What Is a Financial Plan & How to Create One

FT Contributor
An elderly couple shaking hands with their financial advisor.

A financial plan is a detailed personal account of how you plan to achieve long-term objectives to obtain financial security. The plan should outline how you’ll save up your retirement funds and the investment strategies you plan to use to achieve your financial goals. To accurately complete a financial plan, you must analyze your current financial state and expectations.

A financial plan is personal and unique but you may want to enlist the help of a financial advisor. Since it lays out your long-term goals, you can use your financial plan to create a budget with these achievements in mind.

Table of Contents

Major Steps in an Effective Financial Plan

Set Goals

The first step to creating a financial plan is to establish your goals. Identify what’s important to you and what you want to achieve in your life. Your financial goals should include both short- and long-term objectives. Think about what you want your life to look like in five years, 10 years, and 20 years. You may want to buy a home, have a child, or retire from your job but remain financially secure.

These life goals cost money, so be realistic about how you’re going to reach the mile markers you set. It’s important to set these life goals first before tackling your financial plan because they’ll be your motivation to stay on track.

Track Cash Flow

Understanding your sources of income and how your money is moving in and out is the next step in setting up a financial plan. Analyze your earning and spending habits over the past few months. This will help you record the money you typically earn and pinpoint where it’s being spent.

Categorize both the income you get and the expenses you have. When you have an accurate snapshot of your cash flow, you can figure out what’s necessary and where you might be able to cut down on debt. You can also calculate your debt to income ratio to learn if your current budget is sustainable.

Track Debt

Debt could easily take over your budget, especially if you don’t track it properly. When creating a financial plan, record the current debts you owe, including loan amounts and reasons for this debt. Your debt may include student loans, credit cards, or car loans.

Create realistic strategies for repayment that will get you out of debt fast but still allow you to pay for other necessary monthly expenses. It’s usually a good idea to tackle your high-interest debt first so you can save yourself from needlessly paying interest.

Manage Risk

An unexpected medical expense, car accident, or natural disaster might destroy the financial plan you’re working so hard to create. When you carry the proper insurance, you protect your budget from financial disasters. Consult an insurance professional to make sure you have the proper insurance in place to protect yourself.

If you don’t, contact different insurance companies for car insurance quotes, health insurance information, and homeowner’s insurance options. Choose the companies that are trustworthy, affordable, and that offer you coverage options that make you feel financially secure.

Reduce Taxes

Reducing your tax liability saves you money and can increase your tax refund, which is helpful for your budget. You may be able to reduce the federal income taxes you owe by consulting with a tax accountant. Some common strategies you can implement to reduce your taxes include the following:

  • Contribute to your retirement plan.
  • Investigate tax credits and refunds you may qualify for.
  • Donate to charities.
  • Open a Health Savings Account (HSA).

Keep in mind, you can usually write off the interest you pay on your mortgage and you may qualify to also write off the interest you pay on student loans.

Prepare Retirement

Retirement should be a top priority in your financial plan and there are many strategies you can use to save for your retirement income. Building a diverse investment portfolio is the best way to ensure your money is working for you. Your employer may offer retirement investment options, such as a 401(k) retirement plan, so it’s important to investigate and take advantage of these convenient retirement vehicles if possible.

There are additional ways you can save money, including investment vehicles such as:

  • Roth IRA: An Individual Retirement Account (IRA) is an account you contribute to that grows your money through investing and is tax-deferred.
  • Deferred Variable Annuity: Similar to a mutual fund account that allows you to invest in the market but also offers guaranteed protection up to a certain amount.
  • Taxable Investment Account: A brokerage account that’s separate from your IRA with no minimum distribution or annual contribution limits.
  • Health Savings Account: An account that is tax deductible and allows you to start saving for medical care.
  • Real estate: Investing in real estate by selling or renting out properties is a great way to save for retirement.

You can also invest your money in the stock market by buying, selling, and trading stocks and bonds.

Prepare Estate

Estate planning is an important part of your financial plan. Your estate plan provides explicit instructions on where you want your assets distributed when you pass away. With a solid estate plan in place, you can make it easy for beneficiaries to take over the assets you want them to have and avoid messy family situations.

To prepare your estate plan, you’ll need to create several legal documents, so you may want to enlist the assistance of an estate planning attorney. Your estate plan is unique to you but may need to include a:

  • Will.
  • Trust.
  • Healthcare directive.
  • Financial power of attorney,
  • Beneficiary forms.
  • Information on funeral arrangements.

Tips for Financial Health

To ensure you stay on track with your financial plan, you should also consider:

Do You Need a Financial Advisor?

If you need help with your financial plan or you’re not sure how to reach your financial goals, you may need to consult a financial advisor. You’re responsible for paying a fee to the advisor for assisting you, but a financial professional may be able to provide actionable advice that makes your money work harder for you. In many cases, you can choose which issues you need help with, such as retirement or estate planning.

Whether or not you decide to use a financial advisor, it’s important to create a realistic and comprehensive financial plan. This plan will ensure you strive to reach financial goals and stay within your budget to remain financially stable.

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