Financial Planning Lesson

The Importance of Financial Planning

Financial planning like anything you do that’s worth doing requires a plan of action. The operative word is action because nothing happens until you take action. The plan is your road map to financial freedom. Your plan is a projection of future income and expenses that you can use on an ongoing basis to track how well you are doing. Your financial plan can be a projection of your household finances as well as your investment finances. An investment plan focuses on investment capital and guides you through an investment strategy that keeps you focused so you don’t make emotional investment decisions. A household plan keeps you focused on improving the day to day finances of the household. The bottom line is it’s a well thought out guide that you can follow to improve your personal financial position. I really want to make sure you understand the importance of financial planning. This is not something you can take lightly or think is to hard to accomplish because it's so key to your financial future.

Your financial plan should be your road map that you review early and often. It’s a lot easier to recognize opportunities when you know in advance what you are looking for. For instance if you put in your plan that you want to purchase a two family home in a market that is appreciating at 10% annually with a rent to mortgage ratio of 2.5% in a safe neighborhood with a good school system. Your goal may be to live in one of the units and rent out the other with the expectation that the other unit will pay 90% of the rent. When the Realtor tells you about this type of property you will know exactly what you are looking for and will be able to logically evaluate the deal based on your pre-determined criteria. After you make this step you are ready to move on to the next step. If you follow your map you can improve your personal finances with confidence.

To start your plan you need to project your future income. So if you know you are getting a 4% pay increase in June you can put that into your plan. The nice thing about this is this is money you didn’t have before so now is the time to figure out how to put it to use so that you move your financial position forward. You have to review all your sources of income including child support, alimony, pensions, disability etc... Once you have projected your income you need to take a look at your expenses and divide them into to two types of expenses. Fixed expenses which are expenses that are consistently the same every month such as mortgage payments, car payments, alimony, child support etc... And variable expenses which are expense that change on a monthly basis such as gas, electric, water etc... Once you have figured out your income and expenses you can figure out if you have enough cash flow to cover your normal living expense. If you do then great, hopefully you have some left over for savings. Of course if you don’t then you have to figure out how to reduce expenses or increase income. We all know it is usually easier to reduce expenses than increase income.

A financial plan that focuses on your household finances does just that it is designed to help you improve your household finances. The plan focuses on the day to day income and expenses of your household. The key is you will focus on household spending and anything that you may have planned to improve your home or income. This is the time to review your insurance deductibles to make sure you are not over paying for life, auto, homeowners, or renters insurance. You should review your credit cards and eliminate high interest credit cards, your ultimate goal should be to pay off credit card debt at the end of the month avoiding interest expense.

An investment financial plan focuses on your investments such as stocks, bonds, mutual funds, options or whatever your preferred investment. This is the time that you will focus on asset allocation which simply means you are going to plan to diversify your assets so you don’t put all your eggs in one basket. If you invest all of your money in a particular investment that suddenly goes down in value you could loose your entire savings. It’s very important that you protect your principal (savings) when you invest. This means it’s important to know when to get out of an investment and when to stay in. Most of the best investment advisor's are only right in their investment choices about 40% of the time, that’s why it’s important that you get out of loosing investments as soon as possible and stay in winning investments as long as possible. When ever you invest you should know your entry and exit points. I will cover this in more detail in the investment section but the bottom line is you should have an investment plan if you want to successfully grow your investment income.

Remember your financial plan is a well thought out guide that you use as your road map to financial freedom. It focuses on your household income and expenses as well as your investment income and expenses. The general idea is to cut expenses as much as possible while increasing income. The most important part of the financial plan is action. You must take action, you can’t have analysis paralysis and you can’t let fear keep you from moving forward. Know that you will make mistakes but you will learn from them ultimately avoiding other bigger costly mistakes.

Money Basics
Whether you’re struggling to make ends meet, dealing with debt or other money problems, or just looking for ways to make better use of your money and finance. This is a great place to learn the basics.

Budget

Financial Planning Lesson