Finance is something that everyone grapples with every day. Yet, like religion and sex, we don’t openly talk about it. Everyone has strong feelings about all three of these topics.
But no one wants to discuss it. At least not openly to colleagues or stranger you meet on the street. Heck, some people don’t even discuss it with their partners.
Many people have no idea about personal finance. We often don’t get any formal education on it. So it’s no wonder people generally don’t know about personal finance. Or their personal financial health.
And it doesn’t have to be hard. When you get down to it, most of what you need to know about personal finance is free. And it is easily obtained from the internet.
I have found many good resources on the basics of personal finance. A Lot of it is geared to the American market. What the hell is a 401k? So, I have decided to revamp with a Kiwi twist.
The 9 basic rule of personal finance- Kiwi Edition
1. Strive to save at least 10% of your income
Everyone should save at least 10% of your income. This is a rule that we are all familiar with. Yet, surprisingly few people actually act on it. Including me for many years.
To make it easier, I am a great advocate for paying yourself first. Automating savings. Schedule automatic transfer of the money you have chosen to save every single payday.
Once you have started to save, you will notice your stress levels reduce. Knowing that you have something saved in case of an emergency. And I mean a real emergency- not the release of the latest iPhone.
Sure this rule won’t work for everyone. There are definitely situations where people are struggling to get by. It all depends on your situation. When you do get to the stage that you can afford it, you need to save! Don’t let your lifestyle absorb the extra money.
2. Pay your debt obligations and credit card balance
You have any debt from credit cards or personal finance you need to work to pay that off even before you start saving! Paying down this debt will be the best return you will get on your money.
That is because Credit cards and personal finance charge very high-interest rates. Some are in the 20% per year rate. You will struggle to find a return of 20% on your money anywhere else!
Pay this debt down as soon as you can. Don’t stick to the minimum payment- pay as much per fortnight as possible. Once you have paid it off, direct the money you were using to pay down the debt into a savings account.
3. Pay upfront
When companies make it easier for you, like offering monthly payments, they are not doing it because they are nice. They are doing it to make money.
Often things like insurance, or gym memberships (if you really have to have one of those) offer different payment options. From monthly; fortnightly, or annually. Always pay annually, the total payment will be less! Monthly payments are usually more expensive.
Again, your situation may mean that you can’t do this. I would suggest putting away a small payment every month into a savings account to build up to next year’s payment.
4. Contribute to KiwiSaver.
This is equal to maxing out your 401k that the Americans always talk about. You need to contribute at least 3% to your KiwiSaver fund. This means you will get the entire 3% contribution from your employer. That’s like getting a 100% return on your money.
You also need to ensure that you get the annual tax credit, you also need to contribute $1043 per year. Then you can get the $521 tax credit. That is a return of 50% on your money. Again- you won’t find that elsewhere.
If you have a partner that is not working and looking after the family, make sure that you contribute $20 per week into their fund. That way, they can also get the tax credit.
Remember, this credit goes into your KiwiSaver account- so it will be much more than $521 when you retire. That little $521 will at least double, by the time you retire. (5% return over 20 years)
Tip: if you are still in the default KiwiSaver fund- you are leaving money on the table. The default schemes have, on average, performed worse than the other funds.
5. Buy index funds
When it comes time to invest- you should always invest in index funds. Don’t try to be a master at picking stocks. And don’t buy and sell stocks.
Unless you’re Warren Buffett, you don’t know the best time to buy and sell stocks. Heck, even Warren Buffett didn’t trade stocks- his rule was to hold for long periods of time- years.
People generally chase returns. This leads them to buy at the wrong time. Buying when stocks are producing good returns. And selling when they are not. Buying high and selling low is a great way to burn through your investment portfolio.
And at the end of the day, you will not beat an index fund. So why go through the time and effort. By the index fund and leave it. There is a little risk if you hold for long periods of time. Check out my article on the odds of losing money investing in the NZX50
There are many index funds providers now with low fees- I use InvestNow, but there are others out there.
Admittedly, this is a rule I need to put in place myself. I have invested in several managed fund with higher fees than the typical index fund.
6. Diversification your investment
Your investment portfolio needs to be diversified. You are already exposed to many companies when you buy index funds—much more than if you buy stocks in one company.
But to go even further, you should invest in several index funds, both in New Zealand and overseas. This will protect you if there is a large downturn in New Zealand.
And if there is a large turndown. Hold- remember that the losses you see are just on paper. They are not real at this state. Once you sell the index fund, they become real. If you can, hold out, and after a few years, they will be back to where they were.
7. Change your investment strategy as you grow older
Your investment strategy needs to be more aggressive- attracting high return investment-when you’re young. And it needs to be more conservative when you get older.
That might mean taking money out of higher-risk funds and allocating them into safer options like bank term deposits.
This should be the same as your KiwiSaver. Many providers give you an option to enrol in a lifetime option. These automatically change you from aggressive through to conservative as you grow. This is convenient if you don’t want to manage your KiwiSaver actively.
8. Buy a home when you can afford it
Kiwis are obsessed with houses. We’re conditioned to believe that we have succeeded when we have bought a home. It is an admirable goal. But, it would be best if you thought of your home as a consumption item. An item that helps you in your life, like your car. Not an investment.
In reality, our homes are the most leveraged and non-diversified investment in your life.
The reserve banks have made it clear that you can only afford to buy a house when you have the 20% down payment. That doesn’t; mean that you can afford it. You need to have the money to pay for the mortgage. But also you need money to pay for the insurance, maintenance, council rates. And any unforeseen issues with your home.
They are good commitment device through- a sort of forced savings plan. This works well for people who struggle with rule 1- saver 10% of your income. And this is exactly what we do. Our mortgage is our commitment device.
They are great commitment devices- So long as you use it as a commitment device! You have to commit to it and not be tempted to dip into the equity, especially if house prices have gone through the roof.
Remember, like index funds, the value of your house is on paper. It’s not real until you sell your house. So borrowing against it is not a great idea. Look what happened in 2008. People were left with a house worth less than the money they have borrowed against them.
9. Make sure you are protected
It would be best if you got insurance. The purpose is to protect you for when you have a life-changing event. Not for the $500 problem of when you drop your phone and the screen breaks. But rather- the $50,000 problem of a tree falling on your house, leaving you without a kitchen.
If you have a family, you also need life insurance as people depend on you. What would happen to them if something unfortunate happened to you and you couldn’t work anymore?
It would also be best if you got the largest excess you can on your house and contents insurance. We have renewed our house with a $5000 excess, and contents with $1000 excess
It cost your insurer more to pay out for all the small claims. So if you opt into a plan with a higher excess, they put you in the group that isn’t going to make smaller claims. They can then give you a better insurance premium.
Remember, insurance is important to guard against the big things, not the small things.
Oh, and shop around for insurance- don’t go for the first quote you get. You will be surprised at how much you can save. I’ve found Cove to be the best value car insurer.
Remember all the other rules!
Share so that others can learn too!
These rules are not something I have made up from scratch. Rather- these rules are based on the book- The index card- why personal finance doesn’t have to be complicated. The book is great! Admittedly, I read it a couple of years ago about time for a re-read.