What is Financial Planning?
In the purest sense, financial planning is, quite simply, cash flow planning.
It is planning to have available the amount of cash needed at the time it is needed (or in the hands of the desired person) to accomplish an individual's financial goals.
Financial planning can also be defined as
1. creating order out of chaos
2. a deliberate and continuing process by which a sufficient amount of capital is accumulated and conserved and adequate levels of income are attained to accomplish the financial and personal objectives of the client
3. the development and implementation of coordinated plans for the achievement of a client's overall financial objectives
4. income tax planning, retirement planning, estate planning, investment and asset allocation planning, and risk management planning
The financial problems our clients face in their lives can be categorized by the letters L-I-V-E-S.
L. LACK OF LIQUIDITY – Liquidity is the possession of sufficient cash and/or income to pay bills, debts, taxes, and other expenses on time. A lack of liquidity is the inability to quickly turn invested capital into spendable cash without incurring unreasonable cost. This problem can result in a forced sale of assets at pennies on the dollar. For instance, if a client must sell stocks or mutual fund shares in a "down market," or if an executor must sell a valuable real estate portfolio to pay federal or state death taxes and administrative expenses, the buyer will offer to pay the lowest possible price for the most precious asset. This forced sale often becomes a "fire sale," a loss of prime growth or income producing assets at a fraction of their real value.
I. INADEQUATE RESOURCES – Insufficient capital or income in the event of death, disability, at retirement, or for special needs such as college or preparatory school or to provide needed services for a handicapped child.
I. INFLATION – Not enough has been done to "inflation proof" the client's portfolio. Figure 1.1 emphasizes the crippling impact of inflation on each dollar's ability to buy goods and services.
I. IMPROPER DISPOSITION OF ASSETS – The client is leaving the wrong asset to the wrong person at the wrong time and in the wrong manner. Picture, for instance, a client leaving a sports car to a 10-year old child or $100,000 cash outright to a 21 year old college student.
V. VALUE – Not enough has been done to stabilize and maximize the financial security value of the client's business and other assets.
E. EXCESSIVE TAXES – Excessive taxes add to the cost of an investment and retard progress toward a client's objectives.
S. SPECIAL NEEDS – Clients have desires that go beyond mere quantifiable goals. Psychological assurance and comfort should be part of the financial planning process. For example, a client may want to provide additional levels of financial care for a spouse or children who are disabled or emotionally troubled.
No matter how you define financial planning, all clients are confronted with the need to determine whether their available resources are adequate to accomplish their financial goals and objectives.
The financial planning resources are
1. earned income (salary, wages, business income) while still working (full time or part time)
2. accumulated investment assets
3. employer pension plans and Social Security benefits
The usual financial planning goals and objectives can be broadly categorized as
1. current lifestyle
2. children's education
3. retirement funding
4. parental issues
5. estate planning
6. other special needs (such as a disabled child)
One critical point in looking at what financial planning is and what it is not – most clients are in the position where their resources are not adequate to attain all of their goals and objectives. Sometimes compromises need to be made, but, more commonly, and more accurately, the clients must engage in a process of prioritization. The financial resources must be focused on whichever goal or goals the client determines is most important.
WHAT A FINANCIAL PLANNING REPORT SHOULD COVER
1. Analysis – WHERE YOU ARE NOW
2. Objectives – WHERE YOU WANT TO BE
3. Strategy – HOW TO GET TO WHERE YOU WANT TO BE
The length of the report must be determined by the task set by the client (does the client want you to do a full analysis or just solve one or two
problems?), by time and cost considerations, by your style as a professional, and by your feelings as to how much the client needs to know to have confidence in and take action on your suggestions.
