Personal finance can seem pretty overwhelming. These essential personal finance terms are your first step in taking control of your finances. Knowledge is power so arm yourself with these key financial terms.
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When I first started on my quest to learning about personal finance I knew I’d have quite a bit of research ahead of me. I also knew I would have a ton of questions.
What are deductions? Better yet, what are itemized deductions? What’s the difference between adjusted gross income and taxable income?
Listed below are some personal finance terms that you’ll most commonly come across and their definitions
Table of Contents
1. FIRE (Financial Independence Retire Early)
FIRE has gained some serious momentum and I could easily write an entire article about it. As the name implies it’s about early retirement. If we dig a little deeper we find a key principle is flexibility.
Tanja Hester of Our Next Life said, “Financial independence ultimately means that you can shape your life without taking money into consideration.” Many people go on to say FIRE doesn’t fit the mold of traditional retirement in that the emphasis is more on flexibility rather than not ever working again. Kate @ On Our Way World has a great article covering all types of FIRE. From leanFIRE to fatFIRE and everything in between.
2. Taxable income
The money we take in that we must pay taxes on. Wages, salaries, alimony, and interest/dividends to name just a few. The list is long on what we must pay taxes on but the list of what you don’t pay Uncle Sam on is also lengthy. Here’s a list from Intuit that gets more specific.
3. AGI(adjusted gross income)
AGI is basically your taxable income minus certain IRS deductions. IRS tax form 1040 is where you calculate your AGI. These adjustments lessen your tax liability. For instance, contributions to a Traditional IRA would be deducted.
4. Itemized Deduction
An expense that the IRS allows you to subtract from your AGI that reduces your taxable income. Some common deductions are medical and dental costs or mortgage interest. When filing taxes you have a choice to itemize your deductions or take the standard deduction.
5. Standard Deduction
This is a standard amount that is set by the IRS to reduce your taxable income. If your itemized deductions are not greater than you would take the standard deductions.
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6. Net Worth
The difference between your assets(things you own, cash, investments) and liabilities(debt such as credit card or mortgage). Net Worth is a very important indicator of general financial health and is something that you should reflect on regularly.
An automated investment platform that uses sophisticated algorithms to provide investment decisions. First introduced in 2008 by Betterment, these have become a popular, affordable, and safe choice for many investors. Head over to Beginner Investing to learn more about Robo-Advisors and if they are right for you.
A company is selling a piece of itself in exchange for cash. You essentially own a part of the company and have equity in that company. As for investing, stocks tend to be riskier in the short term but are favored for long-term investing.
You have heard of an IOU, right? Bonds represent debt. A bond is basically an IOU or loan that is made to a company that needs to borrow money. The company borrows money on the public market and pays interest on that money. When you buy a bond you get paid that interest. For investing, bonds tend to be more stable but lack higher returns.
ETFs or exchange-traded funds is a large collection of many different assets such as stocks and bonds. ETFs make it easy to diversify reducing risk when compared to buying shares in a single company. ETFs differ from mutual funds in that they are traded like stocks, more tax efficient, lower fees, and lower minimums.
REIT or real estate investment trusts are modeled after a mutual fund, providing investors with the chance to own real estate as part of their portfolio.
12. Asset Allocation
The proportion of assets amongst different categories such as stocks, bonds, and cash. For example, 60% stocks, 20% bonds, and 20% cash. This ratio is a personal one and depends on your goals and risk tolerances.
As your investment grows your asset allocation will change and require rebalancing to stay on track for your goals and risk tolerances. Depending on your investment this may need to be done manually or could be automatic as they often are with Robo-advisors.
14. Compound Interest
This is the interest you earn on the amount you deposit, plus any interest you’ve accumulated. Its basically interest on interest and allows investments to grow faster than just simple interest.
15. Capital Gains
The increase in the value of an asset such as real estate or stock. This increase above original purchase price is your capital gains and really only becomes significant if and when that asset is sold.
The Best Investment Site For Beginners
After familiarizing myself with some of the most common financial terms, I decided to open my first investment account with Betterment.
Betterment is a fantastic company that is growing quickly and manages close to $12 billion in assets for more than 300,000 clients. The company takes pride in offering portfolio management services that are both affordable and easily accessible.
The best part of signing up with Betterment is that they do not require a minimum deposit to get started, making it perfect for beginning investors. They also offer an extremely intuitive user-interface which makes it easy for all tech abilities.
We have been very happy with Betterment and the services we have received through this company. If you would like to learn more about opening an automated investment account through Betterment, we have a special link for you 90 days managed free, so you can try them out and see what you think.
The Best Personal Finance Books For Beginners
In addition to learning key personal finance terms I spent a good amount of time reading personal finance and development books. Through reading I was able to further my knowledge about all things finance.
Here are a some of the books that I recommend you read
- Unshakeable: Your Financial Freedom Playbook
- Rich Dad Poor Dad: What The Rich Teach Their Kids About Money That The Poor and Middle Class Do Not!
- Think and Grow Rich
- You Are A Badass At Making Money: Master The Mindset Of Wealth
- 99 Minute Millionaire
Personal finance doesn’t have to be difficult. Do you have any tips, tricks or secrets you would like to share? We would love to hear from you please comment below