To strike a balance between income, expenditure and investment, you first need a clear picture of your finances – in other words, a financial health check-up. Here’s how to go about it:
Step 1 – Know your debt-to-income ratio
There are EMIs for everything now, but they can lull people into a false sense of security as the debts creep up. Before you know it, you’ve borrowed more than you can repay.
Let’s say your gross monthly income is INR 40,000 and your EMI payments are INR 12,000. Your debt-to-income ratio is (12000/40000) i.e. 30%. Experts recommend keeping your debt-to-income ratio below 30%, but for those with low or inconsistent income, the recommended cap is just 20%.
If your debt-to-income ratio strays into the red zone, it’s time to rethink your expenditure and shift to non-debt creating investments – or better still, money-generating ones – such as equity shareholdings or mutual fund investments.
Step 2 – Weigh up your housing situation
As a youngster, chances are you live in a rented house. In most urban households, a major chunk of income goes towards rent payments. In 2020, the affordability index in Mumbai was 61%.¹But experts recommend that rent should not account for more than one-third (33%) of your income – so choose your property accordingly.
Step 3 – Keep tabs on your expenditure
When you’ve just started earning, it can be tempting to splurge. Try not to get carried away and lose sight of your goals and needs. It’s important to document your expenditure at all times, so you’ll know exactly when you’re spending too much. Stay in control by preparing a monthly budget with ‘essential’, ‘non-essential’, ‘recurrent’ and ‘one-time’ expenditures. Keep scrupulously within these limits – and if you feel like you want to spend more, consider a side venture or a freelance project to top up your income.
Step 4 – Refine your investment strategy
Plan your investments according to your values, goals and risk tolerance. It’s important to know your own mind. Are you a risk-taker, or do you play it safe? That decides whether you go for options like equity funds, debt funds, or a simple savings account. Do you want higher returns or safer investments? That could determine whether you buy stocks in a large-, mid- or small-cap company in the same asset class. Even as you plan, keep saving for a rainy day. It’s a good habit to build up 6-12 months’ worth of savings so you’re prepared for any emergency.
Step 5 – Set financial goals for yourself and your family
Every journey needs a roadmap and a destination, and your financial journey is no different. Set yourself a vision and clear investment goals, ideally in consultation with your family.
Make a list of short- and long-term personal and family goals. You could even match each investment to a specific goal. For instance, you could designate Systematic Investment Plans in Mutual Funds for your higher education. This makes it easier to track your progress towards achieving that goal by simply looking at the status of that investment.
So that’s your financial health check-up done! To recap – know your debt-to-income ratio, weigh up your housing situation, figure out your expenditure, finetune your investment strategy and set clear financial goals. Within no time, you’ll be well on your way to financial stability.
1) India: House price to income ratio 2020 | Statista
2) 5 Simple Steps To Evaluate Your Financial Health - Money Under 30