The importance of a financial plan

The road to financial success at any age begins and ends with a sound financial plan. Whether you are trying to buy a home, saving for college education or planning for retirement, a financial plan is essential.

It is not a matter of how much money you make but how well you manage the money you earn. The degree of efficiency with which you manage your money will determine how much money you have to save and invest. This means spending wisely and planning ahead. Life is choices, and the choices that you make today will determine your lifestyle in the future.

Start the financial planning process by establishing your goals and objectives and determining whether they are short term or long term. Are you saving to make a down payment on a new automobile next year or saving to pay college funding in 10 years? Once you have prioritized your objectives, you can then decide which investment vehicles best meet your needs.

The farther away your goal or objective, the more risk you can take. Typically, growth stocks and growth mutual funds are utilized for long-term investing while fixed income securities provide stability and liquidity for short-term needs. Investing for your financial future is not a matter of choosing between risky and safe investments but rather making a determination as to when you need the money and whether you are investing for growth, income or safety while balancing investment risk, inflation risk and your own risk tolerance.

Everyone has to plan for retirement. Some of us may live 30 years in retirement, and we have to plan for that eventuality. If you have children, you must also be setting aside money for college. Get started as soon as possible. For every five years you put off investing for college education, you may have to double the amount you save per month to meet the same goal.

Determine what resources you have to work with while still maximizing your 401(k) savings plan and a ROTH IRA (if income permits). How do we do this? Start by preparing a balance sheet to determine your net worth. This is done by adding your assets and subtracting your liabilities. Do this once a year as an acid test of your financial plan. Hopefully, your assets surpass your liabilities and continue to grow each year.

Next, prepare a cash flow analysis. On the income side list salary, interest, dividends, capital gains and bonuses. On the expense side, include your mortgage payment, food, clothing, car payment, credit cards and miscellaneous expenses.

The credit card and miscellaneous categories are where most people run into problems. Food, clothing and shelter are often cited as life's three basic necessities, but studies have shown that we spend only about half of our money on these things. Aside from monthly transportation costs, the rest of your money is disappearing into credit card debt and miscellaneous expenditures.

The biggest hindrance to good financial planning is the credit card. Americans carry an average of seven credit cards in their wallets, 47% of Americans have credit card debt and 60 million households in the United States have an average of $7,000 in credit card debt. It is fine to have credit cards, but the balance should be paid off each month.

In an effort to control your use of credit, record each amount you charge in red ink in your checkbook register because you have essentially written a check against your monthly income. Once you approach your monthly income limitations, stop charging for that month.

Avoid using your credit card for "big ticket" items. When you get a bonus, put this money toward a home, new car, college funding or a rainy day. Too many people use their bonuses to pay off credit card debt. Create a three-month after-tax living expense cash reserve fund to use in case the furnace breaks down or your car needs major repairs so you don't have to resort to using credit.

On the expense side of the cash flow statement, also include a savings category. Americans have notoriously poor savings habits and spend more than they have coming in. Too many people try to pay their bills and then save what is left over rather than developing a spending plan or budget which will allow them to spend money on the things they really want rather than frittering it away on things that are unimportant to them. Most of us think of budgets as painful, when, in reality, they are simply guidelines that help us plan.

To develop a budget, start by tracking your spending over the next two to three months and categorize your expenditures. Be sure to include your mortgage payments, insurance, car payments, food and other expenses. Analyze these categories. You may be quite surprised to see where all your money is going. Set modest goals to improve spending habits and look for logical ways to curtail spending. Perhaps you are spending $1,000 on lunches each year where carrying a brown bag three times a week can make a real difference in the amount you have to save each year. Once you have a plan, continue to track your spending, but stay flexible so that you can refine your plan as you go along.

Re-evaluate your insurance needs. You can save premium dollars by increasing the deductible from $1,000 to $2,000 on your homeowner's insurance. You may be able to save money by canceling older whole life policies and buying term insurance at a lower cost, thereby making more funds available to invest in your 401(k) savings plan or IRA.

Continue to re-evaluate your financial plan as your circumstances and objectives change over the years. Ensure that you have enough invested in growth as a hedge against inflation during your retirement years, and preserve what you have amassed through estate planning. By the time you retire, you will have accumulated numerous assets. PR