What Is a Healthy Financial Plan?
You've heard me talking about the importance of financial planning and management. Without planning and good money management, you won't fair well come retirement. I for one am not depending on the government to take care of me when I'm older. So, in this post I'm going to go through the major components of a healthy financial plan to help you get on track with your money.
There are 10 elements or components to a healthy financial plan:
I will go more in depth with this component than any other because I believe that a cash flow plan or spending plan or budget, whatever you want to call it, is crucial to financial planning. If you don't know your inflow and outflow, you can't properly save and spend and reduce debt. It's just not possible.
There are many reasons people don't have a cash flow plan: 1) people assume they won't be able to buy things they want, 2) people, in marriage relationships, have been abused by them, emotionally, 3) the plan they made didn't work, and 4) fear, people don't want to see where they're at.
Sure, sometimes a cash flow plan doesn't work. This is due to 4 factors: 1) we leave things out, 2) we overcomplicate them, 3) we don't actually do it, and 4) we like the idea of it but don't actually live it.
I've included a link to a pdf of the cash flow plan that we have been using for the last year or so to give you a solid foundation. You can adjust it to fit your specific situation, but please, do it.
Cash Flow Plan
Will and/or Estate Plan
Over 70% of Americans die without a will. If you have a spouse or kids, you need to have and should have a will. An estate plan would be needed if your net worth is near $1 million.
Debt Reduction Plan
Being a Dave Ramsey listener, our debt reduction plan consists of the debt snowball. How does the debt snowball work? Easy. Make a list of your all of your debts, excluding you house, and list them from smallest to largest. You'll hear about various plans that list debts by interest rate or from highest to lowest. All of these plans work, mathematically, but the debt snowball includes the element of human emotion.
After you list your debts, from smallest to largest, include the minimum payments beside them. Once they are all their, focus on that debt at the top of your list and put as much of your money into that one, while making the minimum payment on the others. Once that first debt is crossed off, roll over that money to the next debt, and so on. By the time you reach the last debt, you'll be hacking away at it with more momentum. The idea is for that snowball to get bigger and bigger as it roles on and eventually, it will become an avalanche.
Tax Reduction Plan
Okay, so you might think this one will deal with some tricks and maneuvers to reducing your taxes. It doesn't. If you want to have control over your taxes, vote.
Emergency Funding
A good emergency consists of 3 to 6 months of living expenses. It is your guard for those Murphy moments in life. Back in the day, this was known as the rainy day fund. In the Dave Ramsey plan, he has what he calls baby steps to financial freedom and peace. The first step is to save $1000 as a starter emergency fund. The second step is to do the debt snowball. The third step is to then fully fund your emergency fund. If you don't have that fund, you will be more likely rely on Visa or Mastercard for emergencies. You know what? They're banking on it.
Retirement Funding
If you have the ability to participate in a retirement program like a 401k, 403b or 457 at work, do it, regardless of a match. Don't forget about IRAs and SEPP, if you are self-employed. If you have debt, do the minimum investing and tear down that debt. Baby step four, once all the debt is gone and you have a fully funded emergency fund, max out your retirement with 15% of your household income.
College Funding
This is baby step 5 and should initially be done with an ESA (educational savings account) and is sometimes known as the Educational IRA. Currently, you can save up to $2000 per year, per child after tax, and it grows tax free.
Above the ESA you can invest in an UTMA or UGMA (Uniform Transfer (Gift) to Minors Act) with good mutual funds. 529s are also available in most states, but only use those that allow you to freeze your investment in mutual funds with long track records. 529 plans that are age-based have a low return.
Charitable Giving
As a Christian, we tithe to our church. A tithe is a tenth of your income. There is no such thing as a 5% or 15% tithe. If you tithe, any amount less or more than a tenth is an offering. There is a difference.
Aside from the tithe, consider giving to non-profits and other charitable organizations that you believe in and would like to support.
Teach Your Children
Make it a point to teach your children good money habits. Remember, kids do what they see not what they hear, so be a good example for them and teach them along the way.
Our daughter is young, only 3 years old, but she, unlike most kids, gets commission for chores. She does not get an allowance. It's important for us that she understands that money does not grow on trees. Work equals money. No work equals no money.
Insurance
I'm gonna talk about 5 types of insurance that every household should have: 1) Life Insurance, 2) Health Insurance, 3) Disability Insurance, 4) Auto Insurance, and 5) Homeowners Insurance. All of these types of insurance serve one purpose, to transfer risk.
