The Basics of Financial Responsibility
What does it mean to be financially responsible? It’s a complex question, but at its core is a simple truth: To be financially responsible, you need to live within your means. And to live within your means, you must spend less than you make.
Credit Cards and Debt
If you’re really looking to be financially responsible, just being able to make your minimum monthly credit card payment doesn’t cut it. In fact, the fact that you aren’t able to pay your balance in full shows that you already spend more than you earn. Responsible use of credit means paying the balance on your account in full each month.
Consider the Interest
The same logic applies to all recurring payments that involve paying interest. Think about it: Paying interest on anything means that you are spending more on that item than the purchase price. Does that sound like the most responsible choice or just the most convenient?
When the interest payments are factored into the purchase price, you are spending more to obtain the item than even the item’s manufacturer thought it was worth.
Of course, certain interest payments are unavoidable, like with mortgages and car payments. In these cases, minimizing the amount you spend in interest each month is the most responsible action.
Necessities vs. Luxuries
For many people, cutting down on interest and borrowing is easier said than done, but in practice, it really comes down to knowing the difference between necessities and luxuries.
For example, buying a home in a financially responsible manner means that you should purchase one that won’t break the bank. In financial terms, this means it shouldn’t cost more than two or 2.5- times your annual income. Another rule of thumb is that your monthly mortgage payment should not cost more than 30% of your monthly take-home pay.1
That said, being financially responsible does depend on your income. If you’re an ultra-high-net-worth individual, you may easily be able to afford a jet, a mega-yacht, and a mansion in the South of France. After all, there’s nothing irresponsible about buying things you can afford to pay for.
Paying Yourself First
For most people, saving is an activity that must be taken seriously. A great way to do this is when you get your paycheck—and before you pay your bills—pay yourself first. A good goal to save is 10%.
When it comes to saving, investing in the stock market might be the most profitable choice available. Sure, investing involves risk, but taking calculated risks is sometimes a necessity. The responsible way to go about it is to have a plan.
Start by examining asset allocation strategies to learn how to choose the right mix of securities for your investing strategy. From there, contribute to your employer-sponsored savings plan if such a plan is available.
