Creating a Basic Financial Plan

Creating a basic financial plan for yourself

A basic financial plan for someone which wants to save money will consist of 3 main areas of input data. The 3 areas to collect data on:

• 1) Income
• 2) Expenses
• 3) Debt

The amount of detail of each area depends on what the plan is trying to solve. With income, it is best to focus on a few of key things

• a) Does the income vary pay check to paycheck?
• b) What taxes and other withholdings are taken out?

Expenses are different for each person. They are different for 2 reasons- few people will actually have the same amount for the same item in their budget (will you spend exactly $250.47 on groceries next week too?) and more importantly how a person "values" that expense. Some people don't mind having a mortgage at 5% interest rate when their investments earn 7-8% annually on average, other people are debt averse and a 4% mortgage is debt which needs to go away, even if their savings grows at a higher rate.

List all your expenses and then try to group them together. Some groups of expenses would be

• a) Required expenses vs discretionary expenses
• b) Fixed expenses vs variable expenses
• c) Temporary expenses vs Permanent Expenses

For example, an electric bill is a required expense which is variable. And it's probably a permanent expense too.

A movie subscription or cable package is probably a discretionary expense which is a fixed expense (same amount each month).

Debt has a few different shapes and forms. Step 1 is list all debts. When you list the debts include the following information:

• a) Debt source
• b) Interest rate
• c) Is the interest fixed or variable?
• d) Amount owed
• e) Payment (per month)
• f) Expected payoff date (month and year)
• g) Is the debt secured or unsecured?
• h) Is the debt on an appreciating asset or depreciating asset?

The last two questions mean the following- Secured debt means you could sell the item you borrowed for and use that to pay down or pay off the debt. For example a car, house or boat loan is a secured loan. You could sell the asset to help pay off the debt if needed.

Cars generally depreciate in value, as do boats and most other items. A house in some markets might appreciate in value.

The toughest part of creating a financial plan is collecting this preliminary information. Once the information is collected, depending on the problem, it is used a different way.

Is your financial goal to

• a) Pay down debt?
• b) Improve cash flow (have more money for discretionary expenses)?
• c) Save for a large expense (retirement, new house)?
• d) Track your money?
• e) Make sure the money you invest will last your whole life?

Depending on which goal you have, different portions of the data might be more relevant. The next article will discuss how to analyze data for specific problems.