Every great company, movement and endeavor starts with a plan. A North Star.
Your financial independence is no different.
Whether you want to save for retirement, send your children to college, buy a house or pay-off student debt.
You need a plan before you start. And the sooner you create a plan, the better your end-goal will be.
This article reveals the six steps needed to generate a financial plan and to turn your goals into reality.
These six steps are:
Define Your Goals
As we mentioned earlier, the first step in any plan is to list your financial goals.
These are specific to you and can change over time depending on your current life situation.
For example, a recent college graduate might prioritize student loan payments over saving for college for their future kids.
A recent retiree might prioritise controlling expenses and maximising the return on their investment portfolio.
Wherever you are in your own financial lifecycle, list what is most important to you.
You can set short-term and long-term goals as well like shorter-term medical bills or a long-term vacation house.
You need to define your goals before you make your plan. An archer doesn’t pull his bow before defining his target.
Track Your Spending
There’s two ways to increase your net worth:
1. Increase how much you make (income) and how much you own (assets)
2. Decrease how much you spend (expenses) and how much you owe (liabilities)
By ruthlessly reducing expenses you’re automatically increasing how much money you have at the end of the month.
And thanks to technology, tracking expenses has never been easier.
Take the Personal Capital app (not sponsored, just a great product).
It trackshow much you spend every day, week, month, etc.
There’s a few easy expenses to cut-back like going out to eat, streaming services or new clothes.
Netflix costs less than $15/month.
Yet that’s $180/year.
You can save an additional $100-$200/month by cooking more meals at home rather than eating out. Just those two changes alone result in an extra $2,580/year in savings!
Cut back on various expenses to maximize the amount you have at the end of each month. Then you can use the extra savings for Step 3.
Save For Emergencies
Now that you’ve ranked your priorities and developed a plan to track expenses, it’s time to focus on emergency savings.
It’s your safety net in the event you lose your job, take extended time off work due to illness or a costly house/vehicle repairs springs up.
Here’s a startling fact: 40% of Americans could not cover an unexpected $400 bill right now.
Emergency savings are different for every individual.
For example, a retired couple without kids and a paid-off mortgage might spend $2,500/month.
Whereas a family of 4 young kids have an average monthly spend of $6,600.
The ideal emergency savings account should have 3 months of expenses saved.
Once you have 3 months of emergency savings it’s time to move on to Step 4.
Set aside 3 months of average living expenses in case of emergency.
Kill The High Interest
Now it’s time to tackle the liabilities side.
There’s a couple ways to do this: Debt Avalanche and Debt Snowball.
You can read this article for information on the debt snowball method.
For now we’ll focus on Debt Avalanche.
One of the best ways to reach your financial goals is to pay off high interest debt.
Different people classify “high interest” debt differently.
For our purposes, anything over 7% is considered high interest.
Rank your current outstanding debts from highest to lowest interest rate. Then pay off the highest interest rate debt first.
Start The Hustle
If you really want to accelerate your goal deadline, start a side hustle.
A side hustle comes in many forms.
You could Uber or DoorDash on the side.
You could start a side business mowing lawns.
Doing this allows you to put more money in your pocket on the income side.
Start a side hustle to accelerate the achievement of your goal.
Invest, Invest & Invest
Congratulations! You’ve made it to Step 6!
That means you’ve made a plan, tracked expenses, created an emergency fund, paid-off high interest debt and started a side hustle.
You’re on the fast track to fulfilling your financial goals and dreams!
Now you can focus on investing that extra cash to make more money for you.
In other words, that money you were spending on high-interest debt can go into an investment account with the potential to earn 10-12% returns.
Here’s the best part about investing. Time is your friend.
The more you invest at a younger age the more money you will have over time.
The reason? Compound Interest.
Let’s say someone invests $5,000 in the stock market at 25.
She adds $1,000/year to her account for the next 20 years.
Here’s how much she would have under a few different assumptions:
- Year 20 Balance at 7%Annual Return: $63,213.60
- Year 20 Balance at 10%Annual Return: $96,640
- Year 20 Balance at 15%Annual Return: $199,642.81
That’s quite the difference!
Invest, invest, invest. Let the power of compound interest take care of the rest.