The Financial Planning Process
Assess your financial situation
A good first step when developing your financial plan is to evaluate your financial situation. With a clear understanding of your current financial situation, you can decide where you should start from, and what you need to achieve your financial goals. To survive financially, you must see your complete financial picture, which essentially requires maintaining a proper record of spending.
Knowing your net worth is important to assessing your financial situation. Start by making a list of all your assets as well as your liabilities.
Net worth is broadly calculated as your assets minus your liabilities. Assets are savings, property, investments and liabilities are mortgage loans, tax bills and outstanding debts.
NET WORTH =
ASSETS: e.g. savings, property, investments
-
LIABILITIES: e.g. mortgage, loans, tax bills, outstanding debts
Create a Budget
Track the inflow and outflow of your money to understand your money habits and take control of your spending and savings.Prioritize your necessities and look for any unnecessary expenses you can cut to save money.Also refrain from overspending especially impulse buying by credit card. Before you decide to borrow money, make sure you can afford new debt repayments on top of your current expenses or commitments.
Track the inflow and outflow of your money to understand your money habits and take control of your spending and savings. Prioritize your necessities and look for any unnecessary expenses you can cut to save money. Also refrain from overspending especially impulse buying by credit card. Before you decide to borrow money, make sure you can afford new debt repayments on top of your current expenses or commitments.
Use this worksheet to work out your own budget:
| Income | ||
|---|---|---|
| Salary | INR | |
| Spouse's Salary | INR | |
| Other Income | INR | |
| Subtotal | INR |
| Expenses | |
|---|---|
| Household | INR |
| Rent/Mortgage | INR |
| Management Fee | INR |
| Utilities | INR |
| (water, electricity, gas) | INR |
| Internet/Telephone/Mobile phone service | INR |
| Pay TV | INR |
| Others | INR |
| Transport | INR |
| Food and Drinks | INR |
| Grocery shopping | INR |
| Eating out | INR |
| Others | INR |
| Family and friends | INR |
| Grocery shopping | INR |
| Eating out | INR |
| Others | INR |
| Financial commitments | |
| Insurance | INR |
| Loan repayment | INR |
| Charity donations | INR |
| Others | INR |
| Savings & Investments | ||
|---|---|---|
| Savings/Investments | INR | |
| Spouse's Salary | INR | |
| Subtotal | INR |
| Lifestyle/Leisure | |
|---|---|
| Movies | INR |
| Music | INR |
| Interest class/Hobbies | INR |
| Others | INR |
| Shopping | INR |
| Health & beauty | |
| Medical/Dental care | INR |
| Health supplements | INR |
| Fitness and beauty | INR |
| Cosmetics and skincare | INR |
| Others | INR |
| Education and profession | INR |
| Planning for ageing | INR |
| Miscellaneous | INR |
| Others | INR |
| Taxation* | INR |
| Subtotal: | INR |
Income-Savings - Expenses
INR
*You can save up for your annual tax bill by estimating your taxes for the year, then divide that figure by 12 to calculatehow much to set aside every month.
Life events
Financial Priorities
If you have unpaid student loans or other debts, make it a first priority to clear the debts the soonest possible. Next on the list should be building up your savings into an emergency fund which serves as a safety net against life's many uncertainties.
Watch your spending and use your income to start building your savings. Be sure to maintain a good credit rating, review your insurance needs and get started with long-term financial planning.
Keys to managing personal finances
- Create a budget to track your finances.
- Make it a habit to save part of your income every month.
- The earlier you start saving, the better chance you have to realise your financial goals.
- Set aside money for paying tax.
- Maintain a good credit rating by making your loan and debt payments on time.
- Review insurance coverage to ensure it meets your needs - medical and life insurance are good choices to start with
- Set some long-term goals for different stages in life. And it is never too early to start planning for your retirement!
Set your financial goals
Review your budget, determine your investment time frame and work out a strategy for deciding on the appropriate investments. With measurable and clearly defined goals, it will be easier to monitor the progress
It is important to know what you are planning for. Make a list of all your needs and goals. Remember, managing your day-to-day expenses should come first.
The key thing is to set realistic goals and prioritise. For example, if you have borrowed money at a high interest rate (eg credit card advances or other personal loans), make paying off that debt your first priority before taking on other goals. You also need to map out the cost of each goal and how much time you have to save or invest before you need to pay for it (eg investment time horizon)
When setting your financial goals, it is important to be realistic. As you regularly review and refine your financial plan and assess your risk tolerance level, you may find it worthwhile to adjust your goals accordingly.
