Friday, June 21, 2013

7 Rules to Better Manage Your Money

 Every game has rules; managing and saving money are no different. Rules are a good thing; they set boundaries and keep people out of trouble, provided the rules are followed. By adding the rules that follow in this article, you can bet that your financial situation will improve. Here are 7 rules to to manage your money more wisely.

1. Needs vs. Wants 

If we all limited ourselves to our true needs, most of our money problems would disappear. After all, we don't really need much: food, water, shelter, and some company. At the same time, there are a variety of ways to satisfy those needs. For example, we can choose to eat beans every night or we can have a steak. There's also a difference between a tent and a $5 million home. 

Most material things in this world are entirely optional, and most of us have limited resources. Make sure you're not buying more than you need.

2. Don't spend new money 

New money is a raise or a financial windfall. You were already surviving without that money so don't expand your lifestyle to accommodate your new income. In general, we are not miserable because we don't have a new car or a bigger house; we are miserable because we can't pay our bills on time. Invest all the increases in your income and someday you can buy all the stuff you want. 

3. There is always an opportunity cost. 

Every decision has a cost, even if it's just the loss of other options. Buying a new car means the money for the car payments can't be used for something else. Going to college can cost four years of income. Always look at what you're giving up and decide if it's worth it. 

4. It's all about supply and demand

Consider that our income is largely determined by supply and demand. A brain surgeon makes a lot of money because when her skills are needed, the demand is extremely high. There are also relatively few people with her skill set. If you're easy to replace, your income is probably not as great as you would like. Always look for ways to make yourself irreplaceable. 

5. Understand risk. 

T-bills don't pay very well because the risk is minimal, perhaps next to zero. Stocks, on the other hand, pay much better on the average. However, stocks are more risky, too. Always consider the risk to your money and compare that with the expected return. Ask yourself, "Is the return I'm likely to get worth the risk?"

6. Understand the time value of money. 

Would you receive $100 today or $100 in 5 years? It is far better to receive $100 today. You could invest it or save it and start earning interest. Be sure to consider the time horizon for your investments. Here is some more information on the time value of money. The math can get complicated, but don't give up! 

7. Compound interest is an amazing thing. 

If you invested a single penny and were able to double it every day, in a month you would have over $10 million! The key is to leave your investments alone; don't take the money out and spend it. You'll be surprised just how quickly it can grow if you can just leave it alone. 

Anyone that keeps these 7 rules in mind will be handsomely rewarded in the future. If you're not already following all the rules, pick one and start today. Add a new rule each month until you're fully up to speed. Your bank account will thank you.

Melissa Wood contributes as an editor at Obsessed with finding small ways to save money every day, she enjoys sharing her frugal lifestyle to the MoneyWise Blog. Read more about Melissa on her Google+ page.

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