The term “Financial Planning” is tossed about in the financial services industry as if it’s a byproduct of something else. This poses the question: “What is Financial Planning?”
Explaining the process of Financial Planning might best be said by making clear what it’s not.
Financial Planning is not the selling of financial products such as mutual funds, insurance policies, individual stocks and bonds.
When products are sold, less is typically known about the total financial needs of a person and more of only what the products are designed to accomplish.
Selling makes any financial advice given incidental to the sale of the product. Simply meaning, the financial advice is a direct result of the product sold… leaving many areas of a person’s financial planning needs unmet.
Financial Planning is a process that incorporates several areas of a person’s financial life. It aligns personal financial goals with specific recommendations.
Six core areas make up a comprehensive financial plan; (1) Fundamentals, (2) Risk Management, (3) Investment Management, (4) Tax Planning, (5) Retirement Planning, and (6) Estate Planning.
Fundamentals
Fundamentals is a starting point. It provides a good understanding of your current resources. Fundamentals answer questions like; What’s my net worth?, What’s my cash flow look like…? do I have a surplus of money at the end of the month or a deficit? What’s the value of my human capital at the moment?
Fundamentals measure where you are today so you can direct resources to accomplish personal financial goals.
Now you can answers question like; How much can I save in my 401k plan or IRA? How much of my paycheck can I use to pay down debt? How much wealth can I expect to accumulate over the next 20 years?
Not doing this first step is similar to driving on an unfamiliar road with no map and no directions. You end up somewhere, but likely not where you want to be.
Risk Management
Risk Management is the concept of identifying and evaluating loss exposures. It’s typically associated with “Insurance.” However, Risk Management is more than buying insurance.
Risk is everywhere. Simple aggravations to catastrophic events lurk around every corner. Failing to manage these risks can impact multiple generations.
Risk management analyzes current risks, explores alternatives, and works to reduce the severity and frequency of losses associated with life’s risks.
Investment Management
Investment Management is the process of building a portfolio of investments designed specifically to meet your objectives, risk tolerances, and investment time horizons. It’s not about chasing returns, betting on the next hot stock tip, or buying various investment products.
Relying on the latest market trends, fund rating services, and industry pundit’s guessing games, does more harm than good when building your investment portfolio. It often leaves investors with a poor basket of investments.
Because of this, investors get blindsided by market movements. This leads to other problems destructive to wealth accumulation… using emotion as an investment tool. It’s better to manage risk in your portfolio instead of chasing returns.
Investment Management is about building a portfolio of investments personal to your needs that’s based on what’s right with the market, not with what’s wrong.
Tax Planning
Taxes are in every area of personal and business life. A little tax planning goes a long way to help maximize total wealth.
Tax planning helps you understanding the tradeoffs before choosing how you plan to meet financial goals. A miscalculation here can impact you and subsequent generations.
Retirement Planning
Retirement Planning is a necessity. Pensions, investment accounts, Social Security benefits, and/or other programs dealing with retirement require planning in order to maximize payouts.
Retirement planning answers questions like; How much income can I take for life? Will my investments last longer than me? Should I take Social Security Retirement benefits now or later? What payout option from my pension is best for me to take?
Retirement planning get all of these pieces working together to help you reach your retirement income goals.
Estate Planning
Estate Planning strategies protect family interests and must be completed and recorded prior to death. A common myth is Estate Planning is for the wealthy. Not true, everyone needs planning in this area.
Adding a simple Will or Advanced Directive (living Will) can ease confusion at a time when loved ones are grieving. Adding a Power of Attorney takes away the roadblocks often seen when families try to handle loved one’s finances. Adding guardianship provisions for your children eliminates a guessing game that might be left up to the courts.
At the least there are a few simple things you can do in this area that eliminate the hassle of transferring money from one person to another after death.
There’s a lot of talk out there about financial planning. If someone’s telling you they’re doing financial planning for you, and you’re not going through these steps, then it safe to say what you’re doing is not Financial Planning.
