So you want to save money for a down payment on your first home, or for your children's college education. Or you are trying to build a nest egg for retirement.
Can you do it?
To find out, you need to create a personal financial plan. Such a plan will help you determine, among other things, if you are saving enough to meet your financial goals and if you need to adjust your spending.
"You have two options," says Roy Weitz, executive director of the American Assn. of Personal Financial Planners in Woodland Hills. "You can save or spend. If you spend your money on consumer goods that won't increase in value, the money is gone from your life forever."
Creating such a plan could cost you a few hundred dollars if you had a financial planner do it for you. Here, for free, are steps to begin creating the plan for yourself (if your household earns less than $25,000 a year, this plan may not apply to you because, realistically, you are not expected to be able to save very much):
1. Make a list of your goals. They could include buying a mountain retreat or a new pleasure boat. Rank them in order of importance to you.
2. Fill out the accompanying personal net worth sheet. It will give you a snapshot of your financial condition and help you determine whether you have enough money to meet your goals. It will tell you how much you are worth and can give you a fast reading on how you spend your money.
To prepare your net worth sheet, first look at your assets. They are divided into two categories: liquid and illiquid. Your liquid assets are cash and securities that can be converted quickly into cash, such as stocks, bonds, money market accounts and mutual funds.
Financial planners say you should have enough cash readily available in bank accounts or money market funds to cover between three to six months living expenses, in case of a financial emergency. This means that if your monthly expenses are $2,500, you should have at least $7,500 put away to get over tight spots, such as a job loss.
The fund can also be used for unplanned expenditures. For example, "if you see a $1,000 chest of drawers, you can buy it with the money set aside," says Roger Schwarz, a Los Angeles financial planner. But, Schwarz notes, be sure to replace the money.
Next, look at your illiquid investments, or those that aren't so easy to convert to cash. Your employer can tell you how much you have in your 401(k) account and other benefit plans. You'll have to do some checking to place a value on your other possessions. Look at real estate ads to estimate the value of your home. Auto ads might help indicate the value of your car.
Be careful not to overestimate the value of your possessions; you might not be able to get what they are worth if you had to sell them quickly to raise cash for an emergency. Weitz says he encourages clients to assess their valuables at whatever they would receive from Goodwill Industries.
"No one sells the furniture unless they are desperate," Weitz says. Putting too high a value on personal possessions, such as pianos or exercise equipment, "can make you think that you're better off than you really are," he says.
Now that you have a picture of your assets, take a look at the numbers. Financial planners say that liquid assets should be 15% to 50% of your total assets, depending on the size of your financial goals. This means that if your assets are worth $500,000, you should have at least $75,000 in cash and securities.
"Goals require cash or available cash," Weitz says. The money you need to meet your goals "does not come out of furniture, cars and toys."
Now it's time to take a look at your liabilities, or debts. First, add up your unpaid bills, including charge account balances, mortgage or rent payments, utility payments, tuition payments and medical bills. Next, add up the total amount of what you owe on loans, including mortgages, car and education loans.
Financial planners say your unpaid bills and outstanding loans should total no more than half your assets. If your debts are higher, you have too much debt and are probably finding it hard to save.
3. Fill out the accompanying cash flow statement. It will help you find out where you can reduce spending to save more money.
Start with your annual income and subtract all taxes--income, property and others--to get your after-tax income. The best place to find these numbers is on the income tax form you mailed to the Internal Revenue Service.
It's a little harder to trace your yearly expenses. "People know what they earn almost to the penny but have no idea how much they spend," Weitz says. "It's really an accounting problem."
Weitz and other financial planners suggest going through your checkbook and credit card statements to trace your expenses. Add up your cash withdrawals and try to allocate them among other expenses, such as entertainment, food or recreation.