What to plan for?

I imagine that if you do not have a financial plan for your personal economic recovery or if you have a bad plan it's because you don't really know how to plan or what to plan for. There are many reasons this could be your problem.  You might not have any background in finance at all.  Your parents may have been poor financial managers.  You may be confused about the economy and trying to second guess the market.  You may be listening to all those get rich schemes or "Take advantage of the market downturn" offers.  Whatever the reason, there are some things you ought to be looking at.

1. Short term savings
2. A safety net
3. Long term investments
4. Monthly spending

I'm not a person that says that you shouldn't start one of these until the other is finished, but I will say that it makes sense for you to sit down and think hard about your real goals before you make any trade offs.  In addition, if you know you are a person who tends to spend money before saving, then you ought to be tough on yourself and make a personal rule about saving before spending.

Having said that I don't have any definite rules, you should plan your savings and investing before you plan your spending.  You may say that your major spending items are fixed, but that's only true today.  You can change almost any of your "fixed" expenses in a relatively short period of time.  Selling a home in today's market is not easy in most places, but it can be done. 

The main reason to invest and save is that 1. you need a safety net especially in the current economic situation, which no matter what anyone says isn't going away soon.  2. the only way for most people to get ahead in life financially is to invest.  Investing puts you the closest that you'll get to being a business owner (unless you have your own business). 

So, a safety net can be between a month and six month's of your wages.  All of that depends on the stability of your current job AND how long it might take for you to find a new job.  It depends on what you would be willing to endure if your lost your job.  For example, let's say that you have a relatively secure job, but you are spending almost every penny every month.  Let's also add that your job field is relatively specific and small so that it would be difficult for you to find a new job.  It might take a year.  You have to weigh all of the factors to decide on how much safety savings to put aside.   I don't think you need to save all of the money before doing any other saving or investing, but you have to make this your priority, especially now.  In this case, I would not be comfortable with less than six months savings because even though my job seems secure (and most of us are optimistic), it may not be.  Remember this can be six months of saving of your NET pay.  Your net pay is the same thing as your take home pay.  If you have a relatively stable job and you are in a field in which you know there are regularly jobs available, then your safety net might need only to be a month or two, depending on your willingness to really sacrifice if your job search takes longer than expected. 

You should then set a plan for investing.  As I said, investing is the only real way for most people to get financially ahead.  Saving is great and creates safety.  Investing is wealth building.  Saving is the foundation of your financial health and saving well eliminates a lot of risk.  It's basic.  It's not fancy.  Investing is where you can be a little more creative and fit your style and your personality.  You might like real estate or stocks or mutual funds.  It depends on what you know and can get good at.  Most people should choose something like  mutual funds and not play around.  That's not because there aren't other wise investment.  It's mostly because it's tough for many people to learn about other investments or have the time to pursue them.  Real estate often takes time and effort.  At this point, you should simply plan for how much money you want to have and how much money you need to invest.  If you are just starting out on investing, then choose a mutual fund (I prefer no-load funds) that is suitable to your plan and stick with it for a while.  Don't try to chase the hottest funds.  I've learned the hard way on that one.

Short term saving is usually for specific purchases.  In other words, it should fit within your spending plan.  The reason I mention it first is that if you have items that you are saving for, then you want to plan for those first before you set your daily/monthly spending plan.

A spending plan is often called a budget.  The word budget scares a lot of people, so I prefer plan. In the finance profession, we know that a budget is good only for the day that you create it.  Unexpected events will happen.  You need to have a plan so that you know when an event takes you off of plan, then you need to plan how to deal with it.  I also like the word plan because I believe that people who are good with their money don't have to have a budget.  Often once you get used to a good routine of spending, a more general plan is more helpful and less tedious.  No, you won't know where every dollar is going, but if you develop good spending habits, you will not spend money that you don't need to.  Your practice will follow your goals and philosophy somewhat naturally.  In the beginning, you may need a very specific budget and accountability system to track everything.  It's not enough just to know how much you have.  If you just know how much you have, then  you will tend to spend what you have rather than work according to your plan. 

More on all of this in future blogs.

The last item for today is working on those "fixed" expenses.  You may already have dug yourself into a hole.  You may have more credit card debt than you should (any credit card debt is more than you should have).  You may "own" a house that is more expensive that you should "own."  You may have a house that costs you more to keep up than you can really afford.  You may have a car payment that does not allow you to save.  The only answer is to find a way to make more money or change your "fixed" payments.  I want to be a little vague here because you may be in a situation in which it does not make sense to make an immediate change.  For example, if you are upside down on your car payments or your home mortgage, then you may not want to immediately sell that car or home.  If you rent and your rent is to high, look for a  new place beginning now.  BTW, I put "own" in quotation marks because if you are paying more than you can afford on your home, then you own it in theory only.  The bank owns it.  That's why you don't have the deed.  You may rationalize to yourself saying something about the home being worth more some day.  That may be true, but it is unlikely that the risk that you've taken on is worth the future value of the home.  Of course, you'd have to calculate that or have someone compare your options to make sure, but that's generally the case. 

Next up: more specifics on a safety net and how to determine how much you need.