From our experience, those who have a financial plan in place are more likely to save consistently towards retirement, pay their bills on time each month and live a comfortable lifestyle. With it being Financial Planning Week, we explore what is involved in developing a financial plan, the various components of a plan, and how they interlace together to achieve a robust strategy for wealth creation and protection.
1. Your lifestyle goals
Identifying the goals that you have for your life is the first step in the process as these goals will form the foundation on which your financial plan is built. Recognising that life is not necessarily linear and that goals change over time, the aim is to create a plan that is sufficiently adept to help you achieve your goals but adequately malleable to adapt to your changing needs. When setting your goals, it helps to be as specific as possible and to attach monetary values and time frames to each goal. Not only will this help in calculating and developing appropriate solutions but will help you measure your progress when reviewing your plan. While it’s always a good idea to separate your short, medium and long-term goals, it’s just as important to rank them in terms of priority as this will provide you guidance in terms of which goals to start attacking first. Don’t be afraid to be audacious when writing out your goals.
Food for thought: ‘The goal isn’t more money. The goal is living life on your terms.’ (Chris Brogan)
2. Balance sheet
Taking stock of your net worth is an important next step, but don’t be put off by the calculations. Wealth building is generally a slow, deliberate process that takes decades to achieve, and you have to start somewhere. Make a list of all your assets including bank accounts, investments, property, business shares, vehicles and other immovable property, and then subtract your debt, including your home loan, credit and retail debt, and student and personal loans. Be sure to record the applicable repayment terms and interest rates attached to each debt as this information will benefit you when structuring an optimal debt repayment plan. Consider your current net worth as the starting point of your wealth creation strategy. Remember, if you’re just starting out your investment journey, it is perfectly normal to have high levels of debt in place such as a bond and/or student loan. Leveraging this debt and paying it off strategically will form part of the financial planning process, so stay positive.
Food for thought: ‘Money is something we choose to trade our life energy for.’ (Vicki Robin)
3. Cashflow management
Wealth is what you don’t spend which means that formulating a budget is critical to ensure that there’s sufficient room for saving and investing. While regular expenses should be relatively easy to deal with, spend time understanding how your irregular expenditure fits into your budget. These expenses could include vehicle repairs not covered by insurance, out-of-pocket medical expenses, or vet bills. Keep in mind that your budget will need to be sufficiently robust to absorb eventualities such as petrol price increases, interest rate hikes and energy price increases. Careful scenario planning is an effective way of stress-testing your budget to ensure that it is resilient enough to withstand life’s curveballs. Finding room in your budget to save may require some ruthless number-crunching and serious contemplation around what falls within the definition of ‘must-have’.
Food for thought: ‘Financial peace isn’t the acquisition of stuff. It’s learning to live on less than you make, so you can provide money back and have money to invest. You can’t win until you do this.’ (Dave Ramsey)
4. Debt management
Not all debt is bad, so don’t be overwhelmed by your debt. Good debt, such as a home loan, can be used as leverage to build equity in your property and ultimately increase your net worth, so it’s important to take a strategic view of this type of debt. This type of debt can also Improve your credit score. If you have high-interest debt such as credit card or retail debt, put a debt elimination plan in place to ensure that you can settle this debt as quickly as possible without compromising other important priorities such as paying your medical aid premiums, building an emergency fund and protecting your income. Remember, structuring your debt repayment plan is a strategic exercise that involves finding the balance between reducing your high-interest debt, maintaining a good credit score, protecting your risk exposure while at the same time covering your living costs and maintaining an adequate standard of living. There’s no point channelling every spare penny towards paying off debt but in the process neglecting your medical aid premiums, maintaining an unhealthy diet, and cancelling your life cover. Although your debt may be paid off quicker, you’ll end up in a worse financial situation as a result.
Food for thought: ‘Debt is the slavery of the free.’ (Publilius Syrus)
One of the most important functions of an emergency fund is to prevent you from having to access debt to pay for high-cost, unforeseeable expenses. Short-term debt such as credit card debt is expensive and will result in you paying back significantly more than you borrowed to pay for the emergency which, in turn, will only set you back financially. Commit yourself to building an adequate emergency fund that is appropriate for your particular set of circumstances. Again, use scenario planning techniques to identify the possible expenses you could be faced with such as an injured pet, the insurance excess on a burst geyser, or car tyre repairs. Consider also your job security, whether you have an alternate source of income, and the living costs you would need to provide for in the event of retrenchment. There is no right answer when it comes to how much you should keep in an emergency fund, but a useful guideline is to keep enough set aside that will allow you to sleep at night. An emergency fund is your peace of mind in times of crisis.
Food for thought: ‘Save three-to-six months of expenses in a ‘rainy day’ fund. Know why? Cause it is going to rain, and you aren’t the exception.’ (Dave Ramsey)
6. Risk protection
While long-term insurance is more affordable when you are younger (and likely healthier), the irony is that you’re least likely to be able to afford it when you’re starting out your career. That said, mitigating against the risk of death, disability and/or severe illness is a responsibility all of us face, and it’s important to put adequate cover in place depending, of course, on your affordability. If you have financed your home, you will need to ensure that you have sufficient bond cover in place keeping in mind that this cover can be reduced as you pay off your home loan. Securing an income protection benefit is critical to ensure that you can continue earning an income should an accident or illness leave you unable to earn an income, whether temporarily or permanently. Without this type of cover, you may find yourself financially dependent on a spouse or family member for the rest of your life, which is an enormous burden for anyone to take on. If you have any form of debt and/or have loved ones who are financially dependent on you in any way, it is vital that you have enough life cover to pay for these expenses should you pass away. A well-structured risk management plan should analyse the cover you currently have in place, identify the areas of exposure, and design cost-effective solutions to mitigate those risks. Remember, medical aid and gap cover are risk management solutions designed to protect against ill-health and/or hospitalisation, so make these a priority.
Food for thought: ‘A man who dies without adequate life insurance should have to come back and see the mess he created.’ (Will Rogers)
7. Investment planning
There is no quick way to build wealth. Time, compound interest and consistency – used strategically – are the best weapons available to grow your net worth. Besides being a highly technical and regulated area of financial planning, investment planning involves a number of moving parts that all need to work together to achieve optimal results. Estate structuring, tax planning, risk management, portfolio construction and behavioural finance are just some of the components of an investment plan and we recommend that you seek advice from an investment expert. Investing to achieve your lifestyle goals is so much more than chasing the highest investment returns possible. Your investment portfolio should essentially be a comfortable blend of investment risk, appropriate returns, strategic asset allocation and tax-efficient structuring to ensure that you can not only reach your goals but can stay composed over the long term in the face of short-term market volatility. In addition, how you are invested should be consistent with your value system and your worldview.
Food for thought: ‘Being rich is having money; being wealthy is having time.’ (Margaret Bonnano)
8. Estate planning
Although death is inevitable, the timing of one’s death is unknowable and, as such, an estate plan is designed to ensure that your worldly possessions are appropriately dealt with upon your death. A well-structured estate plan should leave your loved ones clear as to your intentions and adequately provided for after your death. Your estate plan should therefore be designed to ensure that your estate is solvent, and liquid and that your loved ones have the financial means to cover their living costs for a period of up to two years while your estate is being administered. Besides ensuring that your wll and other testamentary writings are correctly drafted and legally valid, an estate plan could include any number of tools such as life cover, retirement funds, living annuities, trusts and business policies to achieve your goals and ensure the smooth transfer of your assets.
Food for thought: ‘Estate planning is an important and everlasting gift you can provide your family. And setting up a smooth inheritance isn’t as hard as you might think.’ (Suze Orman)