Life Insurance
Life insurance serves to replace income due to death. There are two types of life insurance: Term and Cash Value (this consists of whole, universal, or variable). For most people, term-life is the best option. Rarely is a cash value policy a good option. Why?
With term-life you can get a policy worth up to $250,000 and pay only $12 per month. For a similar cash value policy, you'd pay around $150 per month and only receive the face value of the policy. The insurance company keeps the cash value. It is a bad idea to mix your life insurance with some type of investment plan. Insurance is not an investment.
Recommendations for a term-life policy are about 7 to 10 times your income, if you are the main income source. Also, don't fall for the gimmick child life insurance. Those policies are cash value plans that do no good. Children only need enough for burial expenses.
Health Insurance
If you have health insurance through an employer, great. For those that don't, get it. Get a policy that has a high deductible so that your monthly premiums will be as low as possible. Open a HSA (Health Savings Account) to cover the cost of the high-deductible as well as any other medical related expenses like co-pay, medicine, doctor fees, etc. If you are self-employed, you are also elegible for an MSA (Medical Savings Account).
Don't believe the myth that life insurance is a permanent need. It's not. If you have a healthy financial plan, twenty years from now when your kids are grown, your mortgage is paid off (baby step 6) , and you have substantial investments, you have become self insured.
Disability Insurance
The purpose of disability insurance is to replace lost income due to short term or permanent disability. If you become disabled and can't perform the jop you were educated or trained to do, this is a must. You can buy coverage to age 65 or for life. But, if you have a fully funded emergency fund, you don't need short-term disability.
Auto Insurance
Here, it's important to remember that a fully funded emergency fund creates options. You will be able to increase your deductible and reduce monthly premiums (like the health insurance policy). Carry adequate liability and consider dropping your collision coverage on older cars.
Homeowners Insurance
The big thing to remember here is to make sure you have replacement cost insurance. I think that one is self explanatory. If your house is destroyed, you receive the full replacement cost of your home. Make sure you keep that updated. If your house increases in value, increase the replacement cost.
There are 10 elements or components to a healthy financial plan:
- Written Cash Flow Plan (Budget)
- Will and/or Estate Plan
- Debt Reduction Plan
- Tax Reduction Plan
- Emergency Funding
- Retirement Funding
- College Funding
- Charitable Giving
- Teach Your Children
- Insurance (5 Types)
I will go more in depth with this component than any other because I believe that a cash flow plan or spending plan or budget, whatever you want to call it, is crucial to financial planning. If you don't know your inflow and outflow, you can't properly save and spend and reduce debt. It's just not possible.
There are many reasons people don't have a cash flow plan: 1) people assume they won't be able to buy things they want, 2) people, in marriage relationships, have been abused by them, emotionally, 3) the plan they made didn't work, and 4) fear, people don't want to see where they're at.
Sure, sometimes a cash flow plan doesn't work. This is due to 4 factors: 1) we leave things out, 2) we overcomplicate them, 3) we don't actually do it, and 4) we like the idea of it but don't actually live it.
I've included a link to a pdf of the cash flow plan that we have been using for the last year or so to give you a solid foundation. You can adjust it to fit your specific situation, but please, do it.
Cash Flow Plan
Will and/or Estate Plan
Over 70% of Americans die without a will. If you have a spouse or kids, you need to have and should have a will. An estate plan would be needed if your net worth is near $1 million.
Debt Reduction Plan
Being a Dave Ramsey listener, our debt reduction plan consists of the debt snowball. How does the debt snowball work? Easy. Make a list of your all of your debts, excluding you house, and list them from smallest to largest. You'll hear about various plans that list debts by interest rate or from highest to lowest. All of these plans work, mathematically, but the debt snowball includes the element of human emotion.
After you list your debts, from smallest to largest, include the minimum payments beside them. Once they are all their, focus on that debt at the top of your list and put as much of your money into that one, while making the minimum payment on the others. Once that first debt is crossed off, roll over that money to the next debt, and so on. By the time you reach the last debt, you'll be hacking away at it with more momentum. The idea is for that snowball to get bigger and bigger as it roles on and eventually, it will become an avalanche.
