend income that I was getting but not fully appreciating. I had bought some stocks hoping that they would go up in value and I would be able to sell them for a gain. I knew that this company paid a dividend but I never really appreciated how important dividends were. By keeping track of ever dollar I earned I noticed that this dividend income was starting to add up! Now dividends are one of the first things I look for in an investment. It's just as important to know what you are doing well as it is to know what you are doing poorly.
Our financial story does not always stick to the game plan. Sometimes things can change on us rather suddenly and it is very helpful to be able to see how these changes affect us financially. A financial change might be a windfall such as an inheritance or a bonus from work. It might also be an unplanned burden such as a major car repair or a large vet bill. If we have a clear personal financial picture before the change then we can quickly see how the change will alter that picture. You'll be able to see where you can scrape up some temporary funds for a big unplanned expense. You'll also be able to see where best to use a sudden windfall - maybe paying off a debt would be better financially than buying a new doodad. By knowing how we'll be affected we can take appropriate steps to minimize a financial loss or maximize a financial gain.
This is one of my favourite reasons to practice good money management. If we take advantage of what we found in reasons 1), 2) and 3) by correcting problems, investing in successes and managing sudden changes, over time we will be able to see the fruits of our labours. For me, seeing my progress is a very powerful motivator. It constantly helps reinforce my positive actions and help me to quickly identify when I've done something that pushes me in the wrong financial direction. Generally, things have been going steadily in the right direction for me and seeing this keeps me motivated to stick with it, even when progress is slow.
Finally, by getting in the habit of tracking your finances on a regular basis, you are giving them a prominent place in your mind. Each month when you tally up the numbers you'll be giving yourself a little reminder of the things you've done well and the things that still need some work. Little by little you'll learn to keep yourself focused on your dream of financial freedom. Since your thoughts are the first steps toward your actions, you'll be setting yourself up for financial success.
So now that you've got 5 good reasons, there should be nothing holding you back from getting started with personal money management. Good luck and let me know how it goes!