This post is part of the textbook personal finance series which covers basic personal finance skills by going through an actual textbook, chapter-by-chapter. Check out the intro post for more information.

Every day we make financial decisions with consequences. The more prepared we are to make those decisions, the better. Good preparation has two parts. First, we have to know our current circumstances. Second, we have to know our overall plan and our goals for the future.

The textbook suggests six steps for coming up with a plan for your finances.

1. Determine Your Current Financial Situation

To determine your current financial situation, you need to list all your debts/obligations, your income, and your savings/investment. Information you’ll need includes:

  1. A list of your savings accounts and sum of your savings.
  2. A list of all debts and their interest rates.
  3. A list of investing accounts and an estimate of your investments.
  4. A list of all your income sources and your guaranteed monthly income (provided you keep your job).
  5. A figure of how much is being spent each month and where it’s going.

2. Determine Your Financial Goals

A dozen people in identical financial situations may have widely disparate goals which lead to different courses of action. Maybe you’re saving up to have a child or adopt. Maybe you want to buy a house within 5 years. Perhaps your main goal is to get rid of all debt. Or you want to retire early. Or start a business. You know better than anyone what will make your life better–though it’s not a bad idea to consult with friends about goals.

It’s likely that you’ll have multiple goals, some long-term and some short-term. Write them all down, decide which ones matter most (and which are compatible), and then prioritize. For example, you may want to pay off your student loans and save for retirement. Because student loans charge interest, you decide to put them at a higher priority.

Consider using my free [download#14#nohits] to track your financial goals and break them down into smaller, achievable goals.

3. Identify Alternative Courses of Action

Now that you’ve got a clear view of where you are and where you want to be, it’s time to plan how you’re going to get from there to here. Taking the example of paying off student loans and saving for retirement, you may decide to put 2/3 of the money you allotted to financial goals towards your student loans and put the other 1/3 toward retirement. Or you may choose to get a full employee match for your retirement (whether it’s more or less than 1/3 of the discretionary money) and use the rest to pay down loads.

The textbook reminds us to consider creative alternatives. What they consider creative is pretty standard stuff on personal finance blogs, but I’ll throw out some of the suggestions anyway. Carpool or downsize to one car. Take a second job or do freelance work to achieve your goals faster.

One alternative, of course, is to do nothing at all.

4. Evaluate the Alternatives

Again, this seems a little obvious. If you’ve identified alternatives, you have to choose one. The book suggests weighing them and seeing how to best achieve all your goals. Consider the consequences and the opportunity costs. Evaluate the various risks of each course of action. Consult with the people whom your choices will affect.

There is rarely a reason to make a snap decision about your financial future. Do consider your options. At the same time, remember that making no decision is, essentially, making a decision not to change. So don’t put it off indefinitely as you weight the same choices over and over. As we learned with opportunity costs, there is always a trade-off.

5. Create and Implement Your Financial Action Plan

This is a whole series of posts itself. But, in essence, it is the implementation of the alternatives you chose in step 4.

6. Review and Revise Your Plan.

Goals change. Situations change. Alternatives change. Besides staying on top of your progress, review steps one through three periodically. An annual review is a good way to re-assess your needs and plan. If it’s not working, if you’re in a different place financially, then it’s time to revise the plan.


Ken January 31, 2010 at 4:00 pm

We have done #1 and are working on number wife wrote down her version of our goals and I’m going to get it out and see where we agree or disagree. We definitely need to agree…without agreement you get nowhere. Even though this is from a textbook it is good stuff.
.-= Ken´s last blog ..Weekend Roundup =-.

Rich | Life Compass February 16, 2010 at 12:42 pm

Great post. Love how you laid out the process so simply. If you replace the word “financial” with “life”, you can create your own life plan.

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