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    Personal Finance - Chapter 3

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    a.wilson7980
    When creating a personal budget, the first step is to create a cash flow statement that lists your income and expenses. This allows you to see where your money is going each month. A budget then tracks your projected cash flows over time, while a personal balance sheet provides a snapshot of your total assets, liabilities, and net worth at a given point. Key financial ratios like the current, liquidity, debt-to-asset, and savings ratios help measure your overall financial health and progress.

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    Personal Finance - Chapter 3

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    a.wilson7980
    7 views6 pages
    When creating a personal budget, the first step is to create a cash flow statement that lists your income and expenses. This allows you to see where your money is going each month. A budget then tracks your projected cash flows over time, while a personal balance sheet provides a snapshot of your total assets, liabilities, and net worth at a given point. Key financial ratios like the current, liquidity, debt-to-asset, and savings ratios help measure your overall financial health and progress.

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    When creating a personal budget, the first step is to create a cash flow statement that lists your income and expenses. This allows you to see where your money is going each month. A budget then tracks your projected cash flows over time, while a personal balance sheet provides a snapshot of your total assets, liabilities, and net worth at a given point. Key financial ratios like the current, liquidity, debt-to-asset, and savings ratios help measure your overall financial health and progress.

    Copyright:

    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    7 views6 pages

    Personal Finance - Chapter 3

    Uploaded by

    a.wilson7980
    When creating a personal budget, the first step is to create a cash flow statement that lists your income and expenses. This allows you to see where your money is going each month. A budget then tracks your projected cash flows over time, while a personal balance sheet provides a snapshot of your total assets, liabilities, and net worth at a given point. Key financial ratios like the current, liquidity, debt-to-asset, and savings ratios help measure your overall financial health and progress.

    Copyright:

    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    of 6

    Personal Finance: Chapter 3

    When budgeting, the first step is to create a personal cash flow statement, which measures your income
    and expenses. Comparing your income and expenses allows you to see where your money is going.

    Net Cash Flows: Disposable (after-tax) income minus expenses.

    The key factors that affect your income level are the stage of your career path, your job skills, and the
    number of income earners in your household.

    The key factors that affect expenses are a person’s family status, age, and personal consumption
    behavior.

    We refer to a cash flow statement that is based on forecasted cash flows for a future time period as a
    budget
    Envelope Method- forces you to stick to a cash-only budget for some of your expense categories.The
    expense categories that you should target for the envelope method are the ones that are the hardest to
    control, or the ones for which you are able to pay in cash
    - Avoid the temptation to use your debit or credit card for any purchases.

    Pay Yourself First Method- tries to control the amount of money going out of your bank account after
    your paycheck comes in. Another popular budgeting method relies on taking money out of your bank
    account before you have a chance to spend any of it.
    - Using this method, you would arrange to have an automatic transfer of money from your
    checking account to your savings account for the amount that you wish to save.
    - The pay yourself first method differs from the envelope method because it removes net cash
    flows from your account at the beginning of the budget period.
    The next step in the budgeting process is to create a personal balance sheet. A budget tracks
    your cash flows over a given period of time, whereas a personal balance sheet provides an overall
    snapshot of your wealth at a specific point in time. The personal balance sheet summarizes your assets
    (what you own), your liabilities (what you owe), and your net worth (assets minus liabilities).

    Liquid assets are financial assets that can be easily converted into cash without a loss in value. They are
    especially useful for covering upcoming expenses. Some of the more common liquid assets are cash,
    chequing accounts, and savings accounts.

    Household assets include items normally owned by a household, such as a car and furniture. Over time,
    these items tend to make up a larger proportion of your total assets than do liquid assets.

    When creating a personal balance sheet, you need to assess the value of your household assets. The
    market value of an asset is the amount you would receive if you sold the asset today

    Stocks are certificates representing partial ownership of a firm.

    Bonds are certificates issued by borrowers (typically, firms and government agencies) to raise funds
    Mutual Funds- Investment companies that sell shares to individuals and invest the proceeds in an
    overall portfolio of investment instruments such as bonds or stocks.

    Liabilities represent personal debts (what you owe) and can be segmented into current liabilities and
    long-term liabilities.

    Current liabilities represent personal debts that will be paid in the near future (within a year). The most
    common example of a current liability is a credit card balance. Credit card companies send the
    cardholder a monthly bill that itemizes all purchases made in the previous month. If you pay your
    balance in full upon receipt of the bill, no interest is charged on the balance. The liability is then
    eliminated until you receive the next monthly bill.

    Long-term liabilities are debts that will be paid over a period longer than one year. A common
    long-term liability is a student loan, which reflects debt that a student must pay to a lender over time
    after graduation. This liability requires you to pay an interest expense periodically

    Net Worth = Value of Total Assets − Value of Total Liabilities

    If you earn new income this month but spend it all on products or services that are not personal assets
    (such as rent, food, and concert tickets), you will not increase your net worth
    If you use net cash flows to invest in more assets, you increase the value of your assets without
    increasing your liabilities. Therefore, you increase your net worth. You can also increase your net worth
    by using net cash flows to reduce your liabilities

    Your net worth can change even if your net cash flows are zero. For example, if the market value of your
    car declines over time, the value of this asset is reduced and your net worth will decline. Conversely, if
    the value of an investment that you own increases, the value of your assets will rise, and your net worth
    will increase.

    Liquidity represents your access to funds to cover any short-term cash deficiencies.

    Current ratio: Current assets/ current liabilities

    High current ratio: indicates a high degree of liquidity

    Current ratio of 1: issue


    Current ratio of 2: adequate

    One problem with the current ratio is that people generally have a number of monthly expenses that are
    not considered current liabilities ie. mortgage payment are considered long-term but can be paid for
    monthly

    Liquidity ratio: Liquid Assets/ monthly living expenses

    Ratio tells you how many months of living expenses you can cover with your present level of liquid assets

    Debt-to-Asset ratio: Total liabilities/ Total assets

    This ratio indicates an extensive amount of debt. This debt should be reduced over time to avoid any
    debt repayment problems
    - Relate back to the financial planning life stages (this ratio should be higher in your young adult
    life due to tuition fees, car loans, and mortgage) however by your retirement should be gone

    Savings ratio: to determine the disposable income that you save, you can measure your savings over a
    particular period in comparison to your disposable income

    Savings ratio: savings during the period/ disposable income during the period

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