10 Personal Financial Planning Steps in the Right Direction
This is one of the “10 Steps in the Right Direction” that make up the Pasadena Financial Planner‘s personal financial planning and personal investment management process. For a summary of these ten steps, see “Your Family Financial Planning.” To find an in depth article for each step, just click the Sitemap link at the top of this page. Also, you can reach us by using the contact form below. Please enjoy reading this article. Thank you!
Step 2 – Sustain a sufficiently high pre-retirement savings rate
Most people simply do not save enough of their current income to fund adequately their future needs. The single most significant financial lever that individuals control directly is their lifetime effort to obtain sufficient income. The second is their management of personal expenditures. The difference is their current savings rate. Without a significant inheritance or the successful capture of a leprechaun, the only path to wealth is a high and sustained savings rate during one’s working years.
Your personal savings rate is the single most important personal financial planning lever that you control directly through your lifetime efforts to earn income and to manage personal expenditures and your family budget.
Economists call the potential of each person to earn money, pay expenses, and still set aside financial savings their “human capital.” For most people, their personal human capital is all they have financially, until they convert some of their human capital into longer lasting investment assets.
Over their lives, individuals must rely increasingly upon assets to replace earned income. Without inheritance or winning the lottery, you can invest only if you save. When saving to fund an investment program, you must live within both your current and future economic means.
Saving money adequately across your lifetime is the most difficult challenge that you and your family face.
Prior to retirement, you must produce earned income to cover current expenses. On top of that you must produce excess income and control your expenditures to allow for adequate personal savings rates. Your personal savings rate will largely determine whether you will build up enough assets for the unknown and uncertain future that lies decades in front of you.
In retirement, your cash flow management challenge shifts from saving for retirement to retirement expenditure management. Your retirement investment assets and investment income must be adequate for your retirement expenses, yet you cannot know how long your retirement savings will last.
A positive difference between current earned income and household expenditures – or plain old financial savings – usually results from awareness and intentional control of personal consumption.
Expense control allows for personal savings, personal investing, and eventually deferred consumption of investment returns and the investment principal, if necessary. Those who are better at managing their savings plan tend to be much more conscious of their expenditures. They tend to be more aware of the level of their current personal expenses relative to their current earned income. In short, they are better at personal financial planning and family cash flow management.
Personal savings rates increase with conscious planning and better expenditure decision-making. Better expenditure control results from a conscious decision made at the time of each purchase. Across your lifetime, the quality of your personal financial decision making at the point of purchase will determine much of your overall financial success. Each purchase potentially involves a “need versus desire” decision. Some people do this better than others. Some plan ahead and understand their limitations. Many simply do not.
Most people simply do not have a high enough personal savings rate to meet their retirement savings and other future financial needs.
Your cumulative lifetime labor earnings are variable and uncertain. Your human capital is perishable. Personal income volatility has increased significantly at all income levels in recent decades and people must exercise increased discipline to restrain spending in a fluctuating income environment.
The passage of time steadily diminishes your total personal earning potential. Furthermore, illness and injury can randomly slash the value of your potential human capital, while disrupting your life and permanently altering your best-laid financial finance and savings plans.
The Bureau of Economic Analysis of the U.S. Department of Commerce has tracked the national personal savings rate since 1952, as part of its “National Income and Product Accounts” and “Flow of Funds” reporting. From the 1950s through the 1980s the national savings rates fluctuated around the 9% to 10% range. In the early 1980s, these rates began to decline. In 2006 and 2007, they even turned slightly negative!
A negative national personal savings rate means that for every dollar someone saves, another American goes more than a dollar into additional debt. Because a sustained long term savings rate of 10% to 20% is usually required to save adequately for secure and comfortable retirement, the lack of significant American net savings in recent decades is very disturbing. Note that only when you start saving early in your working career, would a consistent lifetime savings rate of 10% be adequate to build wealth and retirement security. The longer you wait to start to save, the higher your savings percentage must be.
Only after the dreadful global credit crunch of 2007 to 2009 had devastated credit availability and forced both lenders and borrowers to change dramatically their easy borrowing and lending practices did this declining savings rate trend reverse. In 2009, the US savings rate began heading toward the high single digit percentages as people spent less, saved more, and paid down their debts more quickly. Whether the national savings rate will approach or exceed 10% and stay there is a significant question. This savings rate will have a great impact on the long-term financial security of many millions of US families.
Therefore, the first thing you must get right in your lifetime financial planning is your financial savings program. To ensure that your personal savings rate is high enough to build up an adequate asset base, you must understand, track, and project your cash flows. You cannot know the adequacy of your savings rate and your progress toward your investment goals without measuring your current progress and projecting your future cash flows.
Any comprehensive cash flow projection must also include planned future cash requirements for living expenses and special requirements, such as a down payment on a house, college expenses, retirement, charitable giving, and estate bequests. Projected personal financial requirements provide the baseline expenditure plan over which you can overlay various income and investment return scenarios to test the adequacy of your current savings and investment plans.
When you work with me, we will use VeriPlan to analyze and project your lifetime financial affairs in comprehensive detail.
VeriPlan is a very sophisticated and customizable computer planning model that I have developed. VeriPlan enables you to view graphical projections of your family’s income, expenses, assets, and debts across your lifetime. Data inputs reflect your particular situation and include all of your significant assets, including cash, bonds, equities, property, real estate, private equities, and business interests.
This comprehensive lifetime financial planning and cash flow modeling process is very important. We measure your current financial circumstances and model your goals and intentions for the future within this framework. To develop your customized lifecycle model, we will work together to gather information, adjust assumptions, and evaluate the effects of different financial decisions across your lifecycle. For more information about VeriPlan, see: Lifetime Financial Planning Software.
VeriPlan can vary future expected investment returns by asset class, and it automatically analyzes the details of your taxes, investment expenses, and retirement investment plans. Any and all assumptions can be changed for instant “what-if” testing. The cash flow model’s risk analysis capabilities evaluate how well your future assets would cover normal and extraordinary expenses, if market or personal circumstances were to disrupt your plans. Because excessive and unnecessary investment costs undermine the lifetime investment returns of most people, VeriPlan automatically projects the returns you will waste with such excessive investment fees, if you do not choose more cost-efficient investments.
See: Pasadena Investment Adviser >>>
Financial Advisors in Pasadena California
Larry Russell, Managing Director
MBA – Stanford University, MA – Brandeis University, and BS – M.I.T.
Lawrence Russell and Company Pasadena, California 91103
A California Registered Investment Adviser — Certificate 133101
KNOWLEDGE — OBJECTIVITY — HONESTY — DILIGENCE — SATISFACTION
A truly independent financial planner and fee only investment advisor
(Regarding how I am compensated, I provide financial planning services solely on a fixed fee or hourly fee for service basis, and only under a contract agreed upon with you. You do not have to pay any form of asset fee. Furthermore, in the interest of avoiding all conflicts-of-interest, I do not accept commissions or compensation of any kind from the industry.)
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