X-ray your finances before you get into 2021

As the year comes to a close, it helps to take a “back to basics” approach to re-evaluating your financial position. Knowing where you are and where you would like to be is the first step in diagnosing your financial health. Here is a chronological list that you may use to find out what your strengths are and which areas need emergency CPR. 

Assets. Do you have cash in your wallet? What about in your bank account, some retirement funds, properties or a home, a life insurance policy, a vehicle, stocks or bonds or even personal valuables like your grandfather’s vintage camera? All these are assets. Assets are an important piece of your financial puzzle because they determine your net worth. You can calculate your net worth by subtracting your liabilities from your assets. Liabilities include any debts owed, such as your mortgage or car payment. If you have more assets than liabilities, then you’ll end up with a positive net worth. Why should you know your net worth? Because you want it to be always positive by increasing your assets. Not only will this help your overall financial picture, but also set you on the path towards homeownership.

Budget. Author John C Maxwell said it first and said it best: “A budget is telling your money where to go instead of wondering where it went.” While budgeting is no mean feat, you can make it easier on yourself by using budgeting apps like Mint that also give you financial advice, such as how you could spend your money. App Money Lover also helps you track your income and expenses and you can do so in Kenya shillings unlike other dollar apps.

If apps do not work for you, follow the golden rule of budgeting – the rule says divide up after-tax income and allocate it to spend: 50 per cent on needs, 30 per cent on wants, and socking away 20 per cent to savings.

Credit score. A credit score is a three-digit number that lenders use to help them decide whether you get a mortgage, a credit card or some other line of credit, and the interest rate you are charged for this credit. The score is a picture of you as a credit risk to the lender at the time of your application. Scores range from approximately 300 to 850. When it comes to locking in an interest rate, the higher your score, the better the terms of credit you are likely to receive. The components used to determine your credit score include payment history, amounts owed, length of credit history and type of credit.

Debt. To get out of debt, start by writing down the total amounts of every single debt you owe, as well as the interest rates, monthly minimum payments, and payback lengths. Then, keep this document up to date. Use a maximum of 1/3 of your net pay in loan repayments. The best way to pay your debts is the avalanche method. It focuses on paying off the debt with the highest interest rate first and reduces the amount of money you pay back overall. Also avoid credit card debt, it is the most expensive.

Emergency Fund. If there’s anything 2020 has taught us is that when a rainy day comes, it pours hard. That’s why it is important to build an emergency fund. As a rule of thumb, an emergency fund should cover three to six months’ worth of living expenses. Now you see why a wedding isn’t an emergency? Only dip into your emergency savings account if you’ve lost your job, or have a medical emergency.

Financial Calendar. Get one. In personal finance, there are some activities that should happen on specific dates. For example, annual filing of returns, and getting a credit report. Missing these dates or events can amount to serious problems for you. Therefore, you have to create a financial calendar where you can mark these events and it will remind you when to perform them. Thanks to modern technology, this calendar can be synced up to your smart devices so it will remind you to perform these tasks automatically. For major periodic expenses, pay them on a monthly basis e.g. school fees. This shall avoid surprises and last minute rush.

Health. The biggest connection between health and wealth is the rising cost of medical expenses, which divert income that might otherwise be invested. Have a good medical cover in case of large, unforeseen medical expenses. Take NHIF for yourself and your relatives. Take your health seriously by eating healthy foods made at home instead of eating out every day and incorporating some daily moderate exercise. This means that you will actually enjoy your retirement years, pension and social security benefits in good health.

Inflation. Always consider inflation. Sh5,000 in 1970 bought you a car. In 1980 it could buy a motorcycle, in 1990, a bicycle, in 2010 a pair of sports shoes and in 2020, a pair of socks. Inflation refers to the general rising of prices for goods and services in the economy. Any time your savings don’t grow at the same rate as inflation, you will effectively lose money. The primary way to beat inflation is to invest your savings for a better return than you can get in money market accounts or savings accounts. There exist several money market funds in Kenya.  Find something suitable for your risk tolerance. You could also consider government bonds because they are more secure even if the returns are lower.

KRA. Filing your returns may be gruesome work but not doing it is worse and can lead to penalties. Though the fine should not exceed the tax in arrears, it can be of a considerable amount. If you’ve received tax deductions over the years for the money you’ve contributed to your retirement accounts, a significant tax bill awaits when you start withdrawing those savings. There are ways to minimise the retirement tax hit while you save for the future—and to continue the process when that day arrives and you actually do retire.

Lifestyle Creep. ‘How did I ever make it on less money?” If you ask yourself this, then you have been a victim of lifestyle creep. This is when living expenses and luxuries grow with income. Just as work expands to the time allotted, expenses will expand to the limit given.

When you get a raise or windfall and move to a bigger apartment, then your lifestyle is slowly creeping up on you. Enjoying luxuries is not a sin but wanting them all i.e. the car, house, private schools will keep your accounts in the red. Instead give your raise or bonus money a purpose immediately. If you go on a shopping spree every time your salary hits your account, join a chama or Sacco and have it deducted before you see it.

Money EQ. According to Ken Honda, Japan’s number 1 money teacher, Money EQ – your emotions when you think of money and how your subconscious mind makes financial decisions on autopilot – is the key that separates the minority who enjoy a happy and healthy relationship with money, from the majority who don’t. Learn about your money personalities and habits to avoid based on your money personality. That way you get to debunk myths about income and wealth and eliminate emotional decision making in money matters and spending.

Retirement. Why plan this early? Several reasons; To ensure you have a nest egg when out of a job or emergency. To continue with the same standard of living before and during retirement. For your own peace of mind and to acquire financial freedom and get out of the rat race. Plan from now. If you are in your 20s, you may be broke but you have time on your side. Take just 10-15 per cent of any earnings and commit it to retirement savings. Years to come, you will be grateful for the power of compounding interest. 

Savings. Create a savings plan and stick to it. Work out what you’re saving for and how much you plan to save every month. Then, try to get into a rhythm of putting money aside each month, without fail. An easier way to do this is to set up a standing order that deducts your savings at a certain date of every month, so you don’t ever have to ever see it in your current account. Another hack is saving as much as you can in your pension scheme. You save on taxes and can’t access your benefits easily because you have no debit or credit card.

Starting saving early helps because of the power of compounding interest.

X-ray your finances. Your financial X-ray is a look at every financial decision you’ve made – good or bad, right or wrong. It’s a financial overview that shows you your net worth.

You should look at your Financial X-Ray at least once a year. When you look at it you want to determine how your net worth has increased or decreased over the last year. Also look at any leverage points you have by identifying any opportunities to decrease the interest rate of your liabilities and look at how much accessible cash you have in case of an emergency.