Where You Are Now
1. balance sheet
2. cash flow analysis
a) normal situation—current
b) normal situation—projected
c) death of "breadwinner"
d) disability of "breadwinner"
e) retirement
3. asset liquidity analysis
4. employee benefits
5. risk assessment
6. risk tolerance
Where You Want to Be
Quantification of goals
1. increasing investable income
2. improving liquidity
3. reducing risk
4. increasing income or meeting capital needs at death, disability, retirement, or for special situations
5. increasing financial security for heirs and satisfying charitable objectives
How to Get to Where You Want to Be
1. tax strategy
• income • estate and gift
2. investment strategy
• selection • portfolio balancing and asset allocation
• diversification
3. risk management strategy
• life • health & long-term care
• disability • asset preservation & protection
• property & liability
4. wealth transfer strategy
• estate planning • trusts
• retirement plan beneficiary elections • business succession
• titling • charity
Summary and Assignment of Responsibilities
1. summary
2. priorities
3. who must take action
4. what must be done
5. timetable for implementation
6. date of next review
7. contingencies that accelerate review & revision of plans
Budgeting and Cash Management
Budgeting can be defined as the ability to estimate the amount of money to be received and spent for various purposes within a given time frame.
Budgeting should be thought of as a deliberate plan for spending and investing the resources available to the investor. It ultimately serves as a yardstick against which to measure actual investment results.
In simplest terms, the budgeting process works as a result of the establishment of a working budget model by an investor, followed by the comparative analysis of actual investment results with the expected results used to create the planning budget. It is the comparison of budget results with expectations that yields the benefits of the process to the user.
WHEN IS THE USE OF THIS TECHNIQUE INDICATED?
1. When there is a need to measure periodic progress towards the achievement of specific goals (a) within a defined time frame and (b) within the confines of limited resources.
2. When the elements of economic activity are of sufficient complexity to warrant continuous monitoring of the details.
3. When there is a need to provide guidelines for evaluating the economic performance of various elements or individuals.
4. When there is a need to communicate a planning strategy to those affected by the budget.
5. When there is a need to provide incentives (goals) for the performance of individuals involved.
6. Budgeting may be indicated for the following specific purposes:
a. controlling household expenses
b. accomplishing desired wealth accumulation/ savings goals, such as
1. saving for retirement
2. funding the children's education
3. saving for vacation
c. Monitoring the performance of a specific investment, such as
1. a securities portfolio
2. rental property
3. a closely-held business
ADVANTAGES
1. Budgeting helps coordinate activity of the investor and financial counseling team in developing objectives.
2. Budgeting reveals inefficient, ineffective, or unusual utilization of resources.
3. Budgeting makes family members aware of the need to conserve resources and helps to allocate roles in achieving overall financial objectives to various individuals.
4. Budgeting provides a means of financial self-evaluation and a guideline to measure actual performance.
5. Budgeting allows the recognition and forces the anticipation of problems before they occur and, thus, permits corrective action or preparation to be taken.
6. Budgeting highlights the possibility of, and the need for, alternative courses of action.
7. Budgeting provides a motivation for performance.
DISADVANTAGES
1. To the extent the data utilized are inaccurate, the conclusions drawn from the budget may be misleading.
2. Many individuals have a psychological aversion to the record keeping required and may not maintain sufficient information for the budget to be of use.
3. A rote dependence on budgeted numbers inhibits creativity, tends to stifle "risk taking," and encourages mechanical thinking. Such an investor may forfeit opportunities or fail to minimize losses.
Here are some guidelines to use when establishing a budget:
1. Make the budget flexible enough so that it will work even if there are emergencies, unexpected opportunities, or other unforeseen circumstances.
2. Keep the budget period short enough so that the estimates you make will involve the minimum amount of guesswork.
3. Establish a budget period long enough to utilize an investment strategy and a workable series of investment procedures. A typical family budget will cover twelve months and coincide with a calendar year.
4. Make the budget simple, short, and understandable.
5. Follow the form and content of the budget consistently.
6. Eliminate any extraneous information.
7. Do not attempt to obtain absolute accuracy, especially with insignificant items.
8. Tailor the budget to specific goals and objectives.
9. Remember that a budget is also a guideline against which actual results are to be measured. Unexpected results, highlighted by comparison with the budget, should be analyzed. It may be that the unexpected variance is in fact the norm, and should therefore be incorporated in a revised budget.
