When we talk about money management, we have to notice that there are different types of personal finance. For example, Income is a positive type, which is increasing wealth. Spending is the opposite type, which is reducing it. However, when we acquire assets, we spend money on them, but this type of spending differs from when we buy consumer goods because we understand that invested money can be returned with a profit or loss.
In the table below, you can see all types of personal finance. We will focus on each of them to expand the subject in more detail. It is important to distinguish between these types for financial planning. This classification of types of personal finance allows establishing the connection between earnings and assets in personal financial statements.
Types of personal finance:
- Daily or Operational Type
- Revenue (Salary, Deposit Interest, Dividends)
- Expenses (Consumer goods, Loan interest)
- Capital Type
- Assets (Cars, Houses, Buildings, Savings)
- Funds (Earnings, Bank loans, Credit cards, Mortgages)
Daily or Operational Type
This type of personal finance is one of the most commonly used and easy to identify. All non-repayable income received from outside can be classified as personal revenue. The opposite condition is applied for a personal expense, which means all non-refundable expenses made for consumption.
Revenue and expenses are used for calculation Cash and Earnings accounts in the personal balance sheet. It is a chief point of connection between the balance sheet and personal income statement. Accumulative result of operational income and expense is aggregated to these accounts and represents Earnings as a source of funds and free cash as an asset.
Personal Revenue
Personal revenue can be described as money inflow. Salary, wages, interest, dividends, bond coupons, and other earnings from investment activity are personal revenue. All earnings belong to this type. It is important to distinguish between this type and personal funds.
If you get a loan from a bank, you cannot classify it as a source of income because it is a source of funding/financing. But if you sold the property or an asset at a price higher than you paid for it, then this difference can be taken into account as personal revenue.
Personal Expenses
This type of personal finance includes expenses on groceries and consumer goods, fuel for a car, utilities, rent, taxes, airplane tickets, media content, end etc. All cash spent on consumption or for operating activities can be classified as expenses.
The difficulties may occur when we try to classify a payment on a loan. Generally, the payment consists of two pieces: the principal and the interest. Principal reduces the amount of debt, and this is a capital type. Interest is a personal expense that you pay to the bank. Interest is debt service costs, and it is a personal expense.
Capital Type
Personal Assets
Personal revenue and borrowed funds invested in property and financial instruments acquire the status of personal assets. Money spent on capital expenditures may be returned in the future. Property and financial instruments may be sold.
Real estate, cars, savings, and investment portfolios with stocks, bonds, and other securities are personal assets. All personal property can be classified as assets. It is important to distinguish between spending on assets and consumption to manage personal finance.
You can watch video instructions on accounting for an asset.
Personal Funds
Funds are sources of financing for assets or daily personal expenses. A savings account is an asset, and its source is funds. Funds can be formed from personal income or can be borrowed. Earnings, Loans, House mortgage, Credit cards are personal funds. They can be used for capital expenditures, assets acquisition, property purchase, or daily expenses.
Funds are sources of financing assets. You can pay for the car with the money that you earned. In this case, earnings will be the source of financing. You also can get a car loan and pay with borrowed funds. In this case, a loan will be the source of financing.
There is a particular video guide on accounting for a loan.
The relationship between types of personal finance
Revenue and expenses are used for calculation Cash and Earnings accounts in the personal balance sheet. Cash is an asset. Earnings are a source of funds for this asset. Capital type of finance is a separate account in balance. As you see, all these types are tiny connected. Earnings are the difference between revenue and expenses. Earnings are also the source of funds for assets.
If you manage money wisely, then the more earnings you have, the more assets and property you own. A bank loan is also a source of financing assets. However, this source should be replaced with the earnings in the future. A loan is a financial instrument to get assets and property immediately, but this instrument costs an interest, which is reducing earnings. The fewer earnings, the fewer assets you can have.
At first sight, personal finance is important and is as hard to learn as corporate finance. These two areas of finance have common principles because they both deal with the same kind of money and monetary policy. We operate with money every day and have an experience, which we can easily be extended with theory and software to reach new levels of personal finance.
