Takeaways
- Financial plans are roadmaps to help you form money goals and strategies.
- Financial plans prioritize what goals matter most to you and your family.
- Financial plans focus on short-term and long-term financial goals.
- Financial plans should be flexible to accommodate major life milestones.
- Financial plans usually start with taking an inventory of your current net worth.
What Is a Financial Planning?
Financial planning is a system for analyzing and accounting for your short-term and long-term financial goals. It creates a roadmap of specific steps to follow to meet those goals. A financial plan is a document designed to help you navigate your short- and long-term goals.
Short-term goals can be as short as what you plan on achieving in the next month or two, while long-term goals could contemplate your aims in five to ten years.
Creating a financial plan starts with taking inventory of your current situation. This audit means writing down your income, spending patterns, current debt load (credit cards, student loans, car notes), total savings (savings accounts, certificates of deposits), and investments (stocks, bonds).
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10 Steps to Create a Financial Plan
Building a well-balanced financial plan can be done in a stepwise fashion. Here are the 10 steps to get started making your own financial plan today:
1. Take a Self-Evaluation
One of the first steps to creating a financial plan is to assess your financial situation. The easiest way to get a true sense of your situation is to calculate your net worth. (Try Smart Money's Net Worth Calculator).
To calculate your net worth, first total your assets. Then, subtract all your liabilities from your assets. It usually makes sense to list all your assets and liabilities before you start this calculation. Here is a list of the following:
- Assets: An asset is the value of something you own. Here is a list of common assets: the cash in your savings account or checking account, short-term investments (CDs), car, retirement savings (401(k), Traditional IRA, Roth IRA), and other investments.
- Liabilities: A liability is the value you owe to someone else (a lender). Liabilities usually include unpaid bills, student loans, credit card debt, car loans, or mortgages.
Financial plans are engineered to increase net worth over time and look very different depending on your financial goals. For example, a financial plan for someone trying to pay off debt is quite different from one for someone trying to increase the size of their investments.
2. Determine Your Financial Goals
Now that you know your net worth, it is time to write down some financial goals. These goals will help you determine how to execute your plan tactically.
Creating financial goals should be fun and aspirational. Your goals are the rungs you must reach for, so making the process enjoyable will help with long-term goal achievement.
Here are some questions to ask yourself when making goals: What is my biggest financial issue? Do I want to be credit card debt-free? When do I want to pay off my student loans? Where do I want to be in 5 years? Where do I want to be in 10 years? Do I want to own my own home?
Filling out the answers to these questions will help you formulate a winning strategy. You can’t tackle all your goals at once, so prioritize what matters the most in the short term and keep marching toward your long-term goals in parallel. You can aim toward your financial goals while simultaneously avoiding the top 12 most common financial mistakes.
3. Create a Budget
Building a monthly and yearly budget is one of the fastest ways to reach your financial goals. That is why budgeting is an essential part of financial planning. There are a variety of budgeting systems that cater to different personalities.
Here is a list of different budgeting systems:
Budgeting is the process of tracking your income and expenses. A well-thought-out budget considers all your sources of income and accounts for all your expenses. When you create a budget, you will understand your monthly cash flow. Your cash flow will give you a clear picture of what area of your budget needs to be fixed. That could be curbing excessive spending or trying to increase your income.
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4. Reduce Your Debt
One of the fastest ways to increase your net worth is to pay off your debts and improve your debt-to-income (DTI) ratio. If you are struggling to pay off your credit cards, student loans, personal loans, or car notes, getting your debt under control is one of the first steps toward breaking the cycle of relying on debt. There are two schools of thought when it comes to paying down your debt:
- Snowball Method: The snowball debt repayment method advocates paying off debts with the smallest balance first, regardless of interest rate. The idea is that you will generate positive momentum by paying off balances that will carry you through paying off larger balances. Researchers have shown that the snowball method works best if you want to be debt-free.[1]
- Avalanche Method: The avalanche debt repayment method advocates paying off high-interest debt first. Tackling debt with the highest interest rate, regardless of balance, allows you to pay off the most expensive debt first. This method can be incredibly helpful to the super-disciplined.
Interest payments on high-interest debt can quickly balloon out of control. Credit cards, payday loans, title loans, and other high-interest debt can be disastrous for your budget. Get your debt under control quickly with a budget that works for you.
5. Create an Emergency Fund
One of the critical pillars of any financial plan, according to financial professionals, is a well-established safety net. That is where building an emergency fund comes into play.
An emergency fund is a savings fund where you store cash for a rainy day. The idea is that you leave these funds completely untouched until there is a true emergency (not covered by the proper insurance).
Personal finance experts argue that saving just $50 to $100 monthly can help cushion you from financial emergencies. These experts recommend saving at least $3,000 in an emergency fund. You can put these funds in a high-yield savings account to help your savings grow and earn interest income.
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6. Start Investing
Investing is not just for rich people. You don’t need much capital to get started investing today. All you must do is open an online brokerage account and start contributing as little as $100 a month. This will help you accumulate some cash to start investing. With time, you can build a meaningful investment portfolio to help you reach your financial goals.
What should you invest in? That depends on your risk appetite, timeline horizon, and overall goals with your investment account. If you are more conservative and want to invest in the broader stock market, you can invest in mutual funds, target-date funds, and index funds.
Alternatively, if your goal is to boost your income with a passive income stream, you can invest in income generating investments like dividend stocks, high-yield savings accounts, CDs, or bonds.
