You may wonder – “Do I really need a financial plan?”
Some feel that saving regularly in bank recurring deposits or Systematic Investment Plans (SIPs) in mutual funds is financial planning.
But allocating savings and investments in ad hoc manner is not enough to achieve your life goals. And such investments lead to inefficient utilization of your financial resources.
What is Financial Planning?
Financial Planning is the process of meeting your life goals through the proper management of your finance. Financial Planning provides direction and meaning to your financial decision.
The main elements of a financial plan include a retirement strategy, a risk management plan, a long-term investment plan, a tax reduction strategy, and an estate plan.
A financial plan is a document containing a person’s current money situation and long-term monetary goals, as well as strategies to achieve those goal. A financial plan may be created independently or with the help of a Certified Financial Planner.
The plan should not only be comprehensive, but also highly individualized to reflect the individual’s personal and family situation, risk tolerance, and future expectations.
- The plan starts with a calculation of the person’s current net worth.
- You cannot create a financial plan without cash flow. You must know where your money is going every month.
- Cash flow will help you see how much you need every month for necessities, how much might be left for saving and investing, and even where you can cut back a little or a lot.
- Calculate how much you’ve paid over a year in basic housing expenses like rent or mortgage payments, utilities, credit card interest, and even home furnishings.
- Add categories for food, clothing, transportation, medical insurance, and non-covered medical expenses.
- Document your real spending on entertainment, dining out, and vacation travel.
- Even look for cash withdrawals that may be used for sundry expenses.
- Look on your personal spending.
Once you add up all these numbers for a year and then divide by 12, you’ll know exactly what your cash flow has been.
Consider your goal priorities. They may include funding education for your children, marriage of your children, buying your dream home, retire on time, or leaving a legacy, etc. No matter what your priorities are, the plan should include a strategy for accumulating the retirement income you need.
Asset Allocation plays most important role in financial planning to achieve all your goals. Your destination is important. However, the journey matters too. None of us is 100% rational. We are emotional beings. Even though we might be very optimistic about equity or mutual fund returns, sharp losses worry us. Remember, nothing is guaranteed with equity or mutual fund investments.
Be honest about your risk appetite. During good times, everybody claims or wants to be an aggressive investor. It is during bad times that the true risk profile of an investor can be assessed. Don’t worry if you got it wrong the first time. Learn from these losses and adjust your asset allocation to achieve your life goals.
