In my last article, we started talking about the personal finance rules of Thumb and we talked about the first five.
Warren Buffet said it is better to be approximately right than precisely wrong
When it comes to financial rules of thumb it is more a matter of having been close to your financial goals than having nothing at all.
Here are the last 5 financial rules of thumb you can consider.
Student Loans
The First Year Salary Rule
A general rule is that you should not take more student loans than you would expect to make in your first year of employment.
Up Side: this will ensure you will take up an amount that you will be able to pay back comfortably without too much strain.
Downside: With the ever-rising cost of education and also standards of living have made this quite a challenge and so has the unemployment rates that have been increasing.
Currently, in Kenya, the student debt has been increasing the repayment of these loans has not increased as the disbursement and this rule is almost impossible to implement.
To get a realistic idea of what your income and repayment plan will look like, you will need to look into how hard it is to pay your student loan based on the course that you are taking.
You can look into the cost of tuition in different colleges and see which one you can comfortably afford.
Home Ownership
My dream house is one with a big backyard, with green carpet grass and definitely a pool and someplace to host a barbeque for some friends during some public holiday or even some planned girls’ day.
The 20% Rule
According to this rule of thumb, you will need to have at least 20% as a down payment for your house.
Up Side: this rule will ensure that you do not spend more on a home that you cannot afford. This will also lower your monthly mortgage contribution and it will also improve your chances of getting a home loan approved.
Downside: It a very traditional approach to home ownership and it is a very safe bet as per some opinion. Others find that amount to be too much to save hence the goal might look too ambitious. In other cases, some will I as much as the house is an asset, you should not give up your liquidity or savings to have one. With all other reasons that we might have, the bottom line is, some might find this rule to be unrealistic.
The Income Rule
Under this rule for homeownership, do not buy a house that costs more than three years of your gross yearly income. What are the variations? Two years others two and a half years.
Upside: This gives an estimated amount on what limit your house price should be or at least what amount you can comfortably afford.
Downside: If your job is not stable, this rule of thumb might not be as applicable as it does not consider the money you have in your savings especially should something interfere with your source of income hence this might make much sense if it is based on your net worth rather than your income.
As a reminder, these are general rules and are only here to help you give an approximate figure of how much money you will need when you will need to think about homeownership.
There are other lists of expenses and consideration you will need to take in into consideration before purchasing a home which we shall consider at a later date.
Investing Rule
Age Rule Stocks
One of the most conservative investments is the bonds and stocks are the riskier partners. Most investment experts will advise that as you grow old, you will need to be more conservative with your investments and hence invest less and less in stocks.
To make a sense to it, they say that you will need to subtract your current age from 120. The old rule was 100, the experts say 120 makes more sense. The difference is the percentage of your investment portfolio that should be invested in stocks.
Upside: This will give you an overview what your portfolio asset allocation should be like based on your age.
Downside: This rule usually does not take into consideration how low some rate of return we have to be satisfied with. It also makes an assumption n your retirement based on your current age. In the case of you wanting to retire early, you will need to make some adjustments to fit your goals.
Life Insurance
When it comes to life insurance, the thumb rule is that you will need to have at least five times your gross salary in life insurance coverage.
Upside: This will give you a good guide as to how much money your family will need so as to meet their day-to-day needs and then slowly adjust to a life without you as a breadwinner.
Downside: If you are a major contributor or the sole breadwinner in your home and maybe you do not believe that the earnings of your partner to be enough to replace your income in the case of your death, then you might need to take up more coverage hence you will need at least 10 times your annual income for your life cover.
Many of the rules discussed here are quite true and tested as a means to plan your personal finances. Remember, your finances are personal and these rules of thumb should be a good starting point.
Of all the rules that I have come to appreciate the most, to stay on top of your finances, you will need to research and personalize your planning.
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