In the next few years, I want to…
In the long run, I want to…
The earlier you start saving, the sooner you will allow yourself to benefit from the effect of compounding, a powerful mechanism that puts time to work on your savings.When you save or invest in something that pays interest, you earn interest on your principal (the original investment amount). If you continue to save and earn interest, you will receive interest on the principal plus the interest you earned last time, i.e. earning interest on your interest. This is called compound interest, and it can significantly boost your savings over time.
Make sure to check the following when you consider a financial adviser or planner:
They must know your personal circumstances including your investment objectives, investment horizon, knowledge and experience, financial situation and risk tolerance (including risk of loss of capital), and carefully evaluate your risk profile before making any strategies or financial product recommendations to you.
They should give you proper explanations of why recommended products are suitable for you and the nature and extent of risks the investment products bear. They should also document and provide you with a copy of the rationale underlying the investment recommendations made to you
In providing services involving derivative products, they must assure that you understand the nature and risks of recommended products and that you have sufficient net worth to be able to assume the risks and bear the potential losses of trading in the products.
Life events
Getting Married
Planning your wedding and the start of a new life with your partner is a thrilling time. One of the keys to a successful marriage is preparing your and your partner's financial life together and keeping money issues from putting a strain on the relationship.
Financial Priorities
With financial problems a contributing factor to divorces, it is important to first understand each other's financial histories and goals (including unsettled debt), then discuss and plan finances together
Keys to managing personal finances
- Talk about your experiences with money, savings and credit.
- Draw up a budget jointly to understand money management habits and discuss how to improve your family finances.
- Review and update your financial documents including insurance coverage so that your loved ones will have better protection if something unexpected happens.
- Wedding costs can be significant, so talk with your partner about the kind of wedding you want and how you are going to pay for it. Make a budget and agree on which parts of the wedding are the most important.
Know your risk tolerance
Risk tolerance can be classified into five categories. Which one best describes you?
Conservative - Not willing to take up risk and see loss in investment and may rather forgo potential gains.
Moderately cautious - May be willing to accept a limited amount of risks to improve their long-term investment returns, but still try to avoid large short-term fluctuations.
Balanced - Weighting the risks and returns, balanced investors recognize that taking on a measured amount of risks will improve the probability of achieving their long-term financial goals.
Moderately aggressive - By taking on greater investment risks, moderately aggressive investors expect to see their investment portfolio outperform the market; and do not mind accepting a bit more risk or loss than the market bears.
Aggressive - Ready to take on higher levels of risks in order to substantially outperform the markets.
- Managing risks
You cannot totally avoid risks. But you can control your exposure to risks to an acceptable level. Make sure you understand exactly what you are investing in and recognise the potential risks.
Take the trouble to learn about the products you wish to invest in. Read prospectuses, offer documents, annual reports and announcements carefully. Pay attention to the "risk factor" sections or "risk warning" messages. If in doubt, seek professional advice
- Risk profiles at different stages of life
Michael has just graduated from university and is staring his first job. As he lives with his parents, his expenses are relatively low, and his food and board are covered. At this stage of his life, Michael can afford to take on more risks as he has a long investment horizon ahead.
Eight years later, Michael is married and has a family of his own. With a mortgage to pay and increasing financial responsibility for his parents, Michael is more conservative in his risk profile these days. While he still has time on his side, he is taking a more prudent approach.
Now retired, Michael's risk profile has changed again. As he no longer receives a monthly salary, Michael now focuses on preserving and protecting the wealth he has built up during his career - while enjoying the fruits of his labour in his golden years
Understand investment risks
Market Risk
the risk that your investments may decrease in value due to economic developments or events that affect the entire market.
Interest Rate Risk
the risk that interest rates will fluctuate and impact the value of a debt investment, equities, bank deposits and property.
Currency Risk
the risk that exchange rates will fluctuate and impact the value of an investment in a foreign currency
Liquidity Risk
Liquidity refers to how easy it is to buy or sell an investment. Liquidity risk is the risk of not being able to sell your investments at a certain price when you want to.
Credit Risk
Also referred to as default risk, this applies to debt investments such as bonds. It is the risk that the government or company that issued the bond will be unable to pay the interest or repay the principal at maturity.
Inflation Risk
the risk of loss in your purchasing power if your investment does not keep up with inflation.
Reinvestment Risk
the risk of loss if you reinvest your investment returns as a lower interest rate.
Work out and implement a basic financial plan
Responsible Borrowing
Responsible borrowing is an integral part of financial planning. Paying by credit card is convenient. Personal loans and mortgage for example, can help you achieve your financial goals; but over-indebtedness can jeopardise your life plan. The key thing is to make sure you are in control of credit, not the other way around. Your past credit record may also affect your cost of borrowing in the future.
Future Consumption
Future consumption includes life events such as furthering education, getting married, purchasing property, having children, supporting parents, changing careers, starting business or retirement. These expenses may deplete your assets and can be long-term financial commitments.
