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Choosing When to Spend

Choosing When to Spend

There is nothing wrong with spending money. In fact money has no value unless it is spent. As they say, you can’t take it with you, so if you don’t spend your money during your lifetime, then someone else (the beneficiaries of your estate) will get the pleasure of spending it. During your working life and retirement, money will come to you on a regular basis unless something bad happens, such as the loss of your job, a business failure, or a severe health problem. How you fare in life financially will be determined by the timeframe in which you choose to spend the money you receive. As you receive money, you can choose whether to spend it now or later. If you choose to spend some later, you can choose how much later you wish to spend it.

Choosing to spend money later is called saving. Unfortunately, the word ‘saving’ has become associated with depriving yourself of enjoyment of life. The way to view saving is that in fact it increases your enjoyment of life – but in the future rather than now. There are three types of saving. Firstly, there is the saving you need to do to cover unexpected expenses and loss of income. Next, there is saving for big, one-off planned expenses such as holidays, a new car or home maintenance. These expenses occur in the medium term (the next five years or so). Then there is the saving you need to do for the long term, including retirement.

The art of managing your financial affairs prudently is to be able to correctly apportion your income into these different categories; money to be spent now, money for unexpected expenses and events, money for spending in the medium term, and money for spending in the long term.

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Hammer Your Financial Commitments

Hammer Your Financial Commitments

It’s hard to save when there is a never-ending stream of bills to pay. One way to get sorted financially is to look closely and what your financial commitments are. Keeping your financial commitments to others well and truly under the hammer means more money for you.

Financial commitments are expenses that you have to pay on a defined day and are usually a specific amount. Rent, mortgage payments, credit cards, insurance and car registration are examples of financial commitments. There are five key strategies for keeping them under the hammer.

  1. Identify what your financial commitments are. Go back through your last three months or so of expenses and write down all the committed amounts you have paid to others.
  2. Use this list to work out your total annual commitments in dollars and then divide that by the number of pays you have. How much of your income is already committed to be paid to others before you get a chance to spend it?
  3. Your commitments can be further broken down into essential commitments and non-essential commitments. Gym memberships, magazine subscriptions, online subscriptions to music and movie channels are examples of non-essential commitments which, when added together, can chew up a big chunk of your income. Are these more important than your financial goals?
  4. Take a close look at your essential commitments such as rent, insurance, credit cards, phone and internet charges. Are you getting the best deals? Are you paying off debt on things you didn’t need to buy?
  5. Set up a separate bank account for your financial commitments and transfer enough money each pay day to cover the average cost per pay.

Every dollar you shave off your regular commitments will add up to a significant sum over a period of time.

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Taking Care of Your Young Family

Taking Care of Your Young Family

Becoming a parent is one of life’s most exhilarating experiences and it changes things forever. Along with the joy comes the responsibility of ensuring a safe and nurturing environment for your children and the challenge of guiding them not only to be successful in life on their terms but to be good human beings.

Parenting is a serious business. There are responsibilities that come with the role of parent but unfortunately there is no instruction manual. One of the first lessons for a new parent is learning to put the needs of another person before theirs. This applies to physical, emotional and financial needs. Children are expensive and part of being a good parent is going without so children can have the necessities of life.

A study done by IRD in 2009 estimated that a middle income family with two children spent around 30% of their household income on their children. With three children, spending rises to 40% of income. So what happens when that income suddenly disappears? Tragically, just under 1800 people a year between the ages of 20 and 50 die and an even greater number become seriously ill and unable to work for a period of time. The consequences for the families of these people can be dire. There are three key ways in which parents can protect families.

  1. Make a Will. Dying without one leads to costly delays in making your financial assets such as personal bank accounts, KiwiSaver and life insurance claims available to your family.
  2. Buy life insurance, taking into account your overall budget
  3. Consider buying income protection or critical illness cover, especially if you are on a high income.

Your future income is your biggest financial asset. Make sure you protect it, for the sake of your family.

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Give Money for Christmas

christmas-moneyGive Money for Christmas

Whatever your age, Christmas is a stressful time of year, and much of the stress is caused by financial pressure. It seems rather silly that so much precious money is spent on gifts that may not give lasting pleasure, if any at all. Economists would argue that spending money on gifts for others does not give the most satisfaction (or utility, in economic jargon) per dollar spent. That’s because it’s not easy to judge how much the other person will appreciate the gift.  Despite that, we still give gifts as an expression of love, gratitude or concern for someone’s wellbeing. Yet there are lots of reasons it’s good to give money instead of, or as well as gifts.

