Personal finance

Personal finance is the financial management that an individual or a family unit performs to budget, save, and spend monetary resources in a controlled manner, taking into account various financial risks and future life events.

When planning personal finances, the individual would take into account the suitability of various banking products (checking accounts, savings accounts, credit cards, and loans), insurance products (health insurance, disability insurance, life insurance, etc.), and investment products (bonds, stocks, real estate, etc.), as well as participation in monitoring and management of credit scores, income taxes, retirement funds and pensions.

History
Before a specialty in personal finance was developed, various disciplines which are closely related to it, such as family economics, and consumer economics, were taught in various colleges as part of home economics for over 100 years.

The earliest known research in personal finance was done in 1920 by Hazel Kyrk. Her dissertation at University of Chicago laid the foundation of consumer economics and family economics. Margaret Reid, a professor of Home Economics at the same university, is recognized as one of the pioneers in the study of consumer behavior and Household behavior.

In 1947, Herbert A. Simon, a Nobel laureate, suggested that a decision-maker did not always make the best financial decision because of limited educational resources and personal inclinations. In 2009, Dan Ariely suggested the 2008 financial crisis showed that human beings do not always make rational financial decisions, and the market is not necessarily automated and corrective of any imbalances in the economy.

Research into personal finance is based on several theories, such as social exchange theory and andragogy (adult learning theory). In America, professional bodies such as American Association of Family and Consumer Sciences and the American Council on Consumer Interests started to play an important role in developing this field from the 1950s to the 1970s. The establishment of the Association for Financial Counseling and Planning Education (AFCPE) in 1984 at Iowa State University and the Academy of Financial Services (AFS) in 1985 marked an important milestone in personal finance history in the US. Attendances of the two societies mainly come from faculty and graduates from business and home economics colleges. AFCPE started to offered several certifications for professionals in this field, such as Accredited Financial Counselor (AFC) and Certified Housing Counselor (CHC). Meanwhile, AFS cooperates with Certified Financial Planner (CFP Board).

Before 1990, the study of personal finance received little attention from mainstream economists and business faculties. However, several American universities such as Brigham Young University, Iowa State University, and San Francisco State University started to offer financial educational programs in both undergraduate and graduate programs since the 1990s. These institutions published several works in journals such as The Journal of Financial Counseling and Planning and the Journal of Personal Finance.

As the concerns about consumers' financial capability increased during the early 2000s, various education programs emerged, catering to a broad audience or a specific group of people, such as youth and women. The educational programs are frequently known as "financial literacy". However, there was no standardized curriculum for personal finance education until after the 2008 financial crisis. The United States President's Advisory Council on Financial Capability was set up in 2008 to encourage financial literacy among the American people. It also stressed the importance of developing a standard in financial education.

Personal finance principles
It is hard to define universal personal finance principles because:


 * individual situations vary significantly when it comes to income, wealth, and consumption requirements
 * tax and financial regulations vary between countries
 * market conditions change both geographically and over time.

A financial advisor can offer personalized advice in complicated situations and for high-wealth individuals. Still, University of Chicago professor Harold Pollack and personal finance writer Helaine Olen argue that in the United States, good personal finance advice boils down to a few simple points:
 * Pay off credit card balances every month in full
 * Dedicate 10-20% of post-tax income for savings and investments
 * Create an emergency fund that can last at least 6 months
 * Maximize contributions to tax-advantaged funds such as a 401(k) retirement funds, individual retirement accounts, and 529 education savings plans
 * When investing savings:
 * Avoid trading individual securities
 * Look for low-cost, diversified mutual funds that balance risk vs. reward appropriately to an individual's target retirement year
 * If using a financial advisor, require them to commit to a fiduciary duty to act in an individual's best interest

Personal financial planning process
The key component of personal finance is financial planning which is a dynamic process requiring regular monitoring and re-evaluation. In general, it involves five steps:
 * 1) Assessment: A person's financial situation is assessed by compiling simplified versions of financial statements, including balance sheets and income statements. A personal balance sheet lists the values of personal assets (e.g., car, house, clothes, stocks, bank account, cryptocurrencies), along with personal liabilities (e.g., credit card debt, bank loan, mortgage). A personal income statement lists personal income and expenses.
 * 2) Goal setting: Multiple goals are expected, including short- and long-term goals. For example, a long-term goal would be to "retire at age 65 with a personal net worth of $1,000,000", while a short-term goal would be to "save up for a new computer in the next month." Setting financial goals helps to direct financial planning by determining the parameters and expectations one aims to achieve.
 * 3) Plan creation: The financial plan details how to accomplish the financial goals set in the previous step. It could include, for example, reducing unnecessary expenses, increasing employment income, or investing in the stock market.
 * 4) Execution: Execution of a financial plan often requires discipline, perseverance and sacrifice. Many people take assistance from professionals such as accountants, financial planners, investment advisers, and lawyers.
 * 5) Monitoring and reassessment: The financial plan is monitored in regular intervals to determine if one is on track to reach their goals. This information is evaluated to make potential adjustments as time passes and circumstances change.

