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7 Deadly Sins of Personal Finance: Don’t Plan For the Future

Hot on the heels of a pretty bad sin yesterday, Failing to Budget [3], comes its brother in arms – failing to plan for the future.

The basic “plan” in life is fairly straight-forward and well documented. You grow up, you go to school, you get a job, you retire, and then you die. When you’re in one phase, you’re hopefully enjoy that phase but also planning for the next one. While the specifics will differ from person to person (some people get married and start a family, some get married and don’t have children, some never get married, some enter domestic partnerships, common law, the list could go on forever), the general phases are the same for everyone. This leads to the third Deadly Sin of Personal Finance:

Failing to Financially Plan For the Future

There’s a well known phrase in the working world (and I’m paraphrasing I think): “Don’t dress for the job you have, dress for the one you want.” The difference between dressing yourself in the morning and planning for your financial future is that planning benefits from the amazing and magical powers of compound interest. In general, the earlier you plan for something, the easier it will be to accomplish. If you have to save twenty thousand dollars for a down payment on a house, it’s easier to save it over five years than it is over two.

How do you plan for the future? This is actually quite easy and people often fail to do it in the first place, rather than fail at doing it. A technique we used was to draw a time-line and attempt to estimate the major milestones in your life along with any associated financial needs. MBA students probably recognize it as some form of a cash flow graph, except all the cash flows out. (MBA answer: don’t have kids [4], not a sound investment!) Here’s an example:

Fictitious BFP Long Term Plan

That’s not our financial plan, I just made something up for an example but if it were our plan, it suffers from two failures immediately. First, I wrote up that financial plan in about five minutes without any research on the numbers used. Second, I did it without talking with my wife (which means it’s not really our plan). While better than nothing, it’s not ideal because it should be our plan (plus the plan includes kids, which is difficult to do by yourself).

The plan itself is sparse but it does capture two salient details about the next phase in our life:

Starting a family is the first part of the plan. You need some up front money saved up for the medical bills and needs of the pregnancy and a new baby (times three) and you’ll need to start saving up for college, if your kid is going. By pegging the birth of the first child to be three years in the future, you establish a three year window to save for the first child, a five year window for the second, and a seven year window for the third.

Retirement, thirty five years away, is broken up into four milestones. Retirement milestone one is to have $1M in retirement assets by 2017. The second milestone is five years later with $2M and then $3M saved up by 2027. The last two million would be accumulated over the next 15 years because those savings will hampered by college costs.

Conflicting Needs

Therein lies the importance of financially planning for the future. Without putting together this time line, it would not be as obvious that 20-30 years from now our savings rate will invariably decrease significantly because of college costs. By putting everything on one page, you can see the interactions of the different needs and that’s why planning is so important.

Go easy on me with this “plan,” 🙂 it’s by no means comprehensive (or accurate), the numbers are all made up out of thin air and it’s really meant as an example of a start. Within a few more hours of refinement, especially with the financial details (and discussions with all interested parties), I think it could become a very useful and accurate plan.