To start with, there are plenty of people who could do with a bit of extra cash at Christmas to pay for necessities rather than luxuries. For students with low incomes and big debts, elderly people struggling to pay their bills, and children who are saving for something they really want, money is a welcome gift. You can use a gift of money as a way of teaching children about money; that is, explaining to them the need to set aside money for later, or to save for a goal. You could even give a small investment of shares or a managed fund to teach children how investment markets work.

Giving money doesn’t have to be boring. Check online for creative ways to give money. There are plenty of ideas for how to use notes and coins to make decorative gifts, such a money bouquet, a money Christmas tree, or a box of money ‘chocolates’.

Christmas is a time to think about giving to those who are most in need. Include a charity on your Christmas list to spread the good cheer!

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Being Prepared

being-preparedBeing Prepared

There’s nothing like a week of earthquakes, floods and gales to make you realise the importance of being prepared for disaster. It’s not only environmental conditions that create disaster; there are personal disasters too, such as serious illness, loss of a family member or loss of a job.

A disaster of magnitude has financial consequences, whether it is loss of property, a temporary loss of income, loss of the ability to earn income, or increased costs. Preparing for a disaster starts with asking the ‘What if….” question. What if I am involved in a serious earthquake? What if I suffer a serious illness or injury and I am not able to work again for several months or even years? Try and imagine yourself being in that situation today to identify what you need to do to be prepared.

  • Is your home and business insurance up to date? The Earthquake Commission provides insurance for homes, land and contents for natural disasters. However, to make a claim from the Commission you need to have a current home or contents insurance policy.
  • If you run a business, do you have business interruption insurance? You can arrange cover for lost income or expenses if your business is not able to operate as usual.
  • Do you have adequate life insurance and income protection insurance? If you were to lose your life or suffer a serious injury or illness, your family may be left in a dire financial situation.
  • Do you have an emergency fund? The rule of thumb is to be able to easily access three months of living expenses.
  • Do you have all your insurance details to hand? Scan your policy details and keep them on a flashdrive in your emergency kit or other safe place so you can quickly make a claim.
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The Big Squeeze

the-big-squeezeThe Big Squeeze

New Zealand’s rate of inflation continues to be low, even though our economy is growing. Lower petrol prices, cheaper airfares and computer equipment are some of the biggest contributors to low inflation and have reduced the impact of higher prices for housing-related goods and services. However, this is not necessarily cause to celebrate. The way in which people spend and save is very much influenced by the rate of inflation. Rapid increases in prices can cause people to spend now rather than later in order to buy cheaper. Saving becomes less attractive because the purchasing power of money declines over time. On the other hand, when prices are falling, spending is delayed in order to buy cheaper. The economy then slows down and prices can fall even further.

While high inflation is not desirable, neither is deflation (falling prices). The aim of the Reserve Bank is to keep inflation at about 2%; not too high and not too low. The principal tool for achieving this target is the Official Cash Rate (OCR), which in turn has an influence on the interest rates set by banks for deposits and lending. In theory, a lower OCR should mean lower deposit and lending rates for savers and borrowers. This in turn encourages spending and investment, leading to higher inflation. However, the OCR is only one of several factors that determine bank interest rates, so a change does not always achieve the Reserve Bank’s aim.

With inflation only just above zero, there is a danger we will head into deflation and the Reserve Bank is likely to continue to drop the OCR. If this translates into lower bank interest rates, savers will be caught in a big squeeze between falling interest rates and rising inflation. This is an uncomfortable place to be for retirees.

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Planning with Uncertainties

UncertaintiesPlanning with Uncertainties

Making plans for your financial future is hard enough at the best of times, but when there are lots of unknowns it is even more difficult. There may be uncertainty around basics, such as what your income will be from one week to the next, or one year to the next, and around what your outgoings will be, such as when you transition from a working life to retirement. At a higher level, there may be uncertainties around which house, town or country you will be living in, or which career you will have.

There is always a temptation when there is uncertainty to not plan at all, because it is too hard. Yet planning is even more important when life is uncertain. The way to deal with uncertainties is to clearly separate them from the things that are certain.

Perhaps you have your own business or you work on commission, or work irregular hours. There is usually a base level below which your income doesn’t usually fall. That is the income level you should plan with. Regardless of what your income is, where you are living or who you are living with, there is a basic level of spending that covers the essentials of life. These are the expenses to start planning with. It is best to underestimate income and overestimate spending in order to err on the side of caution.

