Today I will discuss about Personal Financial Ratios which are very important and easiest tools to check your financial health. I will try to explain these ratios with simple examples so that all can understand.
1) Savings to Income Ratio:-This is one of the most important ratio. It shows your good health condition of finance. It can be calculated as Your Current Value of Savings/Current Income. Suppose Mr.X’s current valuation of investment is Rs.12,00,000 and his annual salary income is Rs.4,00,000. Then Savings to Income Ratio will be (1200000/400000=3)3. Ideal ratio depends on age of the person. Make sure it will be always high so that you are ready face any financial emergencies.
2) Debt to Income Ratio:-It will help you to move from a situation of high debt and low savings to a situation of no debt and high savings as the age increases. It can be calculated as Current Financial Obligations/Annual Salary. Suppose Mr.X is earning Rs.4,00,000 and he took Rs.10,00,000 housing loan and Rs.2,00,000 Car Loan then Debt to Income Ratio is (1200000/400000=3)3. You need to decrease this ratio as your age pass by. Which makes you debt free in your old age. This will also face a major role when you apply for new loans. Banks used to gauge this ratio before lending you.
3) Savings Rate to Income:-This refers to the percentage of saving a person is doing on yearly base from his yearly income. Suppose Mr.X’s annual salary is Rs.11,00,000 and he saved Rs.1,00,000 and his employer contribution towards EPF is Rs.30,000 then his Savings Rate to Income is (100000+30000/1100000=11.8%)11.8%. Ideal ratio should be around 20% to 30%. Higher the ratio on yearly base higher will be your financial health condition in future.
4) Liquidity Ratio:- Basic Liquidity Ratio-This ratio will judge you for how many months will money last for if all your sources of income stopped.It can calculated as Liquid Assets/Monthly Expenses. Liquid assets includes your cash at home, cash in savings bank account and in a flexi deposit account and investments in money market mutual funds. In other words the ready cash available to use. In this Debt and Equity investments not included even though you can liquidate them easily. But those are for long term perspective. Hence better not to include them. Suppose Mr.X have cash in home Rs.12,000 Savings account balance Rs.15,000 Flexi Deposit Rs.25,000 and Money Market Mutual Fund Rs.50,000. His monthly expenses is Rs.25,400. Then Liquidity ratio will be (102000/25400=4.01)4.01. Means he can survive till 4 months without his regular income. It should be 6-12 ideally to have good comfort zone.
Expanded Liquidity Ratio-Nothing major different from the above Basic Liquidity Ratio but in this will add other financial assets too to gauge the survival of a person without regular income.
5) Liquidity Assets Coverage Ratio:-This ratio will gauge how much liquid cash available to pay your debt. It may help you in gauging your debt condition and make you to reduce your debt burden. This can be calculated as Liquid Assets/Total Debt. I will consider above example of Mr.X where he have liquid assets of worth Rs.1,02,000 and if he have different loans raging from Home Loan, Car Loan to Consumer Loan of about Rs.15,75,000. Then Liquidity Assets Coverage Ratio is (102000/1575000=0.0647)0.0647.
6) Net Worth:-In simple term to explain this is, your total Assets-Liabilities.High Net worth means higher probability to reach your financial goals easily.
7) Risk Exposure Ratio:-This ratio is very much important to calculate for how many years person’s family can survive in the event of his untimely death. This can be calculated as Networth plus death benefits of the principal wage earner/Salary of principal wage earner. Suppose Mr.X have Networth of Rs.20,00,000 he have insurance cover of Rs.20,00,000 and his annual salary is Rs.4,20,000 then Risk Exposure Ratio is (2000000+2000000/420000=9.52)9.52. This mean his family can survive upto 9.52 years in the event of his untimely death. But the drawback of this ratio is, inflation is not considered.
Hope above ratios made you familiar with how much they are important to judge one’s financial health.