What you do with your money when you get paid will make a big difference to your financial future. Here are some things you should do when you get paid.
Pay for your essentials
Ensure that you have enough money that covers your essentials such as rent, bills, and groceries.
There are many ways of managing this such as in some banks you can setup saving pots that can be used to save for these essentials.
It's important to understand how much these are and ensure you always have enough money to cover these. Review them every quarter to see if you they have changed.
Try to keep these expenses no more than 50% of your income.
- Rent should be no more than 30% of your income.
- Bills should be no more than 10% of your income.
- Groceries should be no more than 10% of your income.
Emergency fund
An emergency fund is a pot of money that you can use to cover unexpected expenses such as car repairs, medical bills, or a broken boiler.
This should be at least 3-6 months of your living expenses. This can vary depending on your lifestyle and risk tolerance.
It will also cover you for lose of employment, if you have 6 months expenses saved up then you can afford to be out of work for those 6 months.
You can put this in a high yield easy access saving account, this will give you a good interest rate while also being able to access the money quickly. Remember that you have a £1,000 personal saving allowance and any interest over this will be taxed.
An alternative to a high yield saving account in the UK is premium bonds. You can easily access this money, have a chance to win £1 million prize and all winnings are tax free. You have a maximum amount you can invest of £50,000 in premium bonds but you can withdraw this at any time. Because of the tax free winnings this is a good option to higher rate tax payers.
Set aside fun money
Set aside some money for fun things such as eating out, going to the cinema, or going on holiday.
Money is a tool to be used to help you do what you want, it's important to set aside some money for fun things.
Try not to spend more than 30% of your income on fun things.
Pension contributions
Match your employer's pension contributions. This is free money and it's a great way to save for your retirement.
At this stage there's no need to pay more than this.
If you're self employed then your company can pay into your pension pot. Currently in the UK we have a tax free allowance of £60,000 you can pay into your pension.
Pay off debt
If you have any debt such as credit cards, loans, or overdrafts then you should pay these off as soon as possible.
The interest on these debts is usually higher than the interest you would earn from saving so it's better to pay these off first.
Debt should be a high priority to pay off it will stop you from investing as much as you can later on.
Pay into your ISA
If you have any money left over after this you can start to invest your money into assets, in the UK we have a large tax free allowance called the ISA.
You can put up to £20,000 into an ISA each year and the money you put in there will grow tax free.
Use as much as this allowance as you can.
Invest
After your ISA allowance is filled you can start investing in taxable assets such as stocks, bonds, property, and crypto.
You could look at paying more into your pension pot, any more money that you put into your pensions you'll receive tax relief on. Therefore this could save you tax at the end of the year while also having a tax free way of investing.
You could pay stocks into a taxable account, the money you make through here will be taxed but you can use your capital gains tax allowance to avoid paying tax on the first £6000 of profit.
In the UK we have premium bonds that are tax free, you could look at putting some money into these. But the money from these are not guaranteed. You need to be lucky and win from the prize draw, the more money you have in there the more likely you are to win. It's essentially a risk free lottery.
You could also look at investing in property, this is a good way of investing your money and you can also get a rental income from this. But the UK the tax on this is quite high, you will need to pay income tax on the rental income and capital gains tax on the profit you make from selling the property. This takes a lot of research and time before getting into this.
If you want more high risk high reward investments you could look at investing in crypto. This is a very volatile market and you could lose all your money. But if you have anymore money left over after doing all the above then this could be a good way of investing the left over money.
Overpay Mortgage
Lastly you could start over paying your mortgage. This will save you money in the long run by paying down the mortgage leading to paying less interest over the term of the mortgage.
This will go in a different position on this list depending on age. If you're under 45 I would move this higher on the list to try to be mortgage free by the time you retire. But if you're under 45 I would place this last on the list and would favour investing over paying down your mortgage. You'll make more money in the long term by investing than by paying down your mortgage. If you're young enough to still want to be working then your job should be able to cover the mortgage payments.
The reason why mortgages are generally more acceptable debt is because of they are generally lower interest rates to other debts like loans and credit cards. Inflation also has a part to play with mortgage if inflation is high then over time it will reducing the amount to need to pay back in real terms. £100,000 now is worth a lot less in 30 years. Over time inflation will go up by the money you owe does now go up with inflation, let inflation do this work for you by reducing the real term money you owe.
Offshore bonds
If you have a lot of money left over after all of this then you could look at investing in offshore bonds. These are a tax efficient way of investing your money and you can get a good return on your money. But these are generally for people who have a lot of money to invest and have already filled up all their other tax free allowances.
Summary
- Pay for your essentials
- Emergency fund
- Set aside fun money
- Pension contributions
- Pay off debt
- Pay into your ISA
- Invest
- Overpay Mortgage
- Offshore bonds