Do you have a financial destination?
“If you don’t know where you’re going, you’ll end up someplace else.” – Yogi Berra
Several years ago, I heard Jim Rohn speak at a motivational event in Toronto. He shared a lot of great information during his time on stage but one particular analogy has stuck with me, and it’s one that I often circle back to and share with others. Early on in his presentation, Jim likened our journey through life to a boat voyage. He pointed out that each of us is in our own boat and that, five years from now, we will arrive somewhere. Where we end up will vary greatly from person to person because we are each in charge of navigating our own journey. Some of us will choose to drift with the tides; leaving our destination to chance and running the risk that, 5 years from now, we will be bobbing in the same spot. Others of us will choose to select a destination, chart a course and set our sails to catch the winds that will take us there. The choice is ours; we just need to decide how involved we want to be on our journey.
When I look back on my own life, I can see that there were many times where I set a course and many times where I drifted. There were times when unexpected storms sent me in unplanned directions and times when it felt like my journey consisted of repeating the same circular route over and over again. However, I know that I always feel more stable and much happier when I’m following a plan than when I’m drifting with the tides, and that knowing where I’m heading and what I need to do to get there is a powerful motivator for me. This is one of the main reasons why I’m so passionate about goal setting because it forces me to move forward, even when my lazy side would much rather drift along!
Related article: Setting financial goals and priorities
One of the most common questions I’m asked in individual planning meetings is, “Am I on the right track?” Most people know that it makes sense to save and keep consumer debt levels as low as possible but often they have no idea what the consequences of their current actions will be. Their sails are set and they’re moving, but they’re not entirely sure where they’re heading, whether it’s anywhere they actually want to go or how long it will take to get there.
Related article: How am I doing financially?
Having a clear idea of where you want your destination to be is an essential component of financial planning. Whether you’re setting short-term or long-term goals, it’s critically important to have a clear idea of what you’re trying to achieve and then to formulate a realistic plan to get yourself to your goal.
Whether you’re saving for a vacation, a new home, a renovation or retirement, the planning process is the same: identify the goal; understand what it will take to achieve it; create an action plan to get you there and then execute the plan.
In January, Penny decides that she would like to go to Hawaii on vacation. She researches the cost of flights, accommodations, excursions, etc. and estimates that her dream vacation will cost her $8,000. She decides that she can afford to commit $500/pay ($1000/mth) to her goal and, knowing that it will take her 8 months to save, she sets the goal of going to Hawaii in December of that year. Penny sets up automatic payments of $500/pay to her TFSA and by May, she has saved enough to book flights and accommodations. By October, she has enough saved to pre-pay for excursions, car rental and cover her spending money. In December, she hops on to a plane and heads off to Hawaii for a week of sunshine and adventure that’s fully paid for. Mission accomplished!
Even though the process is the same for short-term and long-term goals, the problem is that often people are executing a plan (saving for retirement, a down-payment, to pay down debt, etc.) without knowing whether their actions will actually take them to their goal or how long it will take them to get there.
If you’d like to know where your current savings plan will take you, there are a number of online investment calculators that will give you a pretty good idea. One that I like is http://www.getsmarteraboutmoney.ca/tools-and-calculators/compound-interest-calculator/compound-interest-calculator.aspx – it’s simple to use and the website is packed with useful tools and information.
To use the calculator, all you need to do is put in the amount you currently have saved, the amount you’re saving each month, the average interest rate you expect to earn and the number of years you’re going to save for, then hit “calculate”. If the number you get isn’t the number you’d like, then experiment with a longer savings term or a higher savings amount to see what the impact will be.
NOTE: When using the investment calculator, it can be tempting to simply increase the annual interest rate in order to get the result you want. However, this is a dangerous game to play because investment returns can vary wildly over time and it can leave you with a false sense of security. When I run calculations like this, I typically run them with a 3%, 5% and 7% annual return. The three numbers give me a good indication of the highs and the lows of what I’m likely to achieve and if I don’t like the lowest number then I know I have to save more. I’ve met enough people in their 50s whose whole retirement plan hinges on them achieving an average of 7-10% returns over the next 10-15 years, to know that it always makes sense to contribute as much as you can when it comes to saving for your financial goals and not to assume that high returns will compensate for a lower savings rate. It rarely works out that way.
Related article: What rate of return should you use for your plan?
In our world of instant gratification and delayed consequences, it sometimes feels as though goals and action plans are less relevant and almost unnecessary. However, I’d argue the opposite: in a world where there are so many financial distractions, and so many opportunities for our hard-earned money to “drift” away and become spontaneous purchases or repayments on long-forgotten items, it is more important than ever to understand how our actions (and our inactions) today can impact our lives a year, 5 years, 10 years or 30 years from now. If we understand the impact, we can make the necessary adjustments to avoid being stuck in a less than desirable destination.
Do you have a financial destination for yourself fora year from now? How about 3 years? 10 years? 25 years from now? Do you have a plan to get there? Will it work? What could you do this week that will increase your chances of getting to your financial destination?