Although there are many ways to create a financial plan, it's important to consider the four most critical components of a plan when developing one.
Have a financial goal
Before you start working on a financial plan, it's important that you have a clear understanding of what you want to achieve with your money. Having a list of goals can help you organize them and make them easier to manage.
One of the most common short-term goals is to pay off debt. These are also the kinds of goals that most people aspire to in the next couple of years.
A medium-term goal is something that you want to achieve in the next few years, such as starting a business or paying off a home.
A long-term goal, which is typically 10 or more years away, is something that you want to achieve in the future.
List out each goal in a clear and specific way, such as with a target date and dollar figure. Having a goal that is specific helps people measure their progress.
Net worth statement
Before you start working on a financial plan, it's important that you have a baseline. Having a list of all of your assets, such as your investments, bank accounts, and real estate, and another of all your debts. This includes credit cards, mortgages, and student loans. This will help you determine your net worth.
Budget and planning for cash flow
A budget is a vital part of any financial plan, as it can help you identify where and how you can cut back to meet certain goals.
A budget calculator can help you keep track of all of your expenses, such as out-of-pocket medical costs and property taxes. As you go through your list, separate the expenses into two categories: must-have items and nice-to-have items.
You can also use a budget to pressure-test your goals, such as what if you have to retire earlier or lower your mortgage. Some robo-advisor platforms allow users to modify their assumptions to see how these can affect their savings strategy.
Have a debt management plan
Not all debt is bad debt. For instance, if you have a mortgage, it can help boost your equity. However, high-interest credit cards can negatively affect your score. Think about it like this: every dollar that is paid in interest and finance charges is another dollar you can't put toward goals.
If you are carrying high-interest debt, it's important that you establish a plan that will allow you to pay it off quickly. Financial advisors can help you prioritize and come up with a budget that will allocate a portion of your income toward your debts.
