Be Financially Aware
Making sure you contribute enough to your personal pension is a great start to ensuring that you have more choices about when you want to retire. However, this on its own isn't going to be enough for everyone. For most people it is going to be important to be 'financially aware' along the path. By this I mean being aware of the following:
1) Spend wisely
2) Avoid debt
3) Be aware of tax breaks
4) Don't save - invest
Let's take a quick look at these four areas in turn.
Spend Wisely
Mindless spending on a day to day basis can quickly add up. What seem like relatively small insignificant purchases can slowly erode your money and be the biggest destroyer of wealth over time. Spending less than you make is the key to accumulating wealth. It's not always easy, but the principle is simple. To avoid overspending, you first need to master your cash flow. Start by monitoring your spending habits over a month. After writing down every purchase made and pound spent in a month, you’ll begin to notice patterns in where your money is going and where it’s possible to cut back. One of the hardest parts of personal finance is striking a balance between establishing a comfortable lifestyle and consistent savings. The only way to strike that balance is to intimately understand how money comes in and out of your life. Additionally, you should try to avoid giving into “lifestyle creep” in your 30s, which may happen when your pay starts to rise and subsequently you increase spending to meet the new income. People often justify their lifestyle creep by maintaining that they deserve to spend more or by comparing their spending habits to those of others. However, you should try to resist this line of thinking. Instead, keep a track of your cash flow and individual spending habits. Your spending is yours, it's up to you to own it. For further info on this topic go to the Spend Wisely section within this website.
Avoid Debt
Whilst it may not always be possible to avoid debt, doing so as much as possible can really help you grow your wealth. A couple of obvious debts that are difficult to avoid are your mortgage and student loans. Unless you have £300,000 or so sitting around in your 20s or 30s, then you are probably going to have to borrow money (via a mortgage) to buy somewhere to live. And if you attended university then again you are likely to have 'borrowed' to pay for tuition fees and living expenses. However, moving these two aside, you should avoid any other type of debt as much as you can for the simple reason that debt causes you to pay interest, which means that you end up paying significantly more for your purchase, which eats in to your ability to create wealth. Even if you get an interest free credit agreement, this can also impact your ability to create wealth as you then are buying beyond your means, and your future cash is being used to fund this (which may be better utilised for investing).
Be Aware of Tax Breaks
Many people end up paying more tax than they need to. It really is worth spending a little amount of time understanding the tax you pay and if there are any tax breaks that you are entitled to. Have you checked that your tax code is correct? Are you eligible for married couples allowance? What about Child benefit or any other benefits? Significantly, you can also utilise your pension and ISA allowances to help reduce your tax burden. Any money you invest in a pension is invested before you pay tax, and if you are a higher rate tax payer you can also reclaim the additional tax you have paid (pension tax relief is currently only at 20%). Any money you invest in an ISA is also sheltered from any tax liability and so interest earned is tax free. Currently the Lifetime ISA looks quite attractive where the government will add an extra 25% to your contributions each year (within limits).
Don't Save - Invest
Simply put, saving is where you put money in a bank and gain a guaranteed interest from it. Your money is secure as all UK-regulated current or savings accounts and cash ISAs in banks, building societies and credit unions are covered by the Financial Services Compensation Scheme (FSCS), which currently covers you for up to £85,000 per financial institution. However, these savings accounts don't pay much interest. Some are so poor as to be scandalous! If you can get close to 1.5% interest you are probably doing well, and many will pay rates around 0.2%! If inflation is running at 1.5%, then at best, your money is not growing, and at worse you are losing money in real terms. This doesn't mean that there is no place for these types of accounts. It just means that you shouldn't put all your money here. Many financial advisors will actually say that you should have 6 months of easily available money to access should you need it. These types of savings accounts are great for this. Find the best easy access account you can and put your money there.
Investing your money is where you take on a certain level of risk to gain better returns for your money. The longer you have to invest, the greater the risk you can take. Money you invest in your pension is an obvious example of this. Because your money is being invested for many years, the stock market may go up and down along the way, but overall it is likely to go in an upward trajectory. Stocks and Shares ISAs and property are typical examples of where you can invest, and more recently, Peer to Peer lending. These types of investments can often give you much higher returns over the long term, but can be quite volatile over the short term.
