Imagine traveling by plane from Tripoli, on the Libyan coast, west of Cairo, Egypt. Suddenly your plane crashes in the Sahara Desert. You miraculously survive. You take care of the immediate problems: food, shelter and help for the wounded. What do you do after?
I like to tell this story to introduce people to the idea of creating a financial plan, but when I ask the question “What do you do next?” I rarely have an answer. So what should you do next? Find out where you are. You need to know your location. If Cairo is now north of you, what if you start heading east? You will never reach your destination.
When you create a financial plan, you have to answer the same question: where are you? Where are you now financially and where do you want to go? What is your retirement goal and how much money do you need to reach it?
Once you’ve figured out where you are at, both with desert survival and financial plans, you need to see if you have anything that can help you reach your destination. If you are in the Sahara Desert, you should look for some kind of transport vehicle. If you are creating a financial plan, you need to consider all of your potential sources of non-investment income. Are you going to receive a pension? How much Social Security will you receive? Will your family give you financial gifts? Once you have all the numbers in front of you, add them up.
The next step in creating a financial plan is figuring out your spending. How much will it cost you to live after retirement? How much for groceries, utilities and property taxes? For insurance premiums? Just to have fun? Add up all of your expenses (except income taxes). This total will be your expected cost of living.
Now subtract this cost of living number from the total sum of your non-investment income. If you end up with a positive number, you are golden. Congratulations. You don’t even need investments; you can live on what you have. On the other hand, if there is a deficit (if your total is less than zero), you must make up the difference. You need to create a financial plan designed to help you use your savings and investment income to reach your retirement goal.
By determining where you are, where you want to be, and what resources you have, you should be able to reach your retirement destination or maybe even cross the Sahara Desert.