The Ultimate Guide to Evaluating Your Financial Health

Photo: milkos via 123RF

Financial health is an individual’s or household’s overall economic well-being. It is determined by evaluating income, expenses, debt, savings, and investments. It also includes assessing your ability to manage finances, plan for the future, cope with unexpected expenses, and achieve financial goals.

Assessing your financial health is vital for several reasons. It:

Helps you identify potential financial problems.
Allows you to set realistic financial goals.
Enables you to make informed financial decisions.
Provides peace of mind.

Here are some steps to help you assess your financial health:

Determine your net worth.

Your net worth is the difference between your total assets and liabilities. To calculate your net worth, list your assets (savings, investments, property, and possessions) and subtract your liabilities (debts, loans, and mortgages). If your net worth is positive, you have more assets than liabilities, an indicator of good financial health.

Evaluate your debt-to-income ratio.

Your debt-to-income ratio is the amount of debt you have compared to your income. Calculate this by adding up all your monthly debt payments and dividing them by your gross monthly income. A healthy debt-to-income ratio is less than 36%.

Check your credit score.

Your credit score measures your creditworthiness, which lenders use to determine whether to approve you for loans or credit cards. A good credit score is usually above 700, while anything below 600 is considered poor.

Evaluate your emergency fund.

An emergency fund is a savings account that covers unexpected expenses, such as car repairs or medical bills. To determine if your emergency fund is healthy, calculate how many months of living expenses it would cover. Financial experts generally recommend having at least three to six months’ worth of expenses saved up.

Evaluate your retirement savings.

Retirement savings are crucial for long-term financial health. If you’re employed, check if your employer offers a retirement plan, such as a 401(k) or a pension. If not, consider opening an individual retirement account (IRA). Financial experts recommend saving at least 10% to 15% of your income for retirement.

Assess your spending habits.

Look at your monthly expenses and determine if you spend more than you earn. If so, identify areas where you can cut back, such as eating out less or canceling subscriptions you don’t use. Creating and sticking to a budget can help you reign in your spending.

Review your housing situation.

Housing is often one of the most significant expenses, so ensuring you can comfortably afford your current housing situation without compromising other financial goals is essential. Calculate your monthly housing costs, including rent or mortgage payments, property taxes, and utilities, to check that your housing costs are within your budget and leave you enough room for other expenses and savings.

Photo: tapati via 123RF

After reviewing these factors, if you determine your financial health is not in a positive place, here are some steps you can take to improve it:

Reduce your debt. Start by prioritizing your debts and paying off high-interest debts first. Consider consolidating your debts to make them more manageable, such as transferring credit card balances to a lower-interest card.
Increase your income. Look for ways to increase how much money you make, such as taking on a part-time job or freelancing on the side. Consider negotiating a raise or promotion at your current job or getting a degree or certification to increase your earning potential.
Create a budget. Start by tracking your spending for at least a month to identify where your money is going. This will help you understand your spending patterns and identify areas where you can cut back. Use the information from your spending tracker to create a realistic budget, and be sure to include categories for saving and paying off debt.
Cut expenses. Evaluate your spending and look for areas where you can cut back, such as eating out less, canceling subscriptions you don’t use, or downsizing your living arrangements. Consider using cash or a debit card instead of credit cards to help you stay within your budget since it can be easy to overspend and accumulate debt with credit cards.
Improve your credit score. Start by checking your credit report for errors or inaccuracies and disputing any you find with the credit bureau. Pay your bills on time, avoid opening new credit accounts, and start a concerted effort to pay off your debt to improve your score.
Build an emergency fund. Start building an emergency fund to cover unexpected expenses and avoid going into debt. Aim to save at least three to six months of living expenses. Use unexpected windfalls, such as bonuses or tax refunds, to contribute to your emergency fund. Once you’ve established your emergency fund, resist using it for non-emergency expenses.
Set a savings goal. Set a specific savings goal based on your monthly expenses. Make saving automatic with automatic transfer from your checking account to a separate savings account each month.
Contribute consistently to a retirement fund. If your employer offers a retirement plan, such as a 401(k) or 403(b), contribute as much as possible, especially if your employer matches your contributions. If you don’t have access to an employer-sponsored plan, consider opening an individual retirement account (IRA). Contribute as much as you can, increasing your contributions over time.
Start investing. Consider investing in stocks, bonds, or mutual funds to help grow your wealth over time. Speak with a financial advisor to help you make informed investment decisions.
Seek professional help. Consider seeking the assistance of a financial advisor or credit counselor to help you create a plan to improve your financial health. They can also help you create a retirement savings plan that fits your specific situation.

Build an emergency fund.

By following these steps, you can better understand your financial health and take steps to improve it if necessary. Be patient and consistent in your efforts. Changing your spending and savings habits takes time and effort, but you can develop healthy financial habits over time. Remember, financial health is not just about having a lot of money; it’s about having a solid financial foundation to help you achieve your long-term goals.