1) Spend wisely
2) Avoid debt
3) Be aware of tax breaks
4) Don't save - invest
Let's take a quick look at these four areas in turn.
Spend Wisely
Mindless spending on a day to day basis can quickly add up. What seem like relatively small insignificant purchases can slowly erode your money and be the biggest destroyer of wealth over time. Spending less than you make is the key to accumulating wealth. It's not always easy, but the principle is simple. To avoid overspending, you first need to master your cash flow. Start by monitoring your spending habits over a month. After writing down every purchase made and pound spent in a month, you’ll begin to notice patterns in where your money is going and where it’s possible to cut back. One of the hardest parts of personal finance is striking a balance between establishing a comfortable lifestyle and consistent savings. The only way to strike that balance is to intimately understand how money comes in and out of your life. Additionally, you should try to avoid giving into “lifestyle creep” in your 30s, which may happen when your pay starts to rise and subsequently you increase spending to meet the new income. People often justify their lifestyle creep by maintaining that they deserve to spend more or by comparing their spending habits to those of others. However, you should try to resist this line of thinking. Instead, keep a track of your cash flow and individual spending habits. Your spending is yours, it's up to you to own it. For further info on this topic go to the Spend Wisely section within this website.
Avoid Debt
Whilst it may not always be possible to avoid debt, doing so as much as possible can really help you grow your wealth. A couple of obvious debts that are difficult to avoid are your mortgage and student loans. Unless you have £300,000 or so sitting around in your 20s or 30s, then you are probably going to have to borrow money (via a mortgage) to buy somewhere to live. And if you attended university then again you are likely to have 'borrowed' to pay for tuition fees and living expenses. However, moving these two aside, you should avoid any other type of debt as much as you can for the simple reason that debt causes you to pay interest, which means that you end up paying significantly more for your purchase, which eats in to your ability to create wealth. Even if you get an interest free credit agreement, this can also impact your ability to create wealth as you then are buying beyond your means, and your future cash is being used to fund this (which may be better utilised for investing).
Be Aware of Tax Breaks
Many people end up paying more tax than they need to. It really is worth spending a little amount of time understanding the tax you pay and if there are any tax breaks that you are entitled to. Have you checked that your tax code is correct? Are you eligible for married couples allowance? What about Child benefit or any other benefits? Significantly, you can also utilise your pension and ISA allowances to help reduce your tax burden. Any money you invest in a pension is invested before you pay tax, and if you are a higher rate tax payer you can also reclaim the additional tax you have paid (pension tax relief is currently only at 20%). Any money you invest in an ISA is also sheltered from any tax liability and so interest earned is tax free. Currently the Lifetime ISA looks quite attractive where the government will add an extra 25% to your contributions each year (within limits).
Don't Save - Invest
Simply put, saving is where you put money in a bank and gain a guaranteed interest from it. Your money is secure as all UK-regulated current or savings accounts and cash ISAs in banks, building societies and credit unions are covered by the Financial Services Compensation Scheme (FSCS), which currently covers you for up to £85,000 per financial institution. However, these savings accounts don't pay much interest. Some are so poor as to be scandalous! If you can get close to 1.5% interest you are probably doing well, and many will pay rates around 0.2%! If inflation is running at 1.5%, then at best, your money is not growing, and at worse you are losing money in real terms. This doesn't mean that there is no place for these types of accounts. It just means that you shouldn't put all your money here. Many financial advisors will actually say that you should have 6 months of easily available money to access should you need it. These types of savings accounts are great for this. Find the best easy access account you can and put your money there.
Investing your money is where you take on a certain level of risk to gain better returns for your money. The longer you have to invest, the greater the risk you can take. Money you invest in your pension is an obvious example of this. Because your money is being invested for many years, the stock market may go up and down along the way, but overall it is likely to go in an upward trajectory. Stocks and Shares ISAs and property are typical examples of where you can invest, and more recently, Peer to Peer lending. These types of investments can often give you much higher returns over the long term, but can be quite volatile over the short term.