How the 30:10 rule could help you manage your personal finance better

Have you every wondered about your financial health? Have you asked yourself questions like: Do I spend too much? Do I invest wisely? Am I protected adequately against financial risks?

So how does one go about balancing one’s personal finances? One way to do it is with the 30:10 rule of measuring personal finances. This means that when one earns Rs 100 as a take home salary, Rs. 30 must be first saved, another Rs 30 can go towards servicing of liabilities, Rs 30 can go towards all expenses and Rs 10 can be for risk management i.e. insurance.

Before we go deeper, let’s first be clear that every family has a unique situation when it comes to money and these are only broad guidelines that may or may not apply to you.

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Save at least 30 percent

Usually we first pay all expenses, service liabilities and then save what is left. The secret to get rich is to do the opposite. Following the principle of paying yourself first, one needs to save before spending.

A person in their mid 30s, married with two kids and has a home loan is expected to save about 30 percent of the income. For example: we have noticed NRI clients saving up to 70 percent of what they earn.

If a person is young, single, just started earning and is still staying with parents, then the savings potential can be as high as 70 percent, since expenses are low.

For someone in their late twenties or early thirties who is just married and bought a house, only about 20 percent of their earnings may be saved.However, these scenarios can change based on one’s situation.

Invest what you save

Keeping your savings in a saving bank account earning 4percent interest is no good, especially with inflation consistently at above 7 percent. As a best practice, you must invest all what you save towards a goal, keeping in mind your asset allocation.

The ideal ratio here is 100 percent of what you save must be invested. If you are starting and not sure about your cash flow projections, then start by investing 80 percent of what you are expected to save, watch for few months and then finalise.

We have seen clients committing to investment of 110 percent of their expected savings, which is another way to optimize on your expenses.

Restrict expenses to 30 percent

Across all your expenses categories, you should target not exceeding 30 percent of your income. Based on your lifestyle and the stage of life you are in, this can be more or less.

Normally, we have noticed that lifestyle expenses are about 25 percent to 40 percent of household expenses, as a best practice. So what do you do if you believe your expenses are on a higher side?

One good way is to categorize your spends as Discretionary and Mandatory. Now, see if you can question, avoid, defer or reduce the discretionary expenses. You can start with a 10 percent cut across all expenses. You can do a pare to analysis, ask for 10 percent discounts on your large spends or at least 10 percent more quantity at the same price.

Ask yourself if you had 10 percent less money in your hand, which are the expenses you would skip?

Cap your EMIs to 30 percent

Normally your EMIs could be around 40 percent of your earnings. We suggest a slightly conservative target of 30 percent here to leave some room for a comfortable saving target.

This 30 percent ceiling should include all your EMIs including home loan, personal loan, auto loan, gold loan, personal loan and others. If your liability commitments are over 40 percent, then review your balance sheet and see if there is a way you can prepay any of your expensive liabilities.

If you have assets earning sub-optimal returns and you are repaying expensive loans, then again you are losing. If you have high liabilities, then focus on reducing the cost of your borrowings. Treat this as a project, take off from work for few days and focus on restructuring.

Invest up to 10 percent in Risk Management

To grow your finances, stay protected. Look at the areas where you have financial exposure and take steps to mitigate them. Between your Health, Life, Personal Accident, Critical Illness, Hospital Daily Cash Insurance, your annual premium should be around 10 percent of your annual take home income.You should include all insurance premium for all family members, including those dependent on you.

We consider only pure term plans so if you are invested in traditional or Ulip plans then your expenses may be higher. Admittedly, we have seen a very wide variance here. We have seen cases from zer0 percent to 22 percent spending on insurance.

If your insurance spend is very high, it may be an indication that you have expensive policies or you may be over protected.

The writer is a member of The Financial Planners’ Guild, India ,is the Founder & CEO at www.gettingyourich.com and a SEBI registered Investment Advisor.