There is only one job of a financial plan.
It is to make sure you have the money you need when you need it.
And there are 4 simple steps to complete.
Step 1: Spend less than you earn
A financial plan cannot work if you don’t have money left over.
For the plan to work, you have to spend less than you make.
One simple way of doing this is to track how much you spend.
This doesn’t mean logging all expenses every day.
That sucks and takes up way too much time.
Just look for the difference between the first and last day of the month.
The bank account statement doesn’t lie. (unless you’re building up credit card debt, in which case STOP and DON’T DO THAT and PAY IT OFF)
It will give you a good idea of whether your money is increasing or decreasing.
Once it is increasing, we can move on to
Step 2: Set aside an emergency fund
Expect the unexpected.
As Nobel Laureate Eugene Fama said, “Life has a fat tail.”
Things go wrong with surprising regularity.
Gadgets and appliances break down. My cat turned my wired mouse into a wireless mouse. A broken fridge means weeks of groceries rotting – fast. The kids need to see the doctor, and so do you, once they’ve passed their germy goodness to their hapless parents.
And the universe will somehow make these all events transpire at the same time.
An emergency fund absorbs the shock from these expenses.
This gives you three benefits.
First, you won’t need to sell your retirement fund to meet these expenses.
Second, you’ll be able to afford a replacement fridge without worrying about where the money comes from.
Thirdly, you’ll have peace of mind and be able to sleep soundly at night.
What if the expense is enormous?
In 2012, the cost of having a stroke was about $12,473.70 on average.
That is why you need insurance.
Step 3: Insure yourself with Insurance
Insurance has an ugly reputation.
But it’s there to protect you from ugly situations.
A serious illness or hospitalisation can wipe out years of savings in one shot.
Not only will you suffer from the illness, but your retirement will be thrown into jeopardy.
Insurance is a circuit breaker for your finances.
It transfers the risk of large economic shocks from you to the insurance company.
That is the reason we pay for insurance premiums.
So that a bad day doesn’t mean bankruptcy.
I always say that looking at the government gives a good idea of what you need.
The Singapore government has three insurance policies for Singaporeans.
Firstly, term life (Dependent’s Protection Scheme). This pays out in the case of an early death and compensates for the loss of income that your dependents will face.
Secondly, hospitalisation (Medishield Life). This covers hospitalisation fees, which can reach 5 or even 6 digits in size.
Lastly, long term care (Careshield Life). This pays out if you are disabled and helps to keep the cost of care down during your disability.
All of these schemes are in place to shield us against the unlikely but devastating effects of misfortunes.
The government’s schemes are the bare minimum, so I would recommend looking at ways to expand your coverage for these three schemes.
Once you’ve made sure that life’s exigencies won’t trip you up, it’s time for the final step.
Step 4: Invest for Retirement
Retirement is a long way away.
That means you have time.
And time is the most valuable asset we have.
It’s also our biggest enemy.
As time passes, the value of our cash is eaten away by inflation.
Investing is basically a way of turning that cash into our retirement nest egg instead of letting inflation eat away at its value.
With a long-term portfolio that is globally diversified, low-cost, and sensibly maintained, you can turn your savings into a solid retirement fund.
And because you have an emergency fund and insurance, you can sit through market downturns and volatility without panicking or losing sleep.
Bonus!Step 5: Settle your Estate
Unfortunately, the world doesn’t stop with our passing.
The Earth keeps turning.
And our loved ones will have to carry on without us.
The good news is that there’s a lot we can do to make that process easier on them.
Settling your estate while you’re alive and in good health is one of the largest gifts you can pass to your loved ones.
And it doesn’t take much.
Making your CPF nominations, setting up your Lasting Power of Attorney (LPA), and writing a clear will will ensure your loved ones are able to fulfill your wishes rather than fight over what these wishes should be.
When my grandfather passed away, I learnt that without these documents in place, the default legal process is twice as lengthy and costly.
Once you have these steps in place, review them every so often.
Remember that the financial plan is meant to ensure that you have money when you need it.
With this plan in hand, you can live the life you want to live.