You may also have uncertainty around future plans for a sum of money you have on hand. Perhaps you are thinking of using the funds to renovate the house or set up a business. Think of the minimum time period in which your level of certainty will increase and invest for that time frame to get a better return.

As the uncertainty diminishes, plans can be adjusted accordingly.

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Protect Your Wealth

Protect Your WealthProtect Your Wealth

Creating wealth takes time, effort and discipline, and also a willingness to defer spending and take calculated risks. It is not always a straight line process. In fact, it can be a bit like playing monopoly. Every now and then you draw a bad card that costs you a lot of money or sends you straight to jail!

Wealth protection is just as important as wealth creation, yet it is often overlooked. Keeping wealth safe is not just a matter of making sure your money is kept in the bank or in other secure investments. Financial risk is only one of the many threats to wealth. In business, it is good practice to do a risk audit – that is, to identify the risks faced by the business and look at what methods are available to minimise or mitigate these risks. The same approach can be taken with personal affairs. The starting place is to note the key risks to personal wealth. Then consider the size of the potential negative impact associated with each risk, how likely it is to occur, and what can be done to reduce or eliminate the risk. Sometimes there is a cost associated with reducing or eliminating risk, such as insurance or legal costs, and this needs to be weighed up in relation to the extent and likelihood of possible loss. Clearly, a high risk of a large loss would probably justify the outlay of protective measures, while a low risk of a small loss may not.

Risks to personal wealth can include the risk of illness or death of yourself or a close family member, the risk of loss of property through theft or disaster, the end of a relationship, investment risk, and risks associated with being a business owner or director. Don’t ignore them!

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Getting Ahead in Your Thirties and Forties

Thirities and FortiesGetting Ahead in Your Thirties and Forties

Mid-life is a critical time for making the right financial decisions. It is a time when there are many demands and considerations to be juggled; partners and children, parents, career, personal goals, current lifestyle and future lifestyle. It can be a crazy time and it seems like there is never enough money to go around. The way to deal with the craziness is to work on some fundamental principles to build a solid base for managing income and wealth.

Take charge of where your money goes. Money has a habit of disappearing quickly when there are lots of competing priorities. Use multiple bank accounts to allocate your money to savings and different types of spending; your financial commitments (mortgage, rent etc), your household expenses (food, power etc) and personal expenses.

Have an emergency fund. Each payday set aside a small amount to build up a fund for when unexpected things happen.

Pay off your mortgage as soon as possible. Aim to pay off your mortgage at least ten years before your plan to retire. Set up a line of credit as part of your mortgage structure with the remainder on a fixed rate. The credit limit should be about the same amount as you can save over the next 1-2 years towards paying your mortgage off quicker. Aim to get the line of credit balance to zero over that time, then redraw the funds to pay a chunk off the balance of your mortgage when the fixed period expires. Repeat the process.

Contribute to KiwiSaver. Put in enough to be eligible for the maximum tax credit while you are focussing on repaying your mortgage. Once your mortgage is gone, either increase your KiwiSaver contributions or set up another retirement fund, contributing enough to enable you to achieve your retirement goals.

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Automated Advice and What it Means for You

Robo AdviceAutomated Advice and What it Means for You

Financial advice is on the verge of major change. There is pressure to reduce the distribution costs of financial products which will ultimately make them cheaper and more accessible for a wider range of people. This change will also potentially drive a wedge between product sales and financial advice.

A recent report from NZIER, Resetting Life Insurance, found that insurers paid average commissions of $221 million per year on new business of $123 million per year in the period 2012 to 2014. The report found that cutting commission costs by 25% would initially cut premiums by 3.5% with savings increasing to 6% over time. Some insurers are using online sales of insurance products to cut out the cost of commissions completely.

On the investment front, direct selling of model portfolios online is on the rise. So-called ‘robo advice’ allows DIY investors to work through online algorithms to determine a best-fit model investment portfolio for themselves, Buying direct from the product provider means they do not have to pay advice fees.

Adviser regulation is also moving to keep up with this trend. The next wave of change is likely to see more scope for advisers to provide ‘limited advice’ that does not require a full assessment of a client’s current financial situation and future goals. Limited advice costs less than comprehensive advice.

What this means going forward is that insurance and investment products will become more affordable to a wider range of people and purchasers of these products will have greater choice about the level of advice they receive and pay for. The onus will be on advisers to prove the value of the advice they give. The danger is that those who most need advice will choose not to pay for it and make bad product choices as a result.

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