The Essential Components of a Financial Plan

With the first pick in the 2007 NBA Draft, the Portland Trail Blazers selected Greg Oden over Kevin Durant…

Oden went on to play just 82 games for the Blazers never making a mark primarily because of multiple knee surgeries. He could not stay healthy. Meanwhile, Durant went on to become, and is still, a superstar. Bleacher Report wrote, in looking back at the top of that draft, “Knowing what we know now, if the Blazers could do the draft again, it’s safe to say they’d honk twice and select Durant. At the time, though, Oden was the guy to choose, and with his projections out of Ohio State being so high, most NBA teams would have made the same decision with the №1 overall pick.”

We could talk sports drafts all day and see that projections might be helpful, but they are not necessarily reality. It’s the same with a financial plan. One or more of the essential components of a financial plan are often missing. Projections are informative but often over-emphasized – “projecting” success is not the same as “realizing” success.

Here are the essential components of a financial plan:

PRIORITIZATION.

Lewis Carroll said, “If you don’t know where you are going, any road will get you there.” To create a path forward, you need to start with goals. These are your targets, but when considering the essential components of a financial plan, you need to take it a step further and prioritize those goals. Priorities may be identified by importance and by timeframe. For example, planning for retirement may be an important goal for you, but building cash reserves for emergencies may be more immediately important simply because an emergency could require liquid cash today. Having that cash could prevent you from having to dip into retirement plans that may be invested for long-term growth and include penalties for early withdrawal and taxes. Establishing a cash reserve can also make you a better investor.

Priorities often include such things as retirement, college for children, cash reserves, and buying or upsizing your home. These are common for good reason, but I don’t recommend solely prioritizing what the world around you tells you to include. You can spend your life achieving these goals and consider it a waste. You also need to ask “what’s really important to me?” Is it contentment? Purpose? Generosity? Strong relationships? You can retire with lots of money and not be content and you can send the kids off to college and have no relationship with them. A financial plan based on well thought-out personal priorities can provide you with important direction.

PLAN OF ACTION.

Years ago, I created a financial plan for a single woman with no children. She expressed her top priority was to begin a savings plan to fully fund college education (including four-year university AND graduate school) for her two unborn children. I thought it was a bit odd, but it was her priority. I also knew before formalizing any projections that these numbers were going to shock her based on her finances and other goals. That initial look at the financial plan is our “rough draft.” I want the client to understand context and that it’s okay to adjust, which is what happened with this woman after viewing our rough draft. She re-prioritized her goals as she saw it simply didn’t make sense to save all her disposable income (and more) into college plans at this point.

In our firm, we create a Plan of Action with each financial plan that focuses on the best decisions we can make today. Often the recommendations are straightforward based on priorities. Other times, we’ll discuss an action step by evaluating the pros and cons of two or more choices before deciding what the best path forward is. In both cases, the Plan of Action is collaborative and must be realistic and workable. The projections provide the context. The Plan of Action provides the value.

PROCESS.

Creating a prioritized financial plan with a Plan of Action, unfortunately, is where too many people stop and thus fall short. Why? Because life changes and you must adjust. A financial plan is direction with flexibility. This is where consistency in your process becomes important. Think of your financial plan as an actual path. You are progressing along that path meeting some goals along the way; however, you will inevitably veer off that path simply because unexpected things happen. The question is: How far will you veer? Your most valuable resources to meet your financial objectives are time and money. Time spent off that path is a waste of these resources. Therefore, your process needs to minimize time off the path by reevaluating your Plan and adjusting. Evaluating the path itself is just as much a part of the process as adjusting strategies. An ongoing, fluid process allows you to make the best decisions you can as life changes.

You don’t need to solve it all today (nor can you). Rather, follow the essential components of a financial plan to help you make the best decisions you can for today and ensure that’s the case tomorrow and the next day as well. A quality Certified Financial Planner™ can guide you through this process.