Financial planning refers to preparing for your future financial needs. This can include saving for your health expenses when you are old, covering higher education expenses for a child, accumulating enough funds to buy your dream home, or simply reducing or getting rid of debt. Your financial life cycle is constantly evolving and is hardly ever the same. For instance, in your 20s, you may be more focused on clearing your student loan debt. At 30, you could be occupied with buying a house. Likewise, your 40s and 50s may be about saving for your children and your own retirement. As you grow old, your needs will change, and so will your responsibilities. Therefore, it is important to pursue financial life planning that caters to each of your life stages. If you need guidance on how to best prepare for your future financial needs and secure your financial future, consult with a professional financial advisor who can advise you on the same.
Your financial journey can be roughly divided into 5 stages of wealth planning based on your age. Each of these stages is unique and requires a specific financial plan. The success of the next step can depend on the performance of the first in more ways than one. Therefore, paying attention to each stage of the financial planning life cycle is crucial.
The 5 stages of financial planning are as follows:
1. Early career years:
When you just start working, things can seem a bit perplexing. For many people, the influx of funds and the minimal responsibilities can be a bit misleading. However, your early career years are perhaps the most important and one of the most critical life stages in financial planning. If you get this right, you can considerably reduce the financial burden in your later years. You can start by creating a budget and saving and investing your money consistently. If you start investing your money in your 20s, you can create an edge over others by several years. It is not important to save a lot of money in these years as your salary may be the lowest in your initial career years. However, what is more important is to be consistent. Even small investments made each month can compute to a lot thanks to the power of compounding that reinvests your profits along with the principal amount to increase your returns. At stage, you should focus on maximizing your savings and make sure that you invest these savings instead of leaving them idle in your bank.
The second thing to start at this time is your contribution to a company-sponsored retirement plan like the 401(k). The 401(k) is an employer-sponsored retirement plan that offers tax advantages. You can choose between the Roth and traditional 401(k), depending on your tax situation and systematically prepare for your retirement from a young age. The employer may also match your contribution in a 401(k), so you get to speed up the process of retirement savings. If your employer does not offer a 401(k), you can consider opening an Individual Retirement Account (IRA) with a bank, credit union, or broker. An IRA is a similar account as the 401(k) and offers two options, the Roth and traditional 401(k). As of 2022, you can contribute up to $20,500 per annum in a 401(k). For those over the age of 50, the limit is increased to $27,000 for the year. In the case of an IRA, you can contribute up to $6,000 if you are under the age of 50 and $7,000 if you are 50 years old or more.
The third thing you can do here is to prioritize paying your debt. A lot of people have student loans or are dependent on their credit cards when they are young and just starting out. If you identify with this, you may want to try to lower your dependency on debt and get rid of it before you advance to your 30s. There is a likelihood that you may need to take a loan to purchase your home eventually. So, for now, settling your previous debt and paying your credit card dues is essential. This will ensure that your credit score remains stable and you are not bombarded with multiple loan repayments at once at a later stage of life.
2. Mid-career or your career-building years:
This is the 2nd of the 5 stages of wealth planning and the one where you accumulate more wealth than you did before. Your mid-career years bring in more stability and higher income as you are more established as a professional. Your savings would increase during these years, and you may have more understanding of your life goals than you did before. However, you are also likely to have more financial responsibilities and liabilities. If you are married or have children, you may have to provide for your spouse or children. Hence, it is vital to maximize your savings and investment contributions at this time. If you are investing in a 401(k) or an IRA, make sure to meet the maximum contribution for the year. This may have been difficult in your early years, but not now.
Moreover, try to include other investments in your portfolio as your risk appetite would be relatively higher now. You can consider mutual funds, exchange-traded funds, direct equity, and others. Make sure that your portfolio is well-diversified so you are able to reduce risk and maximize your profits. This is also a time to consider individual savings for different members of your family. For instance, a 529 savings account for your children and health insurance for your family. Additionally, it is critical to have an emergency reserve for unexpected expenses too.
3. Pre-retirement years:
The years leading to your retirement are known as the pre-retirement years. This could be at least ten years before you retire. Financial life planning at this stage is more about capital preservation than capital appreciation. Your risk appetite will drastically reduce in these years as you move closer to your retirement age. Taking on risk may be unadvised as it can be hard to undo or cover the losses in a limited span of time. So, try to concentrate on factors, such as preserving your profits, tax planning, withdrawal strategies, and more. However, do not forget to maximize your retirement contributions to plans like the 401(k) and IRA. You may be over 50 now and can take advantage of the catch-up contributions, too. Catch up contributions can significantly enhance your retirement corpus in a short amount of time. So, do not ignore their potential. Additionally, you can start planning your estate. You would have several assets to your name, such as jewelry, investments, real estate, collectibles, etc. You would also have children or other beneficiaries. So, drafting an estate plan that clearly states your will is essential.
