On a whole, I'm not entirely a fan of spending a lot of time with financial projections. I agree, they can paint a useful picture but I'm not sure they should be relied upon. What I would say, however, is that any time you want to use financial projections, make them as conservative as possible. The last thing you want to do is find out that you don't have enough money because your investments didn't grow at the expected 8% per year. I'm not saying 8% as a long-term return objective isn't reasonable but would you bet your life savings on it? I'm not sure I would.
I'm going to try my first attachment in this post as well, so you can get an idea of what my financial plan would look like. Yes, it's simple. It should be. I am going assume that my investments grow by 5% per year because that's the level of income I can get right now, without assuming too much risk. No, government bonds don't pay it but good corporate bonds and preferred shares do. I'm turning 32 this year so I'll actually have all my money in stocks anyway, but I'm still gonna stick with my 5% long-term return forecast. Most of my clients have been able to maintain this average over the past ten years (even despite what happened in the past few years) so I'm comfortable with that going forward.
In my opinion, you need two things for your plan;
1) A good income statement. This should tell you exactly what all of your sources of income are in a year (after tax), and what all of your expenses are as well (this should also be an after-deduction number, for those of us lucky enough to write off certain things against our income). If you're not exactly sure what your tax rate is, here is a quick and easy calculator to give you a ballpark amount. http://lsminsurance.ca/calculators/canada/income-tax (no idea how I got the thing to properly link this time).
I can't get a file to link, so here's an example of an income statement:
I've got my income sources and then my expenses. If I subtract the expenses from the income, that's what's left over for either saving or spending. If you do this exercise and you find that you are spending more than you are saving already, then it's time to make some lifestyle changes. Be sure to include everything you can think of. You're only cheating yourself if you leave out certain expenses. A good way to get an idea is to check your past few months worth of credit card bills or bank statements. They will quickly give you an accurate picture of what you're spending your money on.
2) A good balance sheet. This should show you what you own (assets) and what you owe (liabilities). Subtract your liabilities from your assets and you get your net worth. Hint: if your net worth is a negative number, you need to keep working. Here is a very basic balance sheet:
As you can see, this family has a nice cushion. They do have some debt but they also have some good assets, which gives them a net worth of $429,000 (assets minus liabilities).
You'd be surprised how you'll feel about your financial picture once you do these two exercises. Then, if you're feeling confident with excel, you can actually add another column so that you can include the interest rates that you are either earning from your assets or owing from your liabilities.
This paints a picture. For this example, the family only has $1,000 worth of credit card debt but is still paying $180 of interest per year. My advice on this issue could not be clearer: do not have ONE CENT of credit card debt. I understand that debt is a part of life but look at that interest rate! Be sure to pay off your credit card at all times and if you need to carry some debt, use a line of credit. The rates are much lower. Assuming the above rates, on $10,000 of credit card debt, you are paying $1,800 of interest each year. Move that debt over to your line of credit and your interest payments drop to $350. That's a $1,450 savings just for being smart.
My only other thought here is the car. They are a depreciating asset (they go down in value over time), which means that we should look at our cars as an asset as well as an expense, even if we don't have any car payments to make. Because eventually, our cars break down and we will need a new one. We might as well plan for this over time, especially if we are thinking about retiring. That's why I've put it in as a loss, using 20% as my depreciation rate. In theory, if I drove new cars each year and made no money on my investments, my balance sheet would deteriorate because of the depreciation. The moral of the story is to keep this in mind when checking out cars; don't spend what you consider to be a lot of money on something that will eventually be worthless.
In Retirement
When you retire, my advice would be to have no debt. You want to be getting paid in your retirement and not worrying about paying anyone else. Your 'rates' column should be working for you as much as possible.
Also, when you retire, you will add your retirement income to your income statement. It might come from a pension or from your Registered accounts. Either way, it is what is replacing your employment income.
Wondering about how much you will need to retire? Look at how much you are spending each year right now, compared to how much your investments could make you, assuming 5%. If your investments can make you enough today (including pension income, etc.) that you could live off the income without touching the capital, then you can probably start thinking about it! Congratulations. Your income statement is in the black and your balance sheet isn't shrinking! You are looking good for retirement. You might even gross up your retirement spending by some amount, because you'll have a lot more free time for trips, golf, etc. Just keep this in mind when planning.
If you don't have enough money to live off of yet, you will need to keep working or adjust your spending habits. My advice would be to do the latter before you retire, just to make sure you are being realistic at whatever spending limits you are setting for yourself.
That's it for now. Please feel free to fire me any questions on this. If you want, I can also send you the spreadsheet. Excel is a handy tool for this type of thing and is surprisingly easy to use.
Cheers.
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