Everything we do, every activity we undertake, every decision we make, is backed by some reasoning and proper planning. Which college are you going to choose, which career are you looking to adopt? Which city are you going to settle in, how are you going to choose your life partner, you plan for each and everything.
Out of all these decisions you make and planning you do, your financial planning can be easily ranked as one of the most important factors in your life. If you want to go to college, you need finance. If you are thinking about choosing a profession, you must know what financial benefits can you get from choosing that particular field. How much will you earn with this, how much can you save, how much can you spend, what kind of lifestyle can you get from this profession. Each and every aspect of your life and decisions are somehow linked with your finances.
Financial planning is not only an important factor but, it is also a complex process too. It is based on various things and is affected by multiple variables. How much are you going to invest for your future, how much will you need when you retire, what kind of real estate investment are you looking for, what is your contingency plan, etc. All these things need consideration while formulating a financial plan.
Moreover, these decisions are affected by some external factors too. Such as, economic conditions of a country, unpredictability and changing global economic environment, political factors that can influence lawmaking and policies, rapidly changing trends and environment, and other similar factors. Financial planning is a process of ongoing nature. You cannot make all financial decisions for the next 20 years because you don’t know what you will be facing after those 20 years. It needs long term as well as short term planning and adapting to the changes happening around you. This article will be describing some key components of financial planning and will help to understand financial planning and evaluate your perspectives about financial planning.
One of the most important and integral parts of a financial plan is cash flows. Cash flows are the “incomings” and “outgoings” of your money. What is the ideal situation in cash flows? The ideal situation for cash flows is, “incomings and greater than outgoings”. This means, if you are earning more and spending less, then this is the first milestone achieved as far as cash flow management is concerned. But, if your expenses outweigh your revenues, then you need to reassess where you are standing.
How is cash flow important in financial planning? Well, the answer is very simple. If your revenues are greater than your expenses than you will have a surplus of funds. These are the funds you are going to utilize in the future. These are the funds you are going to plan about. This “surplus” is responsible for investments you are going to make or save you will have for the future. But, if that expenses graph is higher than the income graph, then there is no point in planning about investments and other things.
Managing Risks and insurances:
Now, there are some things, some events, that can occur suddenly and you may not have planned for them. These contingencies can be very disturbing and can leave you completely clueless or hapless. They may include some serious medical problems, a road accident, a natural disaster, a medical disability, a jobless period due to economic crisis or any other reason, a personal property catch fire, your car may get damaged by a road accident, etc. Now, when we talk about financial planning, we must consider these “unwanted” contingencies as well.
When we talk about these things, there are some terms that may pop up in our minds. Such as, “life insurance”, “medical insurance”, “property insurance”, “fire insurance”, “vehicle insurance”. Having insurance can be a very handy thing to combat these contingencies. Insurances may seem like a burden when you are paying for them but, in the end, they surely can save the day. For example, if someone is diagnosed with a lethal disease and it is impossible to bear treatment expenses at one, medical insurance will definitely be a “heavenly” thing at that time. So, planning for future potential risks is very important.
Balance sheet analysis:
A balance sheet, also known as “statement of financial position, is a presentation of assets and liabilities. Keeping a check on your current standings is very important. You must be aware of all your assets, how much worth they have, how much time will it take to consume them, how can you expand your assets list, what are your immediate liabilities, what are your obligations in future, where is your total capital standing and most importantly your balance sheet should be “balanced”. A balance sheet can give you a very clear and depicting image of your current position and can help you to reassess your strategies related to your financial concerns. Not only this, you can adjust your proceedings according to your current standings as well.
If you are a college student or a parent to a son or a daughter who wishes to graduate, then you, as a parent or a student, you must have a solid plan to bear these educational expenses. You must be aware of the consequences of the options you are going to choose. For example, if you are opting to use a “student loan option”, how long will it take to repay that loan, what are your options to repay that loan in time?. On the other hand, if you are going to use your savings, how much should you save for your children’s educational expenses? When are you going to start saving for this purpose? What other adjustments are required for your overall financial plan? Are you thinking about taking a loan for your son’s education? What are your resources to settle off that loan? All these aspects must be considered while planning your education or your kids’ education.
Planning your retirement:
There is no doubt what-so-ever that life after retirement is a phase about whom, everyone is so concerned. Once you retire, you would not have the luxury of a job income or something like that. How are you going to meet up the expenses later on? That question should be considered while making a long term financial plan.
You need to evaluate how much will you need once you retire, How much will be your monthly expense (keeping the inflation rate in mind)? Will your pension be enough for you? Or you need something extra? The most important things that need to be covered up while you retire are social security and medical expenses. If you have them covered, more than half of your headaches are already gone. You need to assess if you need “something saved” for the future. You may think about investing in stocks or mutual funds or investing in real estate for long term benefits.
One thing you should be aware of is, when should you start saving or investing for your retirement? That is, if you need a certain amount when you retire, then you should start saving or investing while keeping that thing in mind. For example, let’s say you need $2 million at your retirement, you should estimate the amount of investment needed for that and how much time will that investment take to reach $2 million at your retirement.
If you think your salary is enough to cover up everything and you will not live longer than 60, then you really need to think again. A prudent financial plan is not complete without having an investment policy. Investing in stocks, mutual funds, or bonds is an activity whose importance cannot be denied.
Before investing, you need to identify your motives. Are you going to invest to earn immediate short term income? Or planning a long term investment? Short-term investments mostly yield a low rate of return while long-term investments yield higher returns. People make mistakes like “I should invest in the latest hot stock or best mutual fund”. You need to understand that the latest hot stock may not be helpful for your investment plans. It may be contradicting with your motives or objectives. Your investment plan should be based on your financial goals.
Estate planning may include managing your assets and real estate properties. Real estate is one of the highest-earning businesses around the globe and a planned real estate investment can be very handy while talking about a financial plan. It not only yields regular profits but, it also keeps gain appreciation in its value. While planning your retirement, thinking about real estate planning is a “must-do” thing.
It can be helpful in various ways like it can cover your post-retirement expenses, it can work as a “savior” in case of contingencies, it is a worthy investment for the family of a deceased, it is a highly liquid investment. Estate planning also includes trusts, wills about property or asset transference to the family members of the deceased. Like, blended families have a complex and unique asset or property transference procedures. Ensuring protection for children or other spouses of a deceased and similar challenges like these must be considered while doing estate planning.
Tax planning is another component of financial planning and this needs a proper consultancy. Financial planners may not have expertise like a CPA but they can provide sufficient base-level knowledge according to the financial plan you are willing to formulate. However, hiring a tax consultant like a CPA is highly recommended for this purpose. They can help you with tax-reduction strategies, tax relives and rebates, etc.
Financial planning is not about buying a “hot stock” or taking unnecessary risks. It’s a prudent and ongoing process. Assessing and planning these discussed components can be complex and needs proper consultation. A financial planner can help with making a customized written financial plan according to your personal and domestic financial goals and objectives.