Knowing the simple rules of Personal Finance can help you even if you do not know the complex calculations of Personal Finance. Here, I will show you such rules or thumb rules of Personal Finance.
Rule Of 72
In how many years will the money double?
There are many people who want to know that if they invest today, in how many years will their investment be doubled? I am going to teach you how you can double your investment and how many years.
You need to know the Percentage Interest or the Return you are getting from where you are investing. Whichever percentage you get, by Rule 72, divide 72 by the percentage rate and you will get the number of times your investment will be doubled.
Suppose, where you are keeping your money, you come to know that the money is going to get doubled in 8 years. So what is the % of Interest or Return? In the same way, 72/8 = 9. So the % of Interest is 9% and the money will take 8 years to double.
With the help of this rule, if the cost of running a household is Rs. 30,000 and if the rate of inflation is 9% then in 8 years (72/9=8), your cost of running the household will be around Rs. 60,000.
Suppose, the cost of pursuing an engineering course is Rs. 20 lakhs and if we consider the rate of education inflation rate at 12% then by applying this rule (72/12=6), the cost of that course will increase to 40 lakhs.
Rule Of 114
In how many years will the money get tripled?
The process is the same as before. Suppose, you get a return of 12% rate where you have invested. Now you want to know how much your investment will triple in a year? 114/12= 9.5 years. That means in 9.5 years, your investment will be tripled.
If you are told that in 9.5 years, you will be paid three times the amount you have invested, then you will easily understand that the product is giving you a 12% return. (114/9.5=12)
Rule Of 144
In how many years will the money get quadrupled?
The process is the same as before. Suppose, you get a return of 12% rate where you have invested. Now you want to know how much your investment will quadruple in a year? 114/12=12 years. That means in 9.5 years, your investment will be quadrupled.
I had talked about how much your investment will double, triple or quadruple in a year. Now you should know a very important thing. You are aware that inflation reduces the purchasing power very slowly and silently. So how can we reduce it?
Rule Of 70
By this Rule of 70, you will find out in how many years will inflation reduce the purchasing power? How? Suppose the current inflation rate is 7%, i.e 70/7 = 10. So if the current inflation rate is 7% then the purchasing power of 1 lakh rupees will be reduced to half after 10 years.
So, this means the 1 lakh rupees should be invested in such a product which would give more return than the 7% rate of inflation return or interest, only then it would be possible to prevent the decline in the purchasing power of this value of money. If you choose a product by just looking at one side of the coin may land you up in trouble later on.
4% Withdrawal Rule
This rule is very important. Those who want to see themselves as financially free persons in the future need to know this particular rule. I am going to explain what the rule is.
Suppose a person wants to know how much corpus will he have in the future after he retires. Then you have to find out how much it costs to run your household. After that, you need to calculate it by converting from monthly to yearly.
Suppose, someone calculated and their annual expenditure turns out to be 5 lakhs rupees. To find out how much corpus it will take, you need to use the following formula, 25x Annual Expenditure i.e 25 x Rs.5,000,00 = Rs. 1.25 crores. I hope I was able to explain.
Now, the 50% of Rs. 1.25 crores i.e Rs 62.50 lakhs should be kept in some product where the fixed income is available. The remaining 50% should be kept in equity-oriented products. If this is kept in this way, then the 4% of the pension for the next 30 years will generate corpus.
My personal opinion in this regard is that there should not be any Thumb Rule or experimentation with the Retirement Fund. It is better not to do anything with your Retirement Fund without the advice of a professional expert.
100 – Minus Age Rule
This thumb rule is used for mainly asset allocation strategy. This means that a person can find out how much percentage of his investment should be kept in equity and in debt.
Suppose someone is 30 years old. According to this rule, 100-30 = 70 which means the person should keep 70% of his investment in equity and the remaining 30% in debt. Similarly, if someone is 40 years old, then 100-40 = 60 which means he should keep 40% of his investment in equity and 60% in debt.
This is only a Thumb rule. I believe, one cannot allocate anyone’s assets in this way. One’s asset allocation should be judged on the basis of a person’s risk appetite, ideas about risk, how many dependents he has upon him, etc.
10, 5, 2 Rule
This thumb rule will tell you how much % of return can a person expect in an Asset Class. How much that person is expecting a return will be the real agreement.
- 10% return from Equity
- 5% from Debt or Fixed return
- And 2 % from Savings.
This thumb rule is a form of guideline for a person who has just begun his income and what percentage of his income should be invest.
After starting the income –
- 50% of the income can be used to meet expenses like grocery, rent, EMI, etc. [Need]
- 30% of the income can be used for entertainment, vacation purposes which fall under the wants of a person. [Wants]
- 20% of the income must be used in investments. [Savings]
If you are unable to follow this rule after starting your rule, you have to increase the percentage of your savings, 20% wouldn’t be enough.
6X Emergency Rule
If there is any kind of emergency situation, then to handle it, 6 month’s income should be kept in an emergency fund.
40% EMI Rule
According to this rule, the EMI of your loan should not be more than 40% of your income. This means if someone is earning Rs. 50,000 a month, then his EMI should not exceed Rs. 20,000. In the reality, it would be a lot better if it’s lesser than Rs. 20,000. This doesn’t only include Home Loan, EMI of any loan should not be more than 40% of someone’s income.
Life Insurance Rule
This rule will help you to calculate the amount of money required for Term Insurance coverage. 20x annual income is followed. This means that if a person’s annual income is 5 lakh rupees then his Term Insurance policy should have a coverage of Rs 1 crore.
I am going to tell you a few rules which are not thumb rules. If someone can follow the rules given below, they can lead a happy financial life free from tension and worries.
- Use Banks for financial transactions, short-term cash management, and credit management.
- Use Insurance to cover the risks.
- Use Gold to hedge your currency (i.e. Rupee).
- Use Real Estate for consumption (Residence) or regular income (Rent).
- Use the Capital market to create long-term wealth.
In reality, the opposite happens. Most people use banks and insurance as investment tools due to a lack of financial awareness. They consume gold as jewelry and use real estate for long-term asset creation. And the asset that really actually creates wealth in the long term is used for short-term speculation. For these reasons, most people spend a lot of time speculating fund returns but ultimately, are unable to create much wealth.
It would be really great to get some feedback.