Module 1: Financial Planning

FINANCIAL PLANNING

What is financial planning? Simply put, it’s the process of planning for your financial future. How is it that some people live paycheck-to-paycheck and others at the same income level are living in large, luxurious homes? Except for the small percentage that achieved their wealth in a stock initial public offering (IPO), most families attain their goals by careful planning.

A successful financial plan involves lots of tedious work from all members of the household. This work includes determining the children’s allowances, the amount to be spent on restaurant meals in a given month, and the amounts to be saved for college and retirement. The following sections will give you a base from which you can start your financial plan. Each family’s scenario differs, so adjust the sample worksheets to fit your needs.

PERSONAL NET WORTH

To evaluate your or your family’s current financial status, start by completing a balance sheet. Doing so is the first step in financial planning. Just like company balance sheets, yours will give you a snapshot of your finances at a specific time. Unlike for-profit companies, you will list only assets and liabilities.

The left side of the balance sheet includes your assets, those items you own and are trying to protect. Assets can be divided into tangible (convertible to quick cash) and intangible (real property). Tangible assets include cash (either on hand or in bank deposit accounts), jewelry, automobiles, furniture, investments, and so forth. Examples of real property are a home or other real estate. Liabilities, on the other hand, are what you owe to creditors. The largest liability for most families is their mortgage, with auto and student loans following. An alarming percentage of the liabilities of many families consists of payments on their revolving credit card lines. Credit card debt averages $5,800 in the United States (Yochim, 2001, 1). After you fill in the blanks, subtract your liabilities from your assets to find your personal net worth.

Complete the family balance sheet.

Now that you know where your money is going, you need to review exactly what goals you are striving for. Each of us has a certain financial goal—whether it’s to retire early, buy a new house in two years, save for college, or remodel our kitchen. Separate your goals into the following categories:

• Long-term (20+ years). Retirement, for most of us, is a long-term goal because it requires a substantial amount of time to accumulate a comfortable nest egg.
• Medium-term (6–19 years). Saving for your children’s college tuition and expenses falls under this category. Such goals usually require less than 18 years worth of savings.
• Short-term (0–5 years). These goals can be broken into paying off charge and credit cards and paying off a new car purchase (48–60 month auto loans).

Write down these goals and develop a modest time frame for achieving them. You probably will be unable to achieve them without reallocating your expenses, which is the next step in financial planning.

FAMILY BUDGET—CASH FLOW STATEMENT

A family budget involves reviewing the household’s income and expenses. After writing down the monthly income and expenses (described below), you will get a feel for your family’s spending habits. The trick is to budget your spending for future months and track the spending. One or two goals (e.g., saving enough for college tuition or for a down payment on a first home) should be added initially, with other goals added by the end of the year.

INCOME

Household income includes all the family’s sources of income such as wages/salaries (both husband and wife), interest from bank/money market accounts, and income from Social Security, pensions, annuities, alimony, rent, and so on. Examples of different levels of income are provided in the sample chart. As you see, you must subtract taxes (these are usually deducted automatically from payroll checks) to determine your household net income.

EXPENSES

Each household has a number of fixed expenses (mortgage, rent, auto loan payments) and variable expenses (food, entertainment, grooming, gasoline). Fixed expenses are difficult to adjust (with the exception of refinancing your mortgage, which we will discuss in module 3). Therefore, changes have to be made on the variable expense side. You will note that there is no row for ATM withdrawals so you must account specifically for where that money was spent. At the same time, make sure you record the amount of ATM fees (in addition to revolving credit card finance charges and fees) you pay each month.

Complete the cash flow statement.

Now that you’ve completed the family balance sheet and the cash flow sheet, develop goals with your family’s input, and determine a time frame for attaining them.Before you develop your goals think of the little things that add up that you might be able to do without (eating lunch out everyday, lattes twice a day, etc.). Use the Transamerica Loose Change Quiz to see how cutting back on even the little things and investing the savings can yield a mighty return.

FINANCIAL PLANNING SOFTWARE

Two software packages are available in the marketplace for individual consumers to use in tracking their income and expenses:

• Intuit Quicken. “Quicken 2001 Deluxe helps you better manage the 7 key areas of your finances: Banking, Investing, Taxes, Planning, Loans, Insurance, and Spending & Saving. It’s packed with powerful features and enhancements that let you see the complete picture of your finances” (Intuit: Quicken 2001 Deluxe for Windows, 2000).

• Microsoft Money. “Money 2001 Standard helps you quickly and easily manage your personal finances. Balance your checkbook, pay bills, bank online, create a budget, reduce debt, and more!” (Microsoft Money 2001 Standard, 1 November 2000)

You can review each of these products at their respective Web sites or at your local computer software store. You are not required to purchase either of these products to complete this course. We have presented them only to show you what is available.

REFERENCES

Intuit: Quicken 2001 Deluxe for Windows, 2000. (Accessed 1 Nov. 2000).

Microsoft Money, November 1, 2000. (Accessed 1 Nov. 2000).

Yochim, Dayana. “Getting Out of Debt.” The Motley Fool. 2001. http://www.fool.com/credit/credit.htm?ref=MMdebt, (Accessed 4 Jan. 2001).

Develop a personal financial plan detailing the financial goals that you and/or your family have developed. Include:

• Analyze your personal financial situation using appropriate financial tools.
• Identify short-term, mid-term, and long-term goals. Rank your goals in order of importance as they relate to the financial resources available and expected. Estimate the financial commitment for each goal.
• Consider all factors we have covered in class, including budgeting, time value of money, asset protection, debt/credit, savings, investing, and estate planning.

Incorporate the first two stages to complete the development of the financial plan.