But even in the best of times, managing your finances is hard. Every day, you’re making complex financial decisions (some of which carry huge ramifications) and there are more financial products and services available than ever before. Navigating this minefield can be overwhelming and lead to financial anxiety.
Being financially literate helps. But what does “financial literacy” mean in practice?
Here are seven signs you’ve got the basics covered.
1. You track your cashflow
By tracking your cashflow on a regular basis, you’re ensuring your expenses don’t exceed your income. In other words, you make sure you’re earning more than you spend.
A good sign you’ve successfully managed your cashflow is that you have a surplus or a buffer.
These left-over funds can be used to boost savings, pay off debt or meet other financial commitments.
Cashflow management allows you to assess whether there are opportunities to increase your savings and/or reduce spending. Being able to manage your earnings and spending is a key financial skill.
2. You have a budget – and you follow it
Setting and following a budget requires financial discipline, which is a key part of financial literacy.
By following a budget, you’re putting a measure in place to live within your means and reduce the risk of overspending.
With all the competing demands that come with managing money, your budget can be a tool to keep you on track. And developing this habit over time can empower you to make wise financial decisions.
3. You understand the difference between good debt and bad debt
Love it or hate it, debt forms part of our financial portfolios and sustains the financial institutions we interact with. Knowing how to make debt work for you is a skill and a sign of good financial knowledge. It is crucial to understand the difference between good debt and bad debt.
Good debt is debt used to improve your long-term financial position or net worth, such as a home loan.
Bad debt tends to be consumption-driven and doesn’t have lasting value. Examples include payday loans or retail accounts.
4. You have your money in various places
One of the key concepts of financially literacy is understanding the importance of diversification.
By having your money spread across various places (such as a savings account, property, the share market, superannuation and so on), you’ve reduced the concentration of risk.
This helps protect your wealth in tough economic times.
5. You understand how financial assets work, along with their pros and cons
Financial assets refers to things like cash, shares and bonds. It’s important to understand how financial assets work and how they can either help or hurt your financial position.
For instance, savings accounts are a safe financial instrument that earn interest on the amount accumulated within the account. But the fact they’re so safe also means that they won’t outperform inflation.
This type of knowledge is an imperative part of financial literacy.
6. You’re aware of your financial strengths and weaknesses
Financially literate people reflect on their capabilities.
When you can appreciate where your financial strengths and weaknesses lie, you can make better financial decisions and prioritise your needs.
On the other hand, being oblivious to your strengths and weaknesses means you miss opportunities to improve your financial health.
For example, perhaps you buy unnecessary stuff when you feel sad. Or maybe you panic when faced with tough financial choices and make quick decisions just to make the problem go away.
Neglecting to reflect on patterns of behaviour can lead to serious and possibly irreversible financial mistakes.
7. You set financial goals and put measures in place to meet them
Financially literate people plan for their finances. This involves setting goals for either earnings, savings, investments, and debt management or putting measures in place to protect wealth (via, for example, insurance to protect your wealth against loss).
Setting goals is one thing, but it’s also important to have a system and habits in place to achieve them.
Make sure you understand what you’re trying to achieve with your goals, why the goals are important and how you’ll achieve them.
Boosting your financial literacy can feel tough at first. But tackling your finances head on, controlling spending, participating in financial markets, handling debt, being able to understand financial assets and working towards financial goals can help you feel in control of your financial situation.
Everyone’s financial situation is unique, so none of what I’ve said here should be taken as financial advice. You can find free financial counsellors via the government’s MoneySmart site and if you need help with debt, contact the National Debt Helpline on 1800 007 007.