What Is Financial Health?

Financial health is a state in which a person, company or financial institution measures its well-being by the condition of monetary assets and liabilities, such as debts and savings.

Understanding the metrics and measures used to assess financial health can help you improve and maintain your overall financial situation. It can also benefit your mental, emotional, and even physical well-being.

Definition and examples of financial health

The World Health Organization (WHO) defines health as "a state of complete physical, mental and social well-being and not just the absence of disease or illness."

Taking this into account, financial health can be defined as the state of well-being of a person, company or the finances of an institution. It is important to understand that, as with your normal health, your financial health is not based solely on the absence of things like debt. Take many factors into account.

For example, in the same way that doctors measure physical health with metrics like blood pressure or body mass index (BMI), you can measure your financial health with metrics like credit score, debt-to-income ratio (DTI ) or equity.

How financial health works

Financial expert and author Emily Guy Birken told The Balance over the phone that each individual should look at their own unique financial picture.

"Financial health has many parallels to physical health, as there is no single metric that determines health," he said. “You may not live paycheck to paycheck, but what are your debts? Do you have insurance? How big is your emergency fund? It may seem like a moving target because there is no metric to hit. "

"If you work on one, it will definitely benefit your overall health," Guy Birkin said. “If you quit smoking, you can gain weight, but it improves your overall health. If you pay off high-interest debt, your cash flow may decrease for a time, but your overall financial health improves. "

Guy Birken said that consumers should think of the metrics used to determine financial health as vital signs. Income is a vital sign of financial health. It is not necessary to have a high income, but the expenses should be less than the money earned. Debt can also be a vital sign. A high DTI rating can be a warning sign that your financial health is not that good, while a low rating can be a sign of good financial health.

Knowing the metrics used to measure financial health is one way to begin to improve and maintain a state of financial well-being.

What metrics are used to measure financial health?

Sheer asset ownership is just one metric that can be used to measure financial health. Assets are anything that contributes positively to net worth. Assets can include:

• Money in your emergency savings account
• Investments like stocks and mutual funds
• Retirement accounts
• Insurance coverage

Guy Birken said that adequate insurance is a metric that works best as an indicator of financial health problems.

"Driving without auto insurance is not a decision made by a person in good financial health," he said. “If you don't have health insurance, you are in a precarious financial situation. And people don't realize how necessary life and disability insurance are. If you contract COVID-19 or pneumonia and need three months to a year to recover and you do not have disability insurance, then you are out of luck. "

There are also metrics that include liabilities when calculating financial well-being. For example, your DTI index, which measures how much debt you have compared to your income, can be used to calculate your credit score. It can also be analyzed on its own, such as when applying for a home loan. Credit scores can also be used as a metric on their own, such as when applying for a credit card or personal loan. Equity is another metric that can come into play.

For example, if you are in good financial health, you probably have a higher credit score. Or maybe your DTI rate is 36% or less. Your equity can also be positive, which means that your total assets equal more than the total value of your liabilities.

How You Can Improve Your Financial Health

The best first step to improving your financial health is to control your spending by creating a budget. By knowing exactly how much money you are spending, you can more accurately plan to increase your income or reduce unnecessary expenses if necessary.

After creating a budget, you can set aside money to create an emergency fund and reduce or pay off debt. As you pay off debt, your DTI rate goes down while your credit score goes up, which is good for your financial health. With less debt, you can have more disposable income and pay more for insurance.

When all of these metrics start to improve, add the value of your assets (like your savings or equity) and subtract the value of your liabilities from that number (like student loans and mortgage debt). The result is your net worth. You can take steps to improve your net worth, and by doing so, the other metrics will certainly improve.

Guy Birken said that consumers should also remember that the outcome of any metric may be out of their control.

"There is a feeling that if you do everything right, your financial health will be perfect," he said. “That is simply not the case. Certainly, healthy people can suffer catastrophes. There will be things that are beyond your control, so it is important to do what you can. "

Enjoy Watching This Video About Finances

Source: Project School Wellness

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