Typical goals that most adults and young adults have are paying off credit card/student loan/housing/car loan debt, investing for retirement, investing for college costs for children, and paying medical expenses.

Goals for personal finance
In the modern world, there is a growing need for people to understand and take control of their finances because of the following reasons:

1. Lack of comprehensive formal education: Although many countries have some formal education for personal finance, the Organization for Economic Co-operation and Development (OECD) studies show low financial literacy in areas it is not required, even in developed countries like Japan.


 * Personal finance in public education is not always required, with just under 30% of high schools in the US in 2024 not having personal finance as a graduation requirement.
 * Graduate students with financial educations averaging higher credit scores and receiving more favorable loan conditions.
 * Hence, it is essential to associate the connection of financial courses in the education system and the generational shift of personal financial educations.

This illustrates the importance of learning personal finance from an early stage, to differentiate between needs vs. wants, improve financial literacy, and to build financial planning skills..

2. Shortened employable age: Over the years, with the advent of automation and changing needs; it has been witnessed across the globe that several jobs that require manual intervention or that are mechanical are increasingly becoming redundant.


 * Several employment opportunities are shifting from countries with higher labor costs to countries with lower labor costs keeping margins low for companies.
 * In economies with a considerably large younger population entering the workforce who are more equipped with the latest technologies, several employees in the middle management who have not up-skilled are easily replaceable with new and fresh talent that is cheaper and more valuable to the organizations.
 * Cyclical nature of several industries like automobile, chemicals, construction; consumption and demand is driven by the health of the countries economy. It has been observed that when economies stagnate, are in recession, and in war - specific industries suffer more than others. This results in companies rationalizing their workforce. An individual can lose their job quickly and remain unemployed for a considerable time. All these reasons bring to the realization that the legal employable age of 60 is slowly and gradually becoming shorter.

These are some of the reasons why individuals should start planning for their retirement and systematically build on their retirement corpus, hence the need for personal finance.

3. Increased life expectancy: With the developments in healthcare, people today live till a much older age than previous generations. The average life expectancy has increased even in developing economies. The average life expectancy has gradually shifted from 60 to 81 and upwards, which coupled with a shorter employable age reinforces the need for a large enough retirement corpus and the importance of personal finance.

4. Rising medical expenses: Medical expenses including cost of prescription medicine, hospital admission care and charges, nursing care, specialized care, geriatric care have all seen an exponential rise over the years. Many of these medical expenses are not covered through insurance policies that might either be private/individual insurance coverage or through federal or national insurance coverage.


 * In developed markets like the US, insurance coverage is provided by either the employers, private insurers or through federal government (Medicare, primarily for senior citizens or Medicaid, primarily for individuals of lower income levels). However, with the rising US fiscal deficit and large proportion of the senior population, it needs to be seen whether the extent of the Medicare program is sustainable in the long run, therapy exclusions in the coverage, co-pay, deductibles - several cost elements are to be borne by individuals continually.
 * In other developed markets like the EU, most medical care is nationally reimbursed. This leads to the national healthcare budgets being very tightly controlled. Many newer, expensive therapies are frequently excluded from national formularies. This means that patients may not have access through the government policy and would have to pay out of pocket to avail of these medicines
 * In developing countries like India, China, most of the expenses are out of pocket as there is no overarching government social security system covering medical expenses.

These reasons illustrate the need to have medical, accidental, critical illness, life coverage insurance for oneself and one's family as well as the need for emergency corpus;.