10. Determine, in advance, all the variables that may influence the amounts of specific items of income and expenditures. Income items include expected annual raises and increases or decreases in interest or dividend rates. Expenditures include increased costs, changing tastes or preferences, or changes in family circumstances.
Here is how to construct an income-expenditure budget:
STEP 1 – Estimate the family's annual income. Identify fixed amounts of income expected from the following:
a. salary
b. bonus
c. self-employment (business)
d. real estate
e. dividends – close corporations
f. dividends – publicly traded corporations
g. interest – savings accounts
h. interest – taxable bonds
i. interest – tax free bonds
j. trust income
k. other fixed payment income
l. variable sources of income
STEP 2 – Develop expenditure estimates broken down between fixed and discretionary expenses. Canceled checks and charge account receipts serve as a good basis for developing the following expenditure estimates:
FIXED
a. housing (mortgage or rental payments)
b. utilities
c. food, groceries, etc.
d. clothing and cleaning
e. income taxes
f. social security
g. property taxes
h. transportation
i. medical and dental
j. debt repayment
k. household supplies and maintenance
l. life and disability insurance
m. property and liability insurance,
n. current school expenses
DISCRETIONARY
a. vacations, travel, etc.
b. recreation and entertainment
c. gifts and contributions
d. household furnishings
e. education fund
f. savings
g. investments
h. other
STEP 3 – Determine the excess or shortfall of income within the budget period.
STEP 4 – Consider available methods of increasing income or decreasing expenses.
STEP 5 – Calculate both income and expenses as a percentage of the total and determine if there is a better or preferable allocation of resources.
For more Information
* Financial Planning, Strategic Corporate Finance, Financial Controller's Function, Financial Intelligence, Corporate Cash Management, Cost Management, Finance Books, *
In the purest sense, financial planning is, quite simply, cash flow planning.
It is planning to have available the amount of cash needed at the time it is needed (or in the hands of the desired person) to accomplish an individual's financial goals.
Financial planning can also be defined as
1. creating order out of chaos
2. a deliberate and continuing process by which a sufficient amount of capital is accumulated and conserved and adequate levels of income are attained to accomplish the financial and personal objectives of the client
3. the development and implementation of coordinated plans for the achievement of a client's overall financial objectives
4. income tax planning, retirement planning, estate planning, investment and asset allocation planning, and risk management planning
The financial problems our clients face in their lives can be categorized by the letters L-I-V-E-S.
L. LACK OF LIQUIDITY – Liquidity is the possession of sufficient cash and/or income to pay bills, debts, taxes, and other expenses on time. A lack of liquidity is the inability to quickly turn invested capital into spendable cash without incurring unreasonable cost. This problem can result in a forced sale of assets at pennies on the dollar. For instance, if a client must sell stocks or mutual fund shares in a "down market," or if an executor must sell a valuable real estate portfolio to pay federal or state death taxes and administrative expenses, the buyer will offer to pay the lowest possible price for the most precious asset. This forced sale often becomes a "fire sale," a loss of prime growth or income producing assets at a fraction of their real value.
I. INADEQUATE RESOURCES – Insufficient capital or income in the event of death, disability, at retirement, or for special needs such as college or preparatory school or to provide needed services for a handicapped child.
I. INFLATION – Not enough has been done to "inflation proof" the client's portfolio. Figure 1.1 emphasizes the crippling impact of inflation on each dollar's ability to buy goods and services.
I. IMPROPER DISPOSITION OF ASSETS – The client is leaving the wrong asset to the wrong person at the wrong time and in the wrong manner. Picture, for instance, a client leaving a sports car to a 10-year old child or $100,000 cash outright to a 21 year old college student.
V. VALUE – Not enough has been done to stabilize and maximize the financial security value of the client's business and other assets.
