Financial Planning 101
Creating a personal financial plan for your life is the key to managing your money and having financial success. Of course, creating a financial plan a whole lot easier said than done.
I remember when I first started, I was so confused about financial planning. I was barely making money, didn’t have a clue about budgeting, getting out of debt, or saving money. I knew just enough to be dangerous.
If you are on my website reading this post, then you obviously want to begin managing your money instead of having your money manage you.
I know it sounds crazy, but you can become financially successful and all it takes is a financial plan – and a willingness to actually follow your plan. 😉
So what do you need to get started to begin creating your own personal financial plan?
First off, let’s discuss what a financial plan is.
A personal financial plan is a living document that helps you determine how your money is going to be spent. It is partly based on budgeting, debt reduction, income generation, savings goals (including retirement) and mixes in how this all interacts with your life goals.
I know it sounds kind of complicated, but give me a few minutes and I’ll simplify everything for you.
Financial Planning Step 1: Creating Your Personal Financial Plan
To start your financial plan you have to start with your goal – you have to have an end in mind. I recommend writing out 3-5 short-term goals, 3-5 mid-range goals and then 3-5 long-term goals.
Your goals could look something like this:
Short-Term Goals – 6-12 months:
- Create a monthly budget template and begin creating a budget every month.
- Reduce my spending by XXX%
- Begin working on my resume and job skills so that I can find a better paying job within 6 months
- Begin saving $100 per month until I have a $1,000 emergency fund.
Mid-Range Goals – 1-5 years:
- Pay off all my consumer debt in two years
- Save enough money to have a six-month emergency fund
- Start a side hustle that will help me increase my income by $1,000 per month
- Begin contributing 10% of my gross income to a retirement plan
Long-Term Goals – 5+ Years:
- Increase my retirement contributions to 15% of my gross pay so that I have enough in my retirement accounts to semi-retire at 50.
- Pay off my home within 10 years
- Continue to build my side hustle to generate $4,000 per month of income to make my retirement at 50 possible.
These were some of the actual goals that I made 8 years ago when I first started taking my financial planning seriously. Some of them I have accomplished and other’s I’m still working towards.
Creating those goals gave me a framework to help me plan the rest of my financial life around.
Financial Planning Step 2: Create a Budget
This can’t just be a feel-good budget either. You have to create a budget that you can accomplish, that will help you reach your goals and that you have to stretch to meet.
I’m not going to lie – creating your first couple of budgets is really hard. It is going to take you a lot of time, you are going to fail a few times and wonder if budgeting it worth it.
Budgeting is totally worth the effort!
There are three major type of budgets that I recommend looking into when trying to figure out your financial plan.
Types of Budgets:
- Irregular Income Budget – Works best for people with commission based income
- Percentage Budget (Often called the 50/30/20 Budget) – Ideal for people who already know how to control their spending and are out of debt and want to incorporate wiggle room into their budget.
- Zero Based Budget – Best budget to use if you are getting started and having problems controlling your spending
Every budget has its strengths and weaknesses as you can see above. I know that most financial planners recommend starting with the zero-based budget. Personally, I think it is a great way to start and will really, really, really help you learn to manage your money.
However, I’ve also learned over the years, that the best budget for you is the budget that you will actually keep. So if you struggle with one budget, don’t be afraid to start a different type of budget.
Financial Planning Step 3: Get out of debt
Debt is the absolute worst thing you can do for your personal finances. First, you are paying interest which can be very costly. Second, it means you are making poor financial decisions. Like I said, tough love. What I mean by poor financial decision is that you are purchasing stuff that you shouldn’t be purchasing with money you obviously don’t have.
I can’t tell you how many people I know who are purchasing expensive cars, boats, campers, ATV’s . . . . . the list goes on and on. I remember in college financing a $199 desk – talk about a stupid decision.
If you can’t afford something you need to sit back and make some really hard decision about your actual need for this item.
I’m not saying that you should never go into debt. What I’m saying it to really think about your decision and decide if the debt is worth the extra money you will end up paying.
