Join Ken Boyd for an in-depth discussion in this video Getting started, part of Setting Your Financial Goals.
- There's a quote I love from the book "Alice in Wonderland" by Lewis Carroll. "If you don't know where you are going, "any road will will get you there." Financial planning is all about choosing the right road for you. You decide on the right road by setting a financial goal. So let's talk about setting financial goals. The first step in setting a goal is to ensure that the goal is realistic. In this case, realistic means that you have a reasonable chance of achieving the goal. If Joe is a high school teacher earning $40,000 a year, it would be difficult for Joe to save $20,000 in the next two years to put a down payment on a house.
Saving $10,000 a year would be 25% of Joe's income before taxes, probably not realistic. Second, think about your own values about money. In other words, what does money mean to you? If you want to live a lifestyle that requires a high income, are you willing to make the effort needed to generate that high income? Earning a high income may require you to choose a different field of study, and it may require you to work long hours. Let's take a look at two examples, Bob and Steve.
Bob decides during college that he wants to live a lifestyle that requires a salary of $150,000 a year. Bob invest a lot of time and effort to graduate at the top of his class in college with a finance degree. He takes a job with a large investment company which requires him to work 60 hours a week and travel frequently. After eight years of work after college, Bob reaches his goal of making $150,000 a year. Now let's consider Steve. Steve is very passionate about helping mentally disabled people.
He's a musician and he wants to use his music therapy to help the disabled. He majored in psychology in undergrad, and he's getting a masters degree in social work. Steve is driven by mission, not by money. He doesn't mind going into a field in which salaries are low. He's willing to live a less expensive lifestyle than Bob, the business person. Which scenario fits your values? Are you willing to put in the hours required for the high income? Does finance or some other higher income field like medicine even interest you? Here's another consideration.
Regardless of your level of income, consider whether or not you are self-disciplined about saving money and investing. Are you the type of person who always sets aside money for a rainy day? Or are you a person that seems to have money slip through your hands and can't seem to save anything? Contrary to popular belief, many high income earners don't have the self-discipline to actually save money. Think about these scenarios, and consider your own views about money. So far, we've talked about setting realistic goals and considering your personal values.
The third factor in goal setting is your time frame. Intelligent financial planning requires you to consider different time frames for your goals. So let's say you earn $60,000 a year and you're 30 years old. Let's also say your financial planning includes a goal to save enough money for a down payment on a condo, and to do that within five years' time. The condo you want costs $150,000, so a 10% down payment would be $15,000.
You also want to be very diligent about investing for retirement, and are planning to retire at age 60, which is 30 years from now. Once you consider your goals and your values, think about a time frame for reaching your goal, given where you are now. Let's say that you can save 5% of your before tax income each year for the down payment on the condo. 5% of a $60,000 a year salary is $3,000 a year. After five years, you have $15,000 accumulated.
So you'll need to be self-disciplined about saving and investing those dollars. Based upon where you are now and your rate of saving, is $15,000 a reasonable amount to save? For some of you, that might be perfectly reasonable. For others with more financial demands, this might be difficult. Also consider, is that down payment large enough to buy the condo you want? If not, how can you accumulate more savings? If you don't feel like you can save a larger amount, would you consider buying a less expensive home? The purpose of financial planning is to get you from where you are now to a particular goal.
To start the process of setting financial goals, check out the exercise file for this video. That file provides you with a timeline. On the left, jot down where you are now. Put your goal on the right side of the timeline. What happens in between those two points in your timeline is your financial plan.