E. EXCESSIVE TAXES – Excessive taxes add to the cost of an investment and retard progress toward a client's objectives.
S. SPECIAL NEEDS – Clients have desires that go beyond mere quantifiable goals. Psychological assurance and comfort should be part of the financial planning process. For example, a client may want to provide additional levels of financial care for a spouse or children who are disabled or emotionally troubled.
No matter how you define financial planning, all clients are confronted with the need to determine whether their available resources are adequate to accomplish their financial goals and objectives.
The financial planning resources are
1. earned income (salary, wages, business income) while still working (full time or part time)
2. accumulated investment assets
3. employer pension plans and Social Security benefits
The usual financial planning goals and objectives can be broadly categorized as
1. current lifestyle
2. children's education
3. retirement funding
4. parental issues
5. estate planning
6. other special needs (such as a disabled child)
One critical point in looking at what financial planning is and what it is not – most clients are in the position where their resources are not adequate to attain all of their goals and objectives. Sometimes compromises need to be made, but, more commonly, and more accurately, the clients must engage in a process of prioritization. The financial resources must be focused on whichever goal or goals the client determines is most important.
WHAT A FINANCIAL PLANNING REPORT SHOULD COVER
1. Analysis – WHERE YOU ARE NOW
2. Objectives – WHERE YOU WANT TO BE
3. Strategy – HOW TO GET TO WHERE YOU WANT TO BE
The length of the report must be determined by the task set by the client (does the client want you to do a full analysis or just solve one or two
problems?), by time and cost considerations, by your style as a professional, and by your feelings as to how much the client needs to know to have confidence in and take action on your suggestions.
Where You Are Now
1. balance sheet
2. cash flow analysis
a) normal situation—current
b) normal situation—projected
c) death of "breadwinner"
d) disability of "breadwinner"
e) retirement
3. asset liquidity analysis
4. employee benefits
5. risk assessment
6. risk tolerance
Where You Want to Be
Quantification of goals
1. increasing investable income
2. improving liquidity
3. reducing risk
4. increasing income or meeting capital needs at death, disability, retirement, or for special situations
5. increasing financial security for heirs and satisfying charitable objectives
How to Get to Where You Want to Be
1. tax strategy
• income • estate and gift
2. investment strategy
• selection • portfolio balancing and asset allocation
• diversification
3. risk management strategy
• life • health & long-term care
• disability • asset preservation & protection
• property & liability
4. wealth transfer strategy
• estate planning • trusts
• retirement plan beneficiary elections • business succession
• titling • charity
Summary and Assignment of Responsibilities
1. summary
2. priorities
3. who must take action
4. what must be done
5. timetable for implementation
6. date of next review
7. contingencies that accelerate review & revision of plans
Budgeting and Cash Management
Budgeting can be defined as the ability to estimate the amount of money to be received and spent for various purposes within a given time frame.
Budgeting should be thought of as a deliberate plan for spending and investing the resources available to the investor. It ultimately serves as a yardstick against which to measure actual investment results.
In simplest terms, the budgeting process works as a result of the establishment of a working budget model by an investor, followed by the comparative analysis of actual investment results with the expected results used to create the planning budget. It is the comparison of budget results with expectations that yields the benefits of the process to the user.
WHEN IS THE USE OF THIS TECHNIQUE INDICATED?
1. When there is a need to measure periodic progress towards the achievement of specific goals (a) within a defined time frame and (b) within the confines of limited resources.
2. When the elements of economic activity are of sufficient complexity to warrant continuous monitoring of the details.
3. When there is a need to provide guidelines for evaluating the economic performance of various elements or individuals.