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7. Plan for Retirement
Saving for the future can be one of the more difficult tasks to accomplish in personal finance. You have competing priorities, things you want to buy, and events you would like to attend today. Why defer savings into the future? Planning well for retirement is one of those financial planning elements that helps people boost their confidence, financial security, and overall net worth.
There are many ways to begin saving for retirement, and you may already have access to some of these plans:
- 401(k) Plans are employer-sponsored accounts that allow you to save pre-tax dollars and receive employer matching contributions (which is free money) towards retirement to accelerate your retirement savings. Financial advisors advocate for savings as much as you can up to the 401(k) contribution limit for 2024, if possible. The 401(k)-contribution limit for the tax year 2024 is $23,000 ($30,500 for savers 50 and older).
- Traditional IRAs allow you to save pre-tax dollars toward retirement, although they are not employer-sponsored. You can set up a Traditional IRA with your online brokerage account. The contribution limit for the tax year 2024 is $7,000 ($8,000 for savers 50 and older).
- Roth IRAs are a bit different from 401(k)s and Traditional IRAs because with a Roth IRA, you contribute post-tax dollars. The good news is that you are not taxed on your earnings or retirement withdrawals from a Roth IRA. Like a Traditional IRA, you can set up a Roth IRA with your online brokerage account. The Roth IRA contribution limit for the tax year 2024 is $7,000 ($8,000 for savers 50 and older).
The key to saving for retirement is to start as soon as possible. The earlier you start, the less you must save due to compounding interest. By investing now, you can sit back and watch your retirement savings grow.
8. Develop a Tax Planning
Most people don't like dealing with the Internal Revenue Service. Unless it is tax filing season, taxes are the last thing anyone wants to think about. However, optimizing your investment portfolio and estate with tax planning can save you thousands of dollars. Some people even like filing their own taxes with the best online tax software.
Tax optimization does not have to be complicated. It can be as simple as taking advantage of refunds or deductions you didn’t know about. Tax optimization can also mean calibrating your take-home pay so you don’t receive a massive tax refund at the end of the year (because this means you paid too much in taxes throughout the year). Instead, you could use those funds throughout the year to invest in a high-yield savings account or high-yielding dividend stocks and generate a return.
Learn More: 7 Steps to File Your Own Taxes
9. Family Planning
If you are thinking about having children, financially planning for their arrival is a smart money move. Children are expensive. The average cost to raise one child from birth until they are 17 years old is well over $300,000.[2] This includes food, clothing, education, and much more. Once expenses are related to raising a child, it is hard to turn off the spigot.
Whether you want to have several children or only one, mapping out how you will afford each phase of their lives can help. Where are you going to send them to daycare? How much does that cost? Will you send them to public school or a more expensive parochial school? A financial plan can help you navigate these questions.
10. Life Planning
Financial planning is all about life planning. Designing the life you want to live and having your money support that vision should be your end goal. Lifestyle design is the pinnacle of financial planning. Adhering what you want to do – career, family, personal – to your financial plan will help you reach your life goals faster.
When to Create a Financial Plan?
You can create a financial plan at any time. The best time to create one is when you think you need one and are ready to take the time to contemplate your financial goals. If you are ready to manage your finances and get your money on track, that is the ideal time to create a financial plan.
Life milestones can also be ideal times to revisit your financial plan or make a new one. Here are some perfect events to catalyze creating your financial plan:
- Starting your first job or switching careers.
- Increase in income that positively affects your ability to pay off debt, save, or invest.
- Getting married and starting to plan your finances with your spouse.
- Starting a family and planning how to afford and adjust your lifestyle for raising children.
- Financial windfalls from inheritance, company acquisitions, or insurance payouts.
- Major unexpected health bills or taking time away from work to recover.
Advantages of a Financial Plan
There are many benefits to financial planning. Here is a list of advantages to consider:
- It spotlights areas in your financial ecosystem, both strengths and weaknesses.
- Financial planning helps you create short and long-term financial goals.
- It forces you to understand your monthly cash flow, including income and expenses.
- Financial planning assists with prioritizing and executing short-term goals.
- It helps you track progress and adjust your spending patterns.
- It increases the probability of you achieving your overall financial goals.
- Financial planning forces you to write down and reconcile past behaviors.
- A financial plan can be the roadmap to your definition of a rich life.
Smart Summary
No matter where you are financially, creating a financial plan is a smart money habit. Reviewing your financial plan at least annually will help align your progress with your current financial goals. A financial plan that mirrors your goals – increasing your investments, reducing debt, paying for a car, saving for a down payment – will help you meet your goals faster and more efficiently. You can create a financial plan or consult a financial advisor to help you get started.
Frequently Asked Questions
Financial planning allows you to create a roadmap for your future. Financial plans help you navigate times of uncertainty – rising inflation, economic booms, recessions – with more clarity. Putting pen to paper helps internalize your priorities, which can alleviate stress and anxiety about money.
You can create a financial plan yourself or consult with a financial advisor. Finance professionals usually have templates that help you think through various scenarios and map your priorities. This exercise is the starting point for your financial plan.
Your financial plan can be malleable based on where you are in life and any life milestones that come your way. These milestones could include buying a home, getting married, increasing income, or graduating college. Your financial plan should evolve with your priorities.
(1) University of Northwestern. Snowball Approach. Last Accessed January 20, 2025.
(2) Brookings Institute. It is Getting More Expensive to Raise Children. And the Government Isn’t Doing Much to Help. Last Accessed January 20, 2025.
