While you often hear people your parents’ age talking about planning their financial future, it probably doesn’t come up as much when you’re around your friends. But just because it’s not the main topic of conversation doesn’t mean you shouldn’t be setting up a financial plan. Simply put, a financial plan is a written statement of your financial goals and your strategy for achieving them. It includes a list of your current assets and how they’re invested. And it lays out a schedule for making additional investments.
Getting yourself energized to do financial planning takes determination. If you have a good job, you can usually manage fine from paycheck to paycheck, and you might even be able to cover a larger expense, such as a mortgage, without too much trouble.
But at some point—whether you’re having kids, going back to school, or retiring—the things you want or need to pay for will outdistance what you have in your pocket or your bank account. And if you haven’t planned for those costs, you may find yourself having to postpone or abandon things you’ve been looking forward to for a long time.
In fact, the sooner you get started, the better. That’s because you’ll have more years to put money away. Plus, the more time you have, the more compounding can help your money grow. Compounding occurs when your earnings are reinvested to form a new, larger base on which future earnings accumulate.
THE LONG AND SHORT (AND MEDIUM) OF IT
You’ve probably got a range of goals in mind for the future. They can be as immediate and as simple as a vacation next summer or as far off and large-scale as a comfortable retirement. The trick is to figure out how to balance all those potentially conflicting needs and their various time frames.
If you plan your investing—and make your investment choices—to give you what you need when you need it, you’re a lot less likely to find yourself scrambling to reach your goals, or missing out altogether.
For example, if you’re focused on events in the near future, like buying a new car or getting married, you’ll want to put your money into investments that are easily accessible and aren’t so vulnerable to loss of value. But for goals further down the road, you can afford to take a little more risk when you invest, since you have more time to recover from any setbacks. In fact, since those distant goals are usually the more expensive ones—like providing for a child’s education or buying a second home—planning and investing isn’t just a good idea, it’s usually a necessity.
Of course, there’s no reason you can’t change your goals and your plans for achieving them as your life changes. For example, if you decide to go back to school, you may put your plans for a house or family on the back burner. Or if you decide to have kids or start your own business, you may decide to reevaluate your insurance needs or alter your investment style. Whatever you’re doing or wherever you are in life, it’s a good idea to assess your financial plan about once a year.
Think about starting small—maybe set up an automatic deduction from your paycheck, even if it’s only $25 or $50. That way, you don’t have to worry about going to the bank or jumping online here and there to do stuff. I tried to keep a schedule at first…told myself that I’d invest a certain amount every quarter. Yeah, right! When you’re busy, it’s tough to keep up with even the most well-intended schedule. —George C., 26
ACES IN THE HOLE
So what’s the trick to creating a financial plan that will help you get where you want? Picking the actual investments that will take you there is a different process for each person, but there are some general rules that apply across the board. If you plan well, you should be able to:
You need to put your money into investments with rates of return that will make money faster than the current inflation rate, which has averaged 3% since 1926. That way you’ll be able to afford the things you’re planning for when the time comes.
KEEP TAXES LOW
Taxes can eat away at the earnings your investments provide. But putting your money in a tax-deferred investment like a 401(k) or an IRA, or a tax-exempt investment like a Roth IRA, can protect some of your money from that bite.
BE READY FOR A RAINY DAY
Creating an easily accessible emergency fund can help keep your financial plans from getting wiped out by unexpected problems like illness