Did you know that about 78% of Americans don’t have a single penny of savings, which means they live paycheck to paycheck? Sounds surprising, right? Moreover, the US Consumer debt was $16.51 trillion in 2022.
This dire situation of financial mismanagement leading to high debts is obvious in a scenario where the education system provides little to no emphasis on financial education. People these days even lack the bare minimum financial literacy, ending them in a huge debt pile.
But what is financial literacy? Why is it important? How does it benefit people?
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What is financial literacy
Understanding money, financial concepts and products, and their application in real life, is termed financial literacy. The basic concepts which a financially literate person must be aware of are: budgeting, borrowing, saving, investing, repaying debt, building credit and improving it, etc.
As an individual, financial literacy refers to your understanding and application of basic financial skills. What skills are included in the umbrella term “financial literacy?”
The term “financial literacy” goes way beyond household budgeting. It involves managing borrowing and repaying debts. Not just this, it also revolves around earning competently and investing without impacting your tax liabilities.
It also demands a basic idea of various types of interests and how they work. To sum up, a financially literate person must have basic and fundamental knowledge of how to manage his finances in the short and long term. He must also be aware of the newly coming financial products and their application in his life.
Why is financial literacy important?
This question must have hit your mind. Well, why should you maintain your health? What will happen if you stop taking care of your health? Maintaining our health is important for us to be physically and mentally sound. If we don’t care for our health, we fall prey to diseases hamper our daily life and wellbeing.
Your finances are as important as your health. Just like ignoring your health will make you physically unfit, ignoring your finances will make you financially unfit. Financial literacy prepares you with a thorough understanding of the financial market and products, thus impacting your daily expenses, budgeting and savings.
5 reasons explaining the importance of financial literacy
Here are 5 reasons why financial education is important for each one of us:
- When you are financially literate, you’ll have tons of innovative ideas that open various income doors for you. Besides earning more, you also know how to manage and utilise the money diligently and smartly;
- Financial literacy saves you from making investment mistakes. It prepares you for emergencies while helping you hit your financial goals simultaneously;
- A financially literate person can easily identify shady and risky frauds such as chit funds, ponzi schemes etc. Thus, financial education saves you from falling prey to such scams;
- You must have heard of the proverb which says that while the poor plan for a Saturday night, the rich plan for the next three generations. Thus, being financially literate helps you leave behind enough for your upcoming successors;
- When you’re financially prudent, you can help other people by spreading financial awareness.
Thus, financial literacy helps you diversify your income sources and utilise your financial resources judiciously and smartly while helping you make better investments and preparing you for emergencies.
The principles of financial education
What’s the roadmap to financial literacy? What are its underlying principles? Let’s understand this.
Financial literacy is based on five key principles that help establish a strong financial foundation. The principles of financial literacy are listed below:
- Earning: Your finances and financial future are directly dependent on what and how much you earn. You should focus on diversifying your sources of income. Focus on living your lifestyle without overspending. Divide your entire income into various portions and manage each of them accordingly;
- Planning expenditure: As soon as you get your salary, focus on planning your expenditure. You should follow the 50-30-20 rule, according to which 50% should be for needs, 30% for wants and 20% for savings and investments;
- Saving and investing: While discussing long-term financial goals, saving and investing is important. Track your expenses and omit optional expenses. Focus on both saving and investing. It’s the key to growing your wealth over time;
- Debt management and borrowing: Borrowing is never a bad habit. But, excessive borrowing ruins your savings. Thus, make sure to borrow less. Moreover, prefer low-interest rates while borrowing and paying your debt on time. You’ll rest assured with a healthy credit score;
- Protecting: You should always have an emergency fund to safeguard your financial possessions and in emergencies.
Strategies to improve financial literacy
Financial literacy is not a course you need to enrol in any university. Start with educating yourself on managing finances. You may start learning from online resources. You may also go for financial advisors in some situations.
Moreover, you need to implement small changes in the short term to be financially literate in the long run. Here are some habits which will help you get started:
- Budget wisely. Track and monitor your expenses;
- Follow the reverse budgeting strategy and pay yourself first;
- Pay your credit card and other bills on time;
- Monitor and work on improving your credit score gradually;
- Borrow less and repay on time;
- Invest for your own future.
Read more: Certified Financial Planner (CFP): who is this figure and how to become one