Insurance
Unexpected incidents or emergencies in life such as accidents, illness and death can deplete your savings and erode your assets. Having adequate insurance coverage for these eventualities should be a key component of your financial planning. As a minimum, consider critical illness and accident/disability insurance. You should also consider setting up an emergency fund to cover about three to six months of living expenses.
Estate Planning
Preparing for the worst may be unpleasant, but it is an essential part of your long-term financial planning. In the event of serious illness, disability or death, it is important that your finances are in order so your family can be better prepared to meet life's challenges and emergencies.
Retirement planning
Retirement planning is the process of determining how you will set aside enough money so you can enjoy life after you stop working. Creating a retirement plan will help you determine how much money you will need after you retire and help manage your finances to cover expenses in later years.
Life events
Having Children
Being a parent can be one of life's greatest joys. But as you make the transition to parenthood, you and your partner may need to adjust to a new set of long-term financial responsibilities.
Financial Priorities
Review your household budget and make allowances for the essential items before and after the baby is born. You also need to prepare for the unexpected such as having twins or contingency arising from events such as medical support during childbirth as well as to plan for the children's education.
Keys to planning your finances together
- Talk about your experiences with money, savings and credit.
- Draw up a budget jointly to understand money management habits and discuss how to improve your family finances.
- Review and update your financial documents including insurance coverage so that your loved ones will have better protection if something unexpected happens.
- Wedding costs can be significant, so talk with your partner about the kind of wedding you want and how you are going to pay for it. Make a budget and agree on which parts of the wedding are the most important.
Investing plays an important role in financial planning as it may help you achieve your financial goals. You can allocate the remaining amount for investing after you deduct necessary spending and savings from your income. A well-planned portfolio can help you ride out the ups and downs of the investment market and adjust your risk exposure. Investing is a process to hold a portfolio that suits your risk appetite with a mix of investment products to keep your portfolio afloat in any economic climate.
When it comes to making financial decisions, it is important to adopt and apply responsible attitudes towards investing and money management. Each type of investment has its own features and downside risks. You should understand the nature and risk of any investment offered to you and read the offering documents for details related to the investment products.
Fees & charges are important because they lower your returns. Also, remember that past performance provides no guarantee of future price.
Check whether an investment vehicle is traded on an exchange or in the over-the-counter market. Liquidity varies between these markets, and this determines how easily you can sell your investment.
Always remember the golden rule: If an investment looks too good to be true, then it probably is!
Life events
Preparing for the golden years
Enjoying a comfortable lifestyle once we reach our golden years requires sound retirement planning and a long-term commitment.
Financial Priorities
Whether you are planning for or already enjoying your retirement, capital preservation, prudent money management and adequate insurance coverage should top your priorities. Even if you plan to further build your retirement fund, you should take a cautious approach and conduct thorough risk assessment beforehand.
Keys to managing personal finances
- Determine when you want to retire and how much you will need to maintain your desired lifestyle.
- Create a personal financial plan to guide you towards your financial goals and review the plan regularly as your priorities may change.
- Manage your retirement scheme well.
- Budgeting is an essential part of retirement living. Look for small ways to save and consider cutting back on your spending for non-essential items if necessary.
- Medical expenses can be a significant cost. Review your insurance needs early as health insurance premiums rise with age..
- When building your retirement fund, be cautious of making sizeable investments which may be impacted by the macro - economic environment
- Protect your assets! Beware of financial scams targeting senior citizens - if something sounds too good to be true, it probably is.
Regularly review and adjust your financial plan
After formulating a financial plan, you should exercise strict discipline to follow the plan. Review your existing budget and investment portfolio from time to time to make sure they still fit your needs. In meeting your financial goals, it is considered best practice to review the performance of your portfolio regularly and rebalance your investments when necessary. This can help you avoid keeping a portfolio that may over-concentrate on certain asset classes.
Financial planning is a dynamic and continuous process. You should adjust your plan when there are significant changes in market conditions or when you enter a different life stage. You should make adjustments based on your resources, needs and situations to make sure your plan is in line with your financial goals.
The easiest way for you to manage risks is to diversify your investments. Not all markets or asset classes move in tandem, and at times individual financial products within the same asset class will also perform differently. Diversification means investing in different asset classes, industries, regions and markets etc. A balanced portfolio tends to be less volatile than a single type of investment and therefore helps you reduce the risk.
To diversify your portfolio risk, first set the weight of each asset class in your portfolio, such as stocks, fixed income, real estate, gold, mutual fund etc. Then decide what investments to make within that asset class.
When investing, you must limit your risks to a level acceptable to you. There is no such thing as a risk-free investment. Make sure you understand the possible downsides before committing to any investment.