A Beginners Guide to Financial Literacy for UK Adults

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Us Brits aren’t the best when it comes to financial literacy or even general confidence in our abilities to manage our finances (over 80% of us according to a study by Freetrade) and it is understandable, we aren’t taught about this in schools and unless we have financial savvy family or friends, we are kind of left to figure it all out for ourselves.

Fortunately, nearly all of us have access to the internet and the information is out there (you wouldn’t be reading this otherwise) and while I’m not a financial advisor, I am a bit of a money geek and have spent the best part of a decade either directly or indirectly learning about finance and managing money (I was studying accountancy and then ran an ecommerce business for 7 years!).

And in this guide, I will share some of the things I have learnt over the years that hopefully will help you start your journey of learning how to become more financially literate.

Income vs Expenditure

One of the first things you want to learn about when it comes to financial literacy is the difference between Income and Expenditure.

A simple way to explain this is the way money flows through your account, with Income being what comes into your account and Expenditure being what goes out of your account and ideally you want more money coming in than going out on a monthly basis, which will give you a surplus or disposable income (not a big fan of that term as it sounds like you can just dispose of it by spending it on whatever you want).

Below is a table showing some of the different incomes and expenses people might have as an example:

Income

  • Wages
  • Earnings from a business
  • Dividend income
  • Rental Income

Expenditure

  • Mortgage or Rent
  • Utilities
  • Car payments, insurance, fuel
  • Food and drink
  • Phone payments
  • Entertainment

The majority of people will generally have a single income source each month, which is usually their wages from their job but will have a large selection of expenses and one of the starting points of financial literacy is managing what is coming in and going out every month, you can then identify areas of your spending where you can potentially save money so that there is more left at the end of the month.

Types of Bank Account

Bank account

To start managing your money effectively, it is helpful to understand the different types of bank accounts that are out there.

Current Account

This is the most common type of bank account in the UK and it is what you use for day to day banking, such as where your wages are paid in to and where you pay your bills from.

The majority of current accounts pay little to no interest on the money you hold in the account, which means that they aren’t ideal for savings.

However, some current account do pay a small amount of interest but there are usually some conditions attached to this, such as:

  • You need to pay in a certain amount of money every month
  • Interest is only paid up to a certain balance, £1,500 for example

There may also be switching incentives in the form of a one off payment and as switching banks is now very simple, this can be a nice little bonus.

Savings Accounts

Savings accounts pretty much do as the name suggests as they are just for savings, you can’t pay for things directly from a savings account.

There are a couple of different types of savings accounts that you can choose from:

  • Easy Access – these allow you to deposit and withdraw as often as you want to. This flexibility comes at a cost though, which is low interest rates.
  • Fixed Rate – these are savings account that offer a fixed rate over a certain period (usually 1-2 years) on your balance but you can’t withdraw your money until the end of the term, because your money is locked in, you generally get a higher rate than an easy access account.
  • Regular Savings – a great way to get into the habit of saving money every month as you transfer a set amount (can be up to £500 a month depending on the bank) into a savings account for a one year period and then interest is paid at the end.

Which one you go for does depend on your personal circumstances but I personally found getting started with a regular saver to be the best option as it got me into the habit of saving money every single month.

One common question about these types of savings accounts is do you pay tax on the interest?

You can do but only if you are paid more than £1,000 in a year but at a 0.5% annual interest rate, you would need to have a lump sum of £200,000 saved in order to pay any tax.

ISA

I thought I would give the ISA or Individual Savings Account their own special section as they are slightly different to the normal savings accounts mentioned above, the main one being that it is a tax wrapper for up to £20,000 a year (as of 2021), meaning that you don’t pay any tax on any earnings (such as interest) or capital gains (stocks and shares).

When it comes to ISA’s, there are a few different options:

  • Cash ISA – these are similar to regular savings accounts and come in the form of Easy Access and Fixed Rate, which operate in the same way as the normal savings accounts
  • Stocks & Shares ISA – sometimes referred to as investment ISA’s these allow you to invest in stocks and shares via a broker and this is where the tax advantages come into play as you won’t pay tax on any dividend income or capital gains tax should you choose to sell some of your investments when they are up. Just be aware that your capital is at risk as investments can go up as well as down.
  • Innovative Finance ISA – the innovative finance ISA allows you to to lend your money to others via a peer to peer platform in return for a fixed interest rate over a chosen period. This will generally return a better rate than a Cash ISA but your money is at risk and not covered by the Financial Services Compensation Scheme.
  • Lifetime ISA – a relatively new type of ISA that differs from the ones above as it only allows you to save up to £4,000 a year but the government will contribute an additional 25%, so if you save £4,000 in a year, they will top it up to £5,000. This all sounds great but there are some conditions, mainly being:
    1) You have to be between 18 and 40 to open one
    2) You can only contribute until you are 50
    3) Withdrawals can only be made if you are buying your first home up to the value of £450,000 or once you turn 60, if you withdraw for any reason other than these, you will be charged 25% of the amount you withdraw
    4) The house must be bought with a mortgage
    5) You use a conveyancer or solicitor to act for you in the purchase – the ISA provider will pay the funds directly to them

Which one you choose, very much depends on your personal circumstances, I personally use a Cash ISA for my emergency fund and a Stocks & Shares ISA for my long term investments.

