What is a financial plan and how do I make one?
A financial plan is a complete picture of your current finances, your financial goals, and all the strategies you have set out to achieve those goals. Good financial planning should include details about your cash flow, savings, debts, investments, insurance, and any other part of your financial life.
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What is Financial Planning?
Financial planning is an ongoing process that will reduce your stress about money, meet your current needs, and help you build a nest egg for your long-term goals, like retirement. Financial planning is important because it allows you to get the most out of your assets and helps you achieve your future goals.
Financial planning isn’t just for the rich: anyone can create a roadmap for their financial future. You can make a financial plan yourself or get help from a financial planning professional. Online services like robo-advisors have also made financial planning help more affordable and accessible than ever.
Financial planning in 7 steps
1. Start by setting financial goals
A good financial plan is guided by your financial goals. If you approach your financial planning from the perspective of what your money can do for you, whether it’s buying a home or helping you retire early, you’ll come across as saving more intentionally.
make your financial goals inspiring — what do you want your life to look like in five years? And in 10 and 20 years? Do you want to own a car or a house? Are the children in the photo? How do you imagine your life in retirement?
You start with goals because they will inspire you to take the next steps and provide a guiding light as you work to make those goals a reality.
2. Track your money and redirect it to your goals
Get an idea of your monthly cash flow – what’s coming in and what’s going out. An accurate picture is essential to creating a financial plan and can reveal ways to steer more toward saving or paying down debt. Seeing where your money is going can help you make immediate, medium, and long-term plans.
Developing a budget is a typical immediate plan. NerdWallet recommends the Budget principles 50/30/20: Spend 50% of your take home pay on needs (housing, utilities, transportation, and other recurring payments), 30% on wants (restaurants, clothing, entertainment), and 20% on savings and debt repayment. Reducing credit card debt or other high-interest debt is a common medium-term plan, and planning for retirement is a typical long-term plan.
3. Get your employer matched
If you visit a Financial Advisorthey’re sure to ask: Do you have an employer-sponsored retirement plan like a 401(k), and does your employer match a portion of your contribution?
Granted, 401(k) contributions lower your take home pay now, but it’s worth investing enough to get the full amount of matching, because that match is free money. Here is how much you should contribute to a 401(k).
4. Make sure emergencies don’t turn into disasters
The foundation of any financial plan is to set aside money for emergency expenses. You can start small – $500 is enough to cover minor emergencies and repairs so that an unexpected bill doesn’t rack up credit card debt. Your next goal might be $1,000, then a month’s basic living expenses, and so on.
Building credit is another way to protect your budget from shocks. Good credit gives you options when you need them, like getting a decent rate on a car loan. It can also increase your budget by giving you cheaper insurance rates and letting you avoid utility deposits.
5. Tackle High Interest Debt
A crucial step in any financial plan: Pay off high-interest “toxic” debt, such as credit card balances, payday loans, title loans, and lease-to-own payments. The interest rates on some of them can be so high that you end up paying back two or three times what you borrowed.
If you are struggling with revolving debt, a debt consolidation loan or a debt management plan can help you consolidate multiple expenses into one monthly bill at a lower interest rate.
6. Invest to build your savings
Investing looks like something for the wealthy or for when you are established in your career and family life. It’s not.
Investing can be as simple as putting money into a 401(k) and as simple as opening a brokerage account (many don’t have a minimum to start with).
Financial plans use a variety of tools to invest for retirement, a home, or college:
Employer-sponsored pension plans. If you have a 401(k), 403(b), or similar plan, gradually increase your contributions toward the IRS limit of $19,500 per year. If you are 50 or older, the limit is $26,000.
Traditional or Roth IRA. These tax-efficient investment accounts can boost your retirement savings by up to $6,000 a year (or $7,000 if you’re over 50). This NerdWallet IRA Guide help you choose the right type of IRA and show you how to open an account.
529 education savings plans. These state-sponsored plans provide tax-free investment growth and withdrawals for eligible educational expenses.
7. Build a moat to protect and increase your financial well-being
With each of these steps, you are building a moat to protect yourself and your family from financial setbacks. As your career progresses, continue to improve your financial gap by:
Increase contributions to your retirement accounts.
Repay your emergency fund until you have three to six months of essential expenses.
Use insurance to protect your financial stability, so that a car accident or illness doesn’t derail you. Life insurance protects loved ones who depend on your income. Term life insurance, covering periods of 10 to 30 years, suits most people’s needs well.
Do you need help with financial planning?
A financial plan isn’t a static document – it’s a tool for tracking your progress, and you need to adjust it as your life changes. It’s helpful to re-evaluate your financial plan after major life milestones, such as getting married, starting a new job, having a child, or losing a loved one.
If you’re not the do-it-yourself type — or want professional help handling some tasks and not others — you don’t have to go it alone. Think about the type of help you need:
Portfolio management only: Robo-advisors offer simplified, low-cost online investment management. Computer algorithms build an investment portfolio based on the goals you set for yourself and your answers to questions about your risk tolerance. After that, the service regularly monitors and rebalances your investment mix to make sure you stay on track. Because everything is digital, it costs a lot less than hiring a human portfolio manager.
A comprehensive financial plan and investment advice: Online financial planning services provide virtual access to human advisors. A basic service would include automated investment management (like you would with a robo-advisor), as well as the ability to consult with a team of financial advisors when you have other financial questions. More comprehensive providers essentially reflect the level of service offered by the financial planners: You are paired with a dedicated human financial advisor who will manage your investments, create a comprehensive financial plan for you, and perform regular check-ins to see if you are on the right track or need to adjust your financial plan.
Specialized support and/or desire to meet a counselor face to face: If you have a complicated financial situation or need a specialist in estate planning, tax planning or insurance, a traditional financial adviser in your area can do the trick. To avoid conflicts of interest, we recommend paid financial advisors who are fiduciaries (meaning they have signed an oath to act in the best interests of the client). Note that some traditional financial advisors turn away clients who don’t have enough to invest; the definition of “enough” varies, but many advisors require $250,000 or more. If you want to know more about the cost of a consultation with an advisor, read our guidee the fees of financial advisers.