4. When there is a need to communicate a planning strategy to those affected by the budget.
5. When there is a need to provide incentives (goals) for the performance of individuals involved.
6. Budgeting may be indicated for the following specific purposes:
a. controlling household expenses
b. accomplishing desired wealth accumulation/ savings goals, such as
1. saving for retirement
2. funding the children's education
3. saving for vacation
c. Monitoring the performance of a specific investment, such as
1. a securities portfolio
2. rental property
3. a closely-held business
ADVANTAGES
1. Budgeting helps coordinate activity of the investor and financial counseling team in developing objectives.
2. Budgeting reveals inefficient, ineffective, or unusual utilization of resources.
3. Budgeting makes family members aware of the need to conserve resources and helps to allocate roles in achieving overall financial objectives to various individuals.
4. Budgeting provides a means of financial self-evaluation and a guideline to measure actual performance.
5. Budgeting allows the recognition and forces the anticipation of problems before they occur and, thus, permits corrective action or preparation to be taken.
6. Budgeting highlights the possibility of, and the need for, alternative courses of action.
7. Budgeting provides a motivation for performance.
DISADVANTAGES
1. To the extent the data utilized are inaccurate, the conclusions drawn from the budget may be misleading.
2. Many individuals have a psychological aversion to the record keeping required and may not maintain sufficient information for the budget to be of use.
3. A rote dependence on budgeted numbers inhibits creativity, tends to stifle "risk taking," and encourages mechanical thinking. Such an investor may forfeit opportunities or fail to minimize losses.
Here are some guidelines to use when establishing a budget:
1. Make the budget flexible enough so that it will work even if there are emergencies, unexpected opportunities, or other unforeseen circumstances.
2. Keep the budget period short enough so that the estimates you make will involve the minimum amount of guesswork.
3. Establish a budget period long enough to utilize an investment strategy and a workable series of investment procedures. A typical family budget will cover twelve months and coincide with a calendar year.
4. Make the budget simple, short, and understandable.
5. Follow the form and content of the budget consistently.
6. Eliminate any extraneous information.
7. Do not attempt to obtain absolute accuracy, especially with insignificant items.
8. Tailor the budget to specific goals and objectives.
9. Remember that a budget is also a guideline against which actual results are to be measured. Unexpected results, highlighted by comparison with the budget, should be analyzed. It may be that the unexpected variance is in fact the norm, and should therefore be incorporated in a revised budget.
10. Determine, in advance, all the variables that may influence the amounts of specific items of income and expenditures. Income items include expected annual raises and increases or decreases in interest or dividend rates. Expenditures include increased costs, changing tastes or preferences, or changes in family circumstances.
Here is how to construct an income-expenditure budget:
STEP 1 – Estimate the family's annual income. Identify fixed amounts of income expected from the following:
a. salary
b. bonus
c. self-employment (business)
d. real estate
e. dividends – close corporations
f. dividends – publicly traded corporations
g. interest – savings accounts
h. interest – taxable bonds
i. interest – tax free bonds
j. trust income
k. other fixed payment income
l. variable sources of income
STEP 2 – Develop expenditure estimates broken down between fixed and discretionary expenses. Canceled checks and charge account receipts serve as a good basis for developing the following expenditure estimates:
FIXED
a. housing (mortgage or rental payments)
b. utilities
c. food, groceries, etc.
d. clothing and cleaning
e. income taxes
f. social security
g. property taxes
h. transportation
i. medical and dental
j. debt repayment
k. household supplies and maintenance
l. life and disability insurance
m. property and liability insurance,
n. current school expenses
DISCRETIONARY
a. vacations, travel, etc.
b. recreation and entertainment
c. gifts and contributions
d. household furnishings
e. education fund
f. savings
g. investments
h. other
STEP 3 – Determine the excess or shortfall of income within the budget period.
STEP 4 – Consider available methods of increasing income or decreasing expenses.
STEP 5 – Calculate both income and expenses as a percentage of the total and determine if there is a better or preferable allocation of resources.
For more Information
* Financial Planning, Strategic Corporate Finance, Financial Controller's Function, Financial Intelligence, Corporate Cash Management, Cost Management, Finance Books, *
0 comments:
Post a Comment
Place Your Comments Here