Simple steps to a great financial plan

Most of us understand the concept of taking a disciplined approach to financial planning. Most of us would likely agree that having a written personal financial plan is a good idea. If you are reading this post then it’s probably something that you intend to do. Yet relatively few people have actually taken action to develop a formal written financial plan for themselves. Various reports show that, at most, only about 1 in 3 people actually have a written financial plan. Even among those that do, there’s a strong probability that the plan is not up to date and actively used for making important decisions.

Why the discrepancy between belief and action?

There could be many reasons for this discrepancy between belief and action when it comes to financial planning. Some justifications for avoiding the financial planning process may include:

  • procrastination
  • concerns about time involved
  • lack of information on details required
  • cost
  • a belief that we can “wing it” without putting anything in writing

I suspect that most people do not realize that the first working draft of a very effective financial plan could be drafted in about an hour, by yourself, at virtually no cost. Perhaps more people would actually get involved in the process if they had a little help with the mechanical aspects of developing a personal financial plan.

Get help or go it alone?

Like many other things in life, it helps to have a skilled empathetic person who brings real world expertise to save time and avoid mistakes. Yet professional help costs money. For most people who are not in the midst of a major life change, I suggest that one hour of professional financial planning time per quarter is an ideal starting point. Don’t confuse the financial planning time with specific niche like investment management. tax filing or insurance updates. Those have a different focus.

The goal of this effort

Whether you take it on alone or with professional help, a good financial plan needs to be no more than 2-3 pages and can be substantially completed in a few hours (although you will likely want to fine-tune it as you move forward). The point is to help map out a direction that makes since and can be used to stabilize your reactions to life’s surprises over the long term. The plan should always cover certain crucial items. This article is meant to provide a mechanical framework for building a simple but effective personal financial plan.

It doesn’t need to be complicated. A good start would include one or two sentences on each of the following points. That can be accomplished in the first hour. I have electronic document checklists and an outline that can make it even more efficient.

Dive in: Step-by-step

Start by drafting an outline with at least a few thoughts on each of these topics

  1. Statement of Objective – Businesses typically begin their financial planning by reviewing their mission statement and goals. The same basic principle applies to your personal financial planning. Start with a broad statement of what you want to accomplish, where you want to be, and when all this should happen.
  2. Cash Flow and Budgeting – Most people should strive to get to a point where their cash expenses total about 70% of their net income before they can consider themselves financially successful. Try to allocate 70% of your income toward expenses, 10% to reducing debt, 10% for savings, and give away 10%. (This is usually difficult or impossible at first but get easier over time). If you are using a computerized accounting system, budget planning is easy. If not, maybe this is a good time to start. Make the cash flow projection extend for your full expected lifetime just to force long term thinking. Accountants typically tackle this task by first electronically exporting past spending patterns from bank data and projecting into the future. Fortunately there is plenty of great software that makes this easy.
  3. Financial Statement – This is a snapshot of your current and expected future financial position. This is the fundamental function of any personal financial software. Most of this software connects directly with banks and financial company data for easy updating.
  4. Income – Identify opportunities for increasing income.
  5. Expenses – Identify opportunities for lowering expenses.
  6. Debt Reduction Strategy – You need an “exit strategy” or way to get away from consumer debt. Include an acknowledgement of strategy for investment or business debt.
  7. Credit – We acknowledge the importance of a good credit rating and include a plan to manage and improve upon your credit score. Credit score now affects everything from cost of housing and insurance to the jobs and contract opportunities that are available.
  8. Risks – What are your greatest financial risks and how do you cover them? This is the insurance section, but likely also includes legal and governmental risks that are not covered by insurance. Risk management tends to become the most important part of the financial plan around age 50 and its importance increases with age and amount of personal assets.
  9. Taxes – Incorporate strategies to minimize taxes for the long term. Be aware of your marginal tax rate and the significant taxes that can be manages as well as acknowledging those that cannot be reduced.
  10. Investment – A personal investment policy statement should be incorporated or attached to the financial plan. It should be build around the dollar amount of investments and your time objective.
  11. Marriage – Incorporate by reference a pre-nuptial or post-nuptial agreement. Don’t have one? That leads to considerations beyond the scope of this article. For now, simply acknowledge the scope and amounts of contingent liabilities that arise from family law in your state which may include the necessity to fund for #12 below.
  12. Education – This may include a reasonable plan to get the kids through college without breaking the backbone of the rest of your plan.
  13. Estate – Incorporate by reference the three key items everyone needs: 1) will, 2) durable power of attorney, and 3) advance health care directive. It is also important to list the titling and beneficiary designations of all assets. (If some of these are incomplete or out-of-date, have them updated now!).
  14. Name the most trusted individuals – It is important to identify trusted individuals and make sure that they are aware of each other. Presumably the first in line is the spouse of a married individual but it is important to communicate – in writing – with others who have primary access and control. This might include the accountant, attorney, advisers, insurance agent and definitely your appointed custodian and executor.

When these sections are at least outlined in a sentence or two, then add the two other sections below. These last two are actually the most important.

A Summary Paragraph should be developed to force the author and the reader, if applicable, to focus on the most important issues. This can be placed at the beginning or the end, it does not matter. I prefer to place it at the beginning in bold type, even though it is written at the end.

Finally an Action Checklist should be developed by pulling out issues from the other sections and added to the end of the plan. This is the result of the planning that now becomes the focus of attention.

The main point is that a good financial plan does not need to be complicated. A paragraph on each topic and a few documents or spreadsheets is a great start. Of course, more detail and professional input into certain areas will likely improve results. But the important thing is to get started, get it on paper, and then go forward from that point.

More Resources in my blog:

Choosing a Financial Adviser

Not Your Father’s Bean Counter

Financial Planning Checklist for Unmarried Couples

Tax Planning Checklist

Ten Common Mistakes of Mutual Fund Investors

Six Strategies for Cutting Health Insurance Costs


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