The Major Areas of Financial Planning

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The Major Areas of Financial Planning

Financial plans differ a lot among different people. But financial planning as a discipline is meant to cover all areas of life. As a discipline, it generally focuses on six areas:

1. Your financial position

Your financial position examines your available resources. It creates a picture of your net worth and your cash flow. Your net worth is made of your assets minus your liabilities. This can be expressed on a personal balance sheet (net worth statement). It represents your position as of a certain point in time (such as the last day of the year). Your cash flow is a total of all your sources of income within a year, minus all your expenses in that year. It therefore covers not a particular point in time, but the activity over a whole range of time. The cash flow statement gives you a sense of where your money is coming from and where it is going to.

2. Risk management

Many things can destroy your hopes and dreams and all that you have worked for. The purpose of risk management is to reduce the possibility of that happening. Risks can be in the form of disability, death, health problems, property loss, and liability, among other things. Though you can cover risks to some extent on your own, you may also need insurance to cover others. The cost of insurance will need to be factored into your cash flow.

3. Tax planning

Taxes typically take the biggest bite out of your income and your wealth, and more so the more you earn. There are many legal ways to reduce this bite and free up more money for other uses. Luckily, the government provides deductions, exemptions and credits for such things as retirement contributions, business expenses, and certain personal and family expenses. Because tax planning is complicated, many people find that the services of tax planners are well worth the money paid for them.

4. Investment

To achieve your goals, you need the means, and that usually means investing money and letting it grow. Your goals may include financing your retirement, buying a major item, opening a business, or paying for something for someone else. Whether you earn your money, win it, receive it as a gift, or inherit it, you must invest it in some way. You will need to stay ahead of inflation, and that requires taking on some risk. This is where asset allocation and investment strategy come in. You will also have a time horizon to take into account, as well as tax implications. Investing is complex, and many people find that the services of investment advisors are worth the money they pay.

5. Retirement planning

Retirement planning provides for your post-employment years. It helps determine how much you may have at the beginning of retirement, how much you may need to have to make up for any shortfall, how much you may need to live on each year, and what you must do in order to keep the plan on track (including working part-time, if need be). Retirement planning includes using tax-advantaged plans such as IRAs and 401(k)s to save money.

6. Estate planning

Estate planning helps provide for your wealth to be handed down to others after your death. It can also help you begin preparing for the possibility of incapacity. Effective planning can ensure that your wealth will go to the people you want it to go to, with little or no interference from the state. It can also help minimize taxes. There are several ways to make this happen: beneficiary designations, wills, life insurance, and trusts. Estate planning is among the most complicated areas of financial planning, and there are professional estate planners who help clients plan their estates as they want. You will also need the services of an attorney.

When making your own financial plan, consider including all areas of your life that are or will be touched by money.