Areas of focus
Critical areas of personal financial planning, as suggested by the Financial Planning Standards Board, are: Although credit can provide a variety of benefits and opportunities to the borrower, it is important to fully understand the advantages and disadvantages of borrowing to ensure sound financial decisions. Using credit indiscriminately and lack of sufficient education can land an individual into debt and disadvantaged situations. Typical downsides of using credit are:
 * 1) Financial position: Financial position is concerned with understanding the personal resources available by examining net worth and household cash flow. Net worth is a person's balance sheet, calculated by adding up all assets under that person's control, minus all household liabilities, at one point. Household cash flow is the total of all the expected income sources within a year minus all expected expenses within the same year. From this analysis, the financial planner can determine to what degree and when the personal goals can be accomplished.
 * 2) Adequate protection: or insurance, is the analysis of how to protect a household from unforeseen risks. These risks can be divided into liability, property, death, disability, health, and long-term care. Some wagers may be self-insurable, while most require an insurance contract. Determining how much insurance to get, at the most cost-effective terms, requires knowledge of the market for personal insurance. Business owners, professionals, athletes, and entertainers need specialized insurance professionals to protect themselves adequately. Since insurance also enjoys some tax benefits, utilizing insurance investment products may be critical to the overall investment planning.
 * 3) Tax planning: typically, the income tax is the single largest expense in a household. Managing taxes is not a question of whether or not taxes will be paid but when and how much. The government gives many incentives in the form of tax deductions and credits, which can be used to reduce the lifetime tax burden. Most modern governments use a progressive tax. As one's income grows, a higher marginal rate of tax must be paid. Understanding how to take advantage of the myriad tax breaks when planning one's finances can be significantly impactful.
 * 4) Investment and accumulation goals: planning how to accumulate enough money for large purchases and life events is what most people consider financial planning. Significant reasons to get assets include purchasing a house or car, starting a business, paying for education expenses, and saving for retirement.
 * Achieving these goals requires projecting their costs and when to withdraw funds. A significant risk to the household in achieving their accumulation goal is the rate of price increases over time, or inflation. Using net present value calculators, the financial planner will suggest a combination of asset earmarking and regular savings to be invested in various investments. To overcome the rate of inflation, the investment portfolio has to get a higher rate of return, which typically will subject the portfolio to several risks. Managing these portfolio risks is often accomplished using asset allocation, which seeks to diversify investment risk and opportunity. This asset allocation will prescribe a percentage allocation for stocks, bonds, cash, and alternative investments. The budget should also consider every investor's risk profile since risk attitudes vary from person to person.
 * Depreciating Assets- One thing to consider with personal finance and net worth goals is depreciating assets. A depreciating asset is an asset that loses value over time or with use. A few examples would be the vehicle a person owns, boats, and capitalized assets. They add value to a person's life, but unlike other assets, they do not make money and should be a class of their own. In the business world, these are depreciated over time for tax and bookkeeping purposes because their useful life runs out. This is known as accumulated depreciation, and the asset will eventually need to be replaced.
 * 1) Retirement planning is understanding how much it costs to live at retirement and developing a plan to distribute assets to meet any income shortfall. Methods for retirement plans include taking advantage of government-allowed structures to manage tax liability, including individual (IRA) structures or employer-sponsored retirement plans.
 * 2) Estate planning involves planning to disposition one's assets after death. Typically, a tax is due to the state or federal government when one dies. Avoiding these taxes means more of one's assets will be distributed to their heirs. One can leave their assets to family, friends, or charitable groups.
 * 3) Delayed gratification: Delayed gratification, or deferred gratification, is the ability to resist the temptation for an immediate reward and wait for a later reward. This is thought to be an important consideration in the creation of personal wealth.
 * 4) Cash Management: It is the soul of financial planning, whether a person is an employee or planning for retirement. It is a must for every financial planner to know how much they spend before their retirement so that they can save a significant amount. This analysis is a wake-up call as many of us know our income, but very few track their expenses.
 * 5) Revisiting Written Financial Plan Regularly: Make monitoring a financial plan regularly a habit. An annual financial planning review with a professional keeps people well-positioned and informed about the required changes, if any, in personal needs or life circumstances. It would be best to be prepared for all the sudden curve balls life throws.
 * 6) Education Planning: With the growing interest in students' loans, having a proper financial plan in place is crucial. Parents often want to save for their kids but make the wrong decisions, adversely affecting the savings. We often observe that many parents give their kids expensive gifts or unintentionally endanger the opportunity to obtain the much-needed grant. Instead, one should make their kids prepare for the future and support them financially in their education.
 * 7) Real Estate Planning:  Shelter is a basic human need, and as such, it is imperative that one understands how to obtain a place to live and at the same time maintain their financial security. Housing can be very complicated, with decisions regarding buying or renting, mortgages, insurance, taxes, utilities, maintenance, etc. Apartment or house?  That question is crucial for any individual as each option has pros and cons.
 * Buy or Rent: If a person chooses to buy a house, they can make a financial investment in a home and improve their credit score and history. Home ownership can make life more stable. The price of the house, including the down payment, monthly mortgage payment, repair and maintenance costs, HOA fees, utilities, insurance, property taxes, and other costs, are considerations. If one choose to rent a home, there is no need to worry about maintenance and real estate taxes. Moving to a different location can also be easier. Expenses for renters may include electricity, water, internet, parking, and pet fees.
 * Mortgages: When purchasing a home/real estate, it is essential to understand the options. Most people either go with a 15- or 30-year plan. The payment rate can be a fixed plan, a constant payment of the same amount over a certain period. The other is an ARM mortgage (Adjustable-Rate Mortgage). This rate can be adjusted and agreed upon to be changed in the given plan depending on mortgage rate fluctuations. Mortgage plans depend on a person's situation, and it is essential for potential borrowers to assess their credit score and financial status when contemplating plans.
 * Location / Wants and Needs: When choosing a new home, it is essential to consider the location, along with the qualities that are desired and needed in a home. These variables can increase or decrease the price of an estate. Location-related considerations include a city or rural location, length of commute, the importance of quality public schools, level of safety, the amount of land, included amenities, proximity to family. Examples of variables that would affect the value of an estate include but are not limited to, the quality of school systems in that area, proximity to the community, shopping and entertainment/recreation, safety levels and crime rates of the neighborhood, amenities, and land size and surrounding developments. It is essential to keep all of this in mind when thinking about the future value of a home.
 * 1) Credit: A line of credit is the ability of a customer to receive goods or services prior to payment with the promise that the debt will be repaid in the future, often with interest and or fees. Credit can be acquired through a variety of means, including unsecured debts such as personal loans, student loans, and credit cards, as well as secured debts such as car loans and mortgages. Using debt as a means to purchase goods and services brings about a variety of pros and cons that the consumer must become educated on before diving in. Some examples of the benefits of using credit are as follows:
 * 2) * Building credit: A credit score is a measurement of a borrowers trustworthiness to a lender, ranging from 300-850. Improvements to one’s credit score are determined by a variety of factors, including making payments on time, keeping low outstanding balances, having credit lines open for long periods of time, applications for credit accounts, and variety of accounts open. These factors help lenders to determine the amount of money and the interest rate they are willing to grant to each individual applicant.
 * 3) * Buy now, pay later: Although saving up and using cash is often the most preferable option, many people resort to credit to make purchases before they have the funds to do so. For example, getting loans for major purchases such as houses and cars allows the borrower to use these goods while they pay them off over time.
 * 4) * Emergencies: Although an emergency fund is widely considered the best way to cover emergency expenses, credit allows those without emergency funds to temporarily offset the financial burden of an emergency.
 * 5) * Perks and Bonuses: Many lenders incentivize borrowers to use their lines of credit, such as credit cards, by offering perks such as travel kickbacks, sign-on bonuses, and purchase protections. When used properly by paying balances in full each month, these rewards allow the borrower to take advantage of perks they would not otherwise have access to through the use of debit cards.