Tax Reduction Plan
Okay, so you might think this one will deal with some tricks and maneuvers to reducing your taxes. It doesn't. If you want to have control over your taxes, vote.
Emergency Funding
A good emergency consists of 3 to 6 months of living expenses. It is your guard for those Murphy moments in life. Back in the day, this was known as the rainy day fund. In the Dave Ramsey plan, he has what he calls baby steps to financial freedom and peace. The first step is to save $1000 as a starter emergency fund. The second step is to do the debt snowball. The third step is to then fully fund your emergency fund. If you don't have that fund, you will be more likely rely on Visa or Mastercard for emergencies. You know what? They're banking on it.
Retirement Funding
If you have the ability to participate in a retirement program like a 401k, 403b or 457 at work, do it, regardless of a match. Don't forget about IRAs and SEPP, if you are self-employed. If you have debt, do the minimum investing and tear down that debt. Baby step four, once all the debt is gone and you have a fully funded emergency fund, max out your retirement with 15% of your household income.
College Funding
This is baby step 5 and should initially be done with an ESA (educational savings account) and is sometimes known as the Educational IRA. Currently, you can save up to $2000 per year, per child after tax, and it grows tax free.
Above the ESA you can invest in an UTMA or UGMA (Uniform Transfer (Gift) to Minors Act) with good mutual funds. 529s are also available in most states, but only use those that allow you to freeze your investment in mutual funds with long track records. 529 plans that are age-based have a low return.
Charitable Giving
As a Christian, we tithe to our church. A tithe is a tenth of your income. There is no such thing as a 5% or 15% tithe. If you tithe, any amount less or more than a tenth is an offering. There is a difference.
Aside from the tithe, consider giving to non-profits and other charitable organizations that you believe in and would like to support.
Teach Your Children
Make it a point to teach your children good money habits. Remember, kids do what they see not what they hear, so be a good example for them and teach them along the way.
Our daughter is young, only 3 years old, but she, unlike most kids, gets commission for chores. She does not get an allowance. It's important for us that she understands that money does not grow on trees. Work equals money. No work equals no money.
Insurance
I'm gonna talk about 5 types of insurance that every household should have: 1) Life Insurance, 2) Health Insurance, 3) Disability Insurance, 4) Auto Insurance, and 5) Homeowners Insurance. All of these types of insurance serve one purpose, to transfer risk.
Life Insurance
Life insurance serves to replace income due to death. There are two types of life insurance: Term and Cash Value (this consists of whole, universal, or variable). For most people, term-life is the best option. Rarely is a cash value policy a good option. Why?
With term-life you can get a policy worth up to $250,000 and pay only $12 per month. For a similar cash value policy, you'd pay around $150 per month and only receive the face value of the policy. The insurance company keeps the cash value. It is a bad idea to mix your life insurance with some type of investment plan. Insurance is not an investment.
Recommendations for a term-life policy are about 7 to 10 times your income, if you are the main income source. Also, don't fall for the gimmick child life insurance. Those policies are cash value plans that do no good. Children only need enough for burial expenses.
Health Insurance
If you have health insurance through an employer, great. For those that don't, get it. Get a policy that has a high deductible so that your monthly premiums will be as low as possible. Open a HSA (Health Savings Account) to cover the cost of the high-deductible as well as any other medical related expenses like co-pay, medicine, doctor fees, etc. If you are self-employed, you are also elegible for an MSA (Medical Savings Account).
Don't believe the myth that life insurance is a permanent need. It's not. If you have a healthy financial plan, twenty years from now when your kids are grown, your mortgage is paid off (baby step 6) , and you have substantial investments, you have become self insured.
Disability Insurance
The purpose of disability insurance is to replace lost income due to short term or permanent disability. If you become disabled and can't perform the jop you were educated or trained to do, this is a must. You can buy coverage to age 65 or for life. But, if you have a fully funded emergency fund, you don't need short-term disability.
Auto Insurance
Here, it's important to remember that a fully funded emergency fund creates options. You will be able to increase your deductible and reduce monthly premiums (like the health insurance policy). Carry adequate liability and consider dropping your collision coverage on older cars.
Homeowners Insurance
The big thing to remember here is to make sure you have replacement cost insurance. I think that one is self explanatory. If your house is destroyed, you receive the full replacement cost of your home. Make sure you keep that updated. If your house increases in value, increase the replacement cost.
posted by Emma at 11:00 AM
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