Financial ratios are important in personal money management, when you are done making your personal budget spreadsheet, be sure to use the financial ratios to evaluate your financial standing.
Your first personal money management tool : Measuring liquidity
Liquidity ratio= Liquid Assets / Monthly expenses
The liquidity ratio measures the ability to pay household expenses out of liquid assets in the absence of regular income.
For example, if your checking and savings account total is $3000 and your monthly expenses including rent is $1500, your liquidity ratio is $3000/ $1500 which is 2, meaning you can live up to one month without supporting income.
Financial institutions such as banks and mortgage companies use a variety of debt ratios when they evaluate you for mortgage or car loans. The three debt ratios commonly calculated are the debt ratio, the debt payment ratio, and the mortgage debt service ratio.
Tool Two for personal money management: Debt payment ratio
The debt ratio measures the percent of your total assets that you’ve financed with debt
It is calculated as debt ratio=total debt/total assets
As the credit card balance increases so will the debt ratio.
The debt payment ratio measures the percentage of disposable income required to make debt payments. The debt payment ratio estimates the percentage of your after tax income that goes to paying required monthly minimum debt payments of all types, including mortgage loans, student loans, car loans and credit card payments.
The debt payment ratio is calculated as total monthly debt payments/ after-tax monthly income
Bank lenders commonly require that the total debt payments not exceed 33 percent to 38 percent of gross income (income before taxes), which implies that the debt payment ratio could be even higher.
Most individuals find that their housing costs, either rent or mortgage payments are their largest monthly expenditure. Understanding what your mortgage debt service ratio is important in personal money management because you will have a better understanding of what percentage of your gross income goes to your housing property. The total monthly cost of a mortgage, including the principal and interest paid to the lender, property taxes paid to the local municipality and homeowners insurances, is called the mortgage debt service. Mortgage lenders commonly require that borrowers make a single monthly payment to cover all these expenses. The mortgage debt service ratio which measures the percentage of your gross income tha you pay out in mortgage debt service alone is calculated
Mortgage debt service ratio=(Principal + interest + taxes + insurance)/ gross monthly income
Tool 3 for personal money management: Measuring your savings
The savings ratio is calculated via savings ratio= monthly savings/ after- tax monthly income
If the cash outflow is greater than the cash inflow, there will be a negative savings ratio. If this happens you should take action and analyze how you can be in the positive zone.
You have worked hard for your money, thus it is important to know the key personal money management tools that can help you analyze your finance situation. Would you like to retire early? Learn theinvestment strategy from the rich
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