 * Overuse: Due to the nature of credit, borrowers are able to spend money even when they do not have the ability to pay off. This puts the borrower in a position of financial distress where they become dependent on debt.


 * Interest and Fees: Interest and fees are levied by the lender on the borrower to profit from the process of lending. By holding balances for long periods of time a borrower will accrue interest resulting in having to pay back more money than originally borrowed.


 * Monthly Payments: Many lenders often require minimum payments at regular intervals to see return on their lending. If a borrower builds up high amounts of debt, these minimum payments can grow larger and become overwhelming.

Education and tools


According to a survey done by Harris Interactive, 99% of the adults agreed that personal finance should be taught in schools. Financial authorities and the American federal government had offered free educational materials online to the public. However, a Bank of America poll found that 42% of adults were discouraged. In comparison, 28% of adults thought that personal finance is difficult because of the vast amount of online information. As of 2015, 17 out of 50 states in the United States require high school students to study personal finance before graduation. The effectiveness of financial education on general audience is controversial. For example, a study by Bell, Gorin, and Hogarth (2009) stated that financial education graduates were more likely to use a formal spending plan. Financially educated high school students are more likely to have a savings account with regular savings, fewer overdrafts, and more likely to pay off their credit card balances. However, another study done by Cole and Shastry (Harvard Business School, 2009) found that there were no differences in saving behaviors of people in American states with financial literacy mandate enforced and the states without a literacy mandate.

Kiplinger publishes magazines on personal finance.