Your retirement can be a complex life stage as your sources of income reduce. Your health also declines, and you may no longer have time or the physical capability to work and earn more money. Therefore, entering this phase with debt is strongly unadvised. Debt can erode your savings and make it hard to make ends meet. If you have any ongoing loans or credit card debt, try to pay it off in these years. Carrying your debt into retirement can drastically alter your lifestyle and goals in retirement.
4. Early retirement years:
This financial life cycle can be very different from others. When you retire, many things change. Your routine alters, your responsibilities change, and your salary stops coming in. you now have a limited pool of savings that you have to survive on. Therefore, it is crucial to plan your withdrawals well in advance. Without proper planning, you risk running out of funds in retirement. This can be detrimental for your later years. So, try to be as prudent with your money as you can during these years. Seeing your life’s savings all at once may be a bit misleading. This is why many retirees get carried away and live their later years with minimal means. So, create a practical and realistic withdrawal strategy for your retirement savings. When you do so, also assess your tax situation. A financial advisor can help you with both, so you do not end up losing a big chunk of your money to taxes.
In addition to this, you can pay attention to your estate plan again. By now, your children will be older, and you will have a better idea of their capabilities and choices. You can talk to them about your will and create an estate plan accordingly. This is also an excellent time to consider trusts, pick guardians, create the power of attorneys, and design health directives. As you grow older, your estate may need these for protection.
A lot of people assume that retirement is not a time for investment. However, such a presumption can significantly hurt your finances. Retirement may not be the time for high-risk, aggressive investments. However, it may still require some investments. If you retire at the age of 65 and live up to the age of 85, you still have 20 years ahead of you. These 20 years will present the same challenges as before, such as inflation, changing financial needs, rising health issues, and more. So, instead of halting your investments completely, you can consider investing in low-risk options like bonds, and more. These can offer stable returns at a low-risk and ensure that your money grows instead of lying idle.
5. Later retirement years:
This is the last of the 5 stages of financial planning. The later part of your retirement years constitutes your older years. Your health concerns may be high here, so having a health insurance policy, a long-term care plan, and a critical illness insurance plan is vital. These years may also be emotionally challenging. Therefore, it is essential to pay attention to not just your finances but also your physical and mental health. This is a great time to socialize with your loved ones like friends and family and be active. You can travel, pursue hobbies, and do much more to stay active and fit. Make sure that you plan your finances in a manner that you have enough funds at this time to do the things you love.
If your health deteriorates at this time, you can consider assisted living options. You may even need round the clock long-term care. So, maintain enough liquid funds at this stage that you can comfortably afford these costs. It is also advised to update your estate plan and ensure it reflects your latest goals and wants.
Finally, tax on your pension withdrawals, social security benefits, and other investment returns would still be a cause of concern at this stage. You can work with a financial advisor to devise a tax strategy that helps you lower your taxability. You can also use lifetime gift tax exemptions to pass on some of your estate to your children at this time. In 2022, the lifetime gift tax exemption is $12.06 million for single tax filers and $24.12 million for married couples filing taxes jointly. You can use these measures to lower tax not just for yourself but also for your beneficiaries.
The five steps to financial success, as mentioned above, can ensure a financially secure life. While there is a lot that goes in between these steps, as long as you pay heed to each of these, you can be on the right track. Remember to be consistent at each stage and modify your financial plan with time. As you grow old, times will change, newer investment avenues will emerge, and the market will go through ups and downs. Being up to date and educating yourself of these changes can help you in several ways. Additionally, it can also be beneficial to take professional help from time to time to ensure you are not making any mistakes along the way. Professional assistance may seem like an expense but can actually be an asset for your future. So, consider hiring a financial advisor for success with the 5 stages of financial planning.
[Read: Importance of Personal Financial Planning]
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About Dash Investments
Dash Investments is privately owned by Jonathan Dash and is an independent investment advisory firm, managing private client accounts for individuals and families across America. As a Registered Investment Advisor (RIA) firm with the SEC, they are fiduciaries who put clients’ interests ahead of everything else.
Dash Investments offers a full range of investment advisory and financial services, which are tailored to each client’s unique needs providing institutional-caliber money management services that are based upon a solid, proven research approach. Additionally, each client receives comprehensive financial planning to ensure they are moving toward their financial goals.
CEO & Chief Investment Officer Jonathan Dash has been profiled by The Wall Street Journal, Barron’s, and CNBC as a leader in the investment industry with a track record of creating value for his firm’s clients.