Let me give you an example. My husband and I got married almost 9 years ago and had $446,000 in debt between the two of us. We have paid it down to 106,000 – which I’m super proud of. During that time we haven’t taken on any additional debt. We drive old cars and haven’t carried credit card balances.
However, we are at the point where we are going to need a new vehicle soon. I have $15,000 saved up for when one of our cars dies. Technically that is enough to easily replace one of our vehicles.
However, we had a friend recently approach us who is selling his truck. This truck is really nice, fully decked out with minimal miles. More importantly, our friend is meticulous with the maintenance on his vehicles.
This friend also owes us a decent chunk of money for work my husband has done for him in the past.
He wants to sell us his truck for the trade in value, plus would credit us the money owed which would mean he would sell the truck to us for around $25,000.
I’m short $10,000 to purchase this vehicle and would need to take out a loan.
In a situation like this, I’m 100% okay with taking out a loan.
There is absolutely no way I would be willing to take out a loan for the full $35,000 the vehicle is actually worth though. Because I can get a good deal, I’m willing to take out a loan with the understanding that we will pay off the loan within 1 year.
However, having a car payment is going to suck and it will put off our goal to pay off our house for an extra year.
Every financial decision has consequences. To be honest, we may not be making the best financial decisions. The important thing is that we are thinking through our decision, we are taking on minimal debt and have a plan to pay it off quickly.
If you want to create a financial plan that will work, you have to be using a similar decision-making process on all your financial decisions.
Financial Planning Step 4 & 5: Save money and prepare for retirement
Saving money is a two-step process:
- Reduce costs
- Save/invest money
Reducing costs should be part of every single part of your financial plan. You should be trying to cut your expenses as you write your budget, you should be finding ways to reduce your debt which includes refinancing to reduce your interest rates. Every single penny extra you pay on debt is saving you money long term.
One of my number one goals in life is to save money. I’m constantly looking for ways to cut costs and save a few dollars here and there.
The best part of cutting costs is that you get to save the extra money.
I’m a nerd – I will freely admit it. I get a ton of enjoyment from watching my investments and savings accounts grow. Having money set aside for an emergency, to purchase a new car, to use for vacation is the best feeling ever.
I love knowing that I have a fully funded emergency fund of 3-6 months. If either of us lost our jobs I would be able to make the mortgage payment and keep the lights on if needed.
The other part of financial planning is to begin saving for retirement.
I doubt that social security will be around by the time I’m ready to retire, so you better believe I’m doing everything I can to make sure I’m prepared for retirement. I don’t want to be a burden on my kids, I want to be able to live life and travel, spoil my grandkids and all that fun stuff.
My husband and I are currently putting 10% of his gross income towards retirement and 8% of my income towards retirement. We really need to bump up those numbers, but until I get the truck situation figured out don’t want to make any major changes.
What matters is that you are making a plan for retirement.
Financial Planning Step 5: Earning Extra Income
There are two simple ways to earn extra income:
- Get a better job/get a raise
- Start a side business
Either option is awesome in my opinion, what matters is that you are actively working on generating more money.
This blog is an excellent example. I make around $500 per month with this blog and right now that money is all going towards paying off our home. As this blog continues to grow and my income increases, I’m hoping to be able to pay off our home and increase our retirement savings.
Obviously, this is a long-term dream, but what matters is that I have a plan in place.
My husband, on the other hand, loves his job. He is in sales, so he is constantly making connections, reaching out and finding ways to increase his commission.
Both routes work great, the goal is to have income goals that you are constantly working towards.
Why Creating a Financial Plan Matters:
I know that this sounds like a lot of work. Honestly, it is!
However, it is a whole lot more work to be constantly broke and in debt. There is nothing more stressful then realizing you can’t pay all your bills and wondering how you are going to afford groceries.
Here is the deal, once you get your plan in place, everything else starts to fall into place. I know it sounds crazy, but once you start using a budget you’ll be surprised at how quickly everything else begins to fall into place.
It took us 3-4 months, but once I got my budget working correctly I seriously felt like I got a raise. We stopped wasting money on eating out, clothing and junk we didn’t even remember buying. Financial planning really works!