Your financial rules of thumb
Financial rules of thumb are designed to give you quick guidelines for managing your finances. However, you shouldn't follow them without giving some thought to your personal circumstances.
It's especially easy for young people to get into debt with the constant use of hire-purchase agreements and easy access to credit cards, according to Francine Richards, client relations officer at E.W Lewis Investments and Financial Limited.
"Once a person is employed, most financial institutions will give that person a credit card. These individuals see this as free money, therefore their money management starts to go downhill," she said.
"Hire-purchase and credit card usage allow for the easiest forms of debt - therefore when it comes to hire purchases, it is best to save its use for major purchases, such as buying a car or a house," she continued.
Richards also advised that instead of relying on hire-purchase, it is always best to save and purchase items by cash.
More common financial rules
Save 10 per cent of your gross income
While this will give you a good start, it is typically the minimum, not the maximum, which you should be saving. Determine how much you will need for your financial goals, and then decide how much to save every year.
Plan on spending 80 per cent of your pre-retirement income during retirement
This may work if you don't plan on being very active during retirement, but more people expect retirement to include extensive travel and expensive hobbies. On the other hand, if you've paid off your mortgage and your children have finished college, you may need less than this. Review your individual situation and desires for retirement to determine how much you will need.
Set the percentage of stocks in your portfolio to 100 minus your age
With increased life expectancies, this can result in your portfolio being a too heavily weighted income investment. Set your asset allocation based on your risk tolerance and time horizon for investing. Even after retirement, stocks may comprise a significant portion of your portfolio.
Keep three to six months of income in an emergency fund
While an emergency fund is a good idea, how much to keep in that fund will depend on your circumstances. You may need a larger reserve if you are the sole wage earner in the family, work at a seasonal job, own your own company, or rely on commissions or bonuses. A smaller reserve may be required if you have more than one source of income, can borrow significant sums quickly, or carry insurance to cover many emergencies.
Pay no more than 20 per cent of your take-home pay toward short-term debt
Once considered a firm rule by lenders, you can obtain loans even if you exceed this amount. However, do not become complacent if you meet this rule of thumb, since a large percentage of your income is still going to pay debt. Try to reduce your debt, or at least reduce the interest rates on that debt.
Keep your mortgage or rent payment to no more than 30 per cent of your gross pay
While you can obtain a mortgage for more than that, staying within this rule will help ensure you have money to devote to other financial goals.
Obtain life insurance equal to six times your annual income
Different individuals require vastly different amounts of insurance, depending on whether one or both spouses work, whether minor children are part of the family, or whether insurance is being obtained for other needs, such as to fund a buy or sell agreement or to help pay estate taxes. Thus, you should determine your precise needs before purchasing insurance.
Note: Most financial rules of thumb should not be followed without first considering your individual circumstances.