Saving vs Investing

Saving vs Investing

As I’ve just mentioned saving and investing, I though it would be a good time to cover this in a little more detail as it is worth understanding the differences between the two.

Saving

When we are putting money into our savings account, we are doing so with the purpose of using this money to buy or pay for something in the relatively near future (1-5 years), such as:

  • Saving up for a house deposit
  • Putting money in to a rainy day or emergency fund, so that you can pay your bills should you lost your job or main source of income
  • Saving up to buy a car

For most people, this is money that they want to have available to them should their circumstances change or they have the opportunity to buy the thing that they want, which is why most will put the money in some sort of cash account, such as a Cash ISA.

In my opinion, this is also the best way to start taking more control of your money as you can start building your rainy day fund by putting a small amount aside each month into your savings account, it has an added benefit of getting you used to taking a small amount of your monthly income and putting it to one side rather than wasting it on stuff you don’t really need.

While saving is great, for long term growth it is not the best thing to do as leaving your money in a savings account is actually costing you money due to inflation, for example, if your savings account is paying you 0.5% annually but inflation is 2% per year, then the buying power of your money is decreasing by 1.5% each year.

To put that into figures, if you had £10 today, it would only have a buying power of £9.85 next year and that is why for long term growth, you want to be looking at investing.

Investing

Investing is about growing your wealth and making our money start working for use because as mentioned above, leaving it is savings accounts isn’t going to achieve this.

When it comes to investing, there are lots of different options available including:

  • Individual Stocks and Shares
  • Index Funds and ETF’s – these are made up of stocks of many companies, they can be specialist stocks such as tech or eco friendly, to broad market funds such as the S&P 500, FTSE100 or even an all market fund
  • Cryptocurrency
  • Precious Metals

Now there is lots of things to cover about investing and I’m not going to go into all of them in this post but some of the things you need to be aware of when it comes to investing is:

  1. All investing comes with risk and your money is at risk, investments can go up and down
  2. Higher returns mean higher risk, for example, Crypto has seen huge returns (sometimes over 1000%) over the past few years but it is also incredibly volatile, where as broad market index funds have seen more moderate returns but are lower risk
  3. Only invest what you feel comfortable investing, I started with £100/m until I learnt more about investing and also felt more comfortable with what I was investing into
  4. Be prepared to invest for the long term, if you are investing in the stocks & share, whether individually or through funds, you want to be looking at a minimum of 5-10 years as this should even out the fluctuations that happen in the stock market
  5. It costs money to invest, you may have to pay transaction fees when buying or selling and there may be ongoing fee’s to manage your account and/or funds

For most people, investing in something like a broad market index fund or ETF is through a Stocks & Shares ISA is going to be the easiest and most cost effective option.

Credit Cards

Credit Cards

There is no way I could talk about financial literacy without talking about credit cards!

This is because there is so much bad information and also misconceptions about credit cards and I often see people say things like “don’t have a credit card, you will only end up in debt!” or “credit cards are bad, just use your debit card”.

Now I got myself into debt with credit cards when I was a teenager but once I was taught how to use them by my parents, I realised that credit cards are actually a good thing, you just need to know how to use them properly.

But why do I think credit cards are good?

  1. They can help build your credit rating
  2. You have protection when buying things
  3. If your credit card info gets stolen and used by criminals, you are protected
  4. You can earn from using them

I only use credit cards when buying things whether it is online or in person (yes, I have more than one credit card!) and can’t remember the last time I paid for anything using my debit card.

It is also quite simple when it comes to using a credit card properly as there are only a couple of things you need to know:

  • Only spend what you can afford to clear – this is one of the big ones as people see they have a £2,000 balance for example and will then go and max out their credit card, only to realise that they haven’t got to money to pay it off.
  • Clear the balance in full EVERY month – this follows on from the point above as you want to clear you balance every month, this way you don’t incur any interest charges on your balance

There are other things you can do with credit cards that can be very helpful but in general, if you follow these two guidelines, you won’t get yourself into trouble with credit cards as it is only people who have outstanding balances that are charging them a lot of money in interest every month, that end up in a bad way with them.

Conclusion

There is lots to learn when it comes to financial literacy and it depends on you as an individual as to how far down the rabbit hole you want to go but the simple fact is, the more you learn and implement when it comes to your personal finances, the better off you are going to be.

And it may seem daunting to start with but implementing small changes such as learning how to use a credit card properly or taking the first steps to investing can have big impacts over the long term.

Anyway, I hope you found this guide helpful and it has encouraged you to start taking more control over your money, if so, then it has definitely been worth sitting down and creating it.