Personal Finance SIXTH EDITION Chapter Overview of a Financial Plan Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Chapter Objective 1.1 Explain how you benefit from personal finance 1.2 Identify the key components of a financial plan 1.3 Explain how financial planning affects your cash flows 1.4 Outline the steps involved in developing your financial plan Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Definitions • Personal finance: the process of planning your spending, financing, and investing to optimize your financial situation • Personal financial plan: a plan that specifies your financial goals and describes the spending, financing, and investing plans that are intended to achieve those goals • Opportunity cost: what you give up as a result of a decision Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved How You Benefit from an Understanding of Personal Finance • Make your own financial decisions – Every spending decision has an opportunity cost • Judge the advice of financial advisors – Make informed decisions • Become a financial advisor – Many career opportunities available Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Components of a Financial Plan • Budgeting and tax planning • Managing your liquidity • Financing your large purchases • Protecting your assets and income (insurance) • Investing your money • Planning your retirement and estate Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved A Plan for Your Budgeting and Tax Planning • Budget planning: The process of forecasting future expenses and savings – Evaluate your current financial position  Assets: what you own  Liabilities: what you owe  Net worth: the value of what you own minus the value of what you owe Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Budget and Tax Planning Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved A Plan to Manage Your Liquidity (1 of 2) • Liquidity: access to funds to cover any short-term cash deficiencies • Money management: decisions regarding how much money to retain in a liquid form and how to allocate the funds among short-term investment instruments Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved A Plan to Manage Your Liquidity (2 of 2) • Credit management: decisions regarding how much credit to obtain to support your spending and which sources of credit to use Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Managing Your Liquidity Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (3 of 15) – How your future financial position is tied to the economy   Economic conditions affect types of jobs available, salaries offered, price of services, value of assets Financial crisis of 2008-2009 affected financial positions in many ways – Reduction in new job opportunities – Elimination of some jobs – Lower salaries for existing jobs – Value of many assets declined Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (4 of 15) Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (5 of 15) Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (6 of 15) EXHIBIT 1.7 Fastest-Growing Occupations Occupation Growth Rate Over the 2012–2022 Period Annual Median Pay Industrial organizational psychologist 53% $83,580 Personal care aides 49% $19,190 Home health aides 48% $20,820 Insulation workers 47% $39,170 Interpreters and translators 46% $45,430 Diagnostic medical sonographers 46% $65,860 Masons 43% $28,220 Occupational therapy assistants 43% $53,240 Genetic counselors 41% $56,800 Physical therapy assistants 41% $52,160 Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (7 of 15) EXHIBIT 1.7 Fastest-Growing Occupations Occupation Growth Rate Over the 2012–2022 Period Annual Median Pay Physical therapy aides 40% $23,880 Skincare specialists 40% $28,640 Physician assistants 38% $90,930 Segmental pavers 38% $33,720 Helpers for electricians 38% $27,670 Information security analysts 37% $86,170 Occupational therapy aides 36% $26,850 Health specialties 36% $81,140 Medical secretaries 36% $31,350 Physical therapists 36% $79,860 Source: U.S Bureau of Labor Statistics, 2014 Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (8 of 15) • Step Identify and Evaluate Alternative Plans That Could Achieve Your Goals – • Plans could be conservative or aggressive Step Select and Implement the Best Plan for Achieving Your Goals – The Internet has valuable financial planning information Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Using the Internet to Facilitate Financial Planning (1 of 2) • Provides updated information on all parts of your financial plan – Current tax rates and regulations – Investment performances – New retirement plan rules Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Using the Internet to Facilitate Financial Planning (2 of 2) • Online calculators – Estimating taxes – Determining how your savings will grow over time – Determining whether buying or leasing a car is more appropriate Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (9 of 15) • Focus on Ethics: Personal Financial Advice – Your objective is to get the best advice appropriate to your needs – Be wary of unethical behavior  – Difficult to discern Be wary of incompetent advice  Be alert, ask questions, carefully consider advice Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (10 of 15) • Step Evaluate Your Financial Plan – • Keep plan in an accessible place and monitor your progress Step Revise Your Financial Plan – Change plan as financial condition and financial goals change Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (11 of 15) EXHIBIT 1.8 Summary of Steps Used to Develop a Financial Plan Establish your financial goals    What are your short-term financial goals? What are your intermediate-term financial goals? What are your long-term financial goals? Consider your current financial position    How much money you have in savings? What is the value of your investments? What is your net worth? Identify and evaluate alternative plans that could achieve your goals    How can you obtain the necessary funds to achieve your financial goals? Will you need to reduce your spending to save more money each month? Will you need to make investments that generate a higher rate of return? Select and implement the best plan for achieving your goals  What are the advantages and disadvantages of each alternative plan that could be used to achieve your goals? Evaluate your financial plan  Is your financial plan working properly? That is, will it enable you to achieve your financial goals? Revise your financial plan  Have your financial goals changed?  Should parts of your financial plan be revised to achieve your financial goals? If so, how? Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (12 of 15) EXHIBIT 1.9 Summary of Steps Used to Develop a Financial Plan Step Financial Goals: I would like to:  buy a new car within a year,  buy a home within two years,  make investments that will allow my wealth to grow over time, and  build a large amount of savings for retirement in 20 to 40 years Step Current Financial Position: I have very little savings at this time and own an old car My income, which is about $30,000 a year after taxes, should increase over time Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (13 of 15) EXHIBIT 1.9 Summary of Steps Used to Develop a Financial Plan Step Plans to Achieve the Goals: Since my current financial position does not provide me with sufficient funds to achieve these financial goals, I need to develop a financial plan for achieving these goals I want to save enough money to make a down payment on the car and home and to obtain financing to cover the rest of the cost This plan allows me to allocate some of my income toward investments My financing decisions will determine the type of car and home that I will purchase and the amount of funds I will have left to make other investments so that I can build my wealth over time Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (14 of 15) EXHIBIT 1.9 Summary of Steps Used to Develop a Financial Plan Step Selecting and Implementing the Best Plan: Financing the purchase of a car and a home is a more appropriate plan for me I will prepare a budget so that over time I can accumulate savings that will be used to make a down payment on a new car Then, I will attempt to accumulate savings to make a down payment on a new home I need to make sure that I can afford financing payments on any money that I borrow Step Evaluating the Plan: Once I establish a budget, I will monitor it over time to determine whether I am achieving the desired amount of savings each month Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved Developing the Financial Plan (15 of 15) EXHIBIT 1.9 Summary of Steps Used to Develop a Financial Plan Step Revising the Plan: If I cannot save as much money as I desire, I may have to delay my plans for purchasing a car and a home until I can accumulate enough funds to make the down payments If I am able to exceed my savings goal, I may be able to purchase the car and the home sooner than I had originally expected Copyright © 2017, 2014, 2011 Pearson Education, Inc All Rights Reserved ... your financial situation • Personal financial plan: a plan that specifies your financial goals and describes the spending, financing, and investing plans that are intended to achieve those goals... integrated • Each component can be a source of cash or a use of cash Copyright © 2017 , 2014 , 2011 Pearson Education, Inc All Rights Reserved Summary of Financial Plan Components (2 of 3) • Summary... 2017 , 2014 , 2011 Pearson Education, Inc All Rights Reserved A Plan for Your Retirement and Estate • This includes insurance planning, retirement planning, and estate planning – Retirement planning: