One reason people seek financial planning is to figure out how they are doing relative to their goals. People often ask us where the stand compared to their peers, and what they can do to improve the situation. Particularly in times like these, when there is sharp increase in unemployment, prospective clients want to know what the most important steps are to reaching financial independence.
First and foremost, stay out of debt. If you are already saddled with debt, make a plan to pay it off. Debt is insidious and eats away at wealth. Cash flow that could be saved or invested must be used to service the debt. A friend of mine recently won his battle with debt. One day I was admiring his circular saw. He said, “Thanks. I paid for it for three years.” Compound interest is a force, and you want it to work for you, not against you.
Of course, not all debt is bad. A mortgage, for example, is offset by a specific asset, and you generally expect that asset to appreciate over time. Maintaining a good credit score may help lower your borrowing costs when you do need to use debt financing. Having an emergency fund can help to you to stay out of debt when unexpected expenses pop up.
If you find yourself in debt, don’t despair and don’t ignore the problem. Organize your debts and rank them by interest rate, monthly payment and balance. Start by paying off the highest interest rate debt first. Pay the minimums on the rest. As each account gets paid off, add what you would have paid to the next liability on your list. Take them on one at a time. Set goals and celebrate when you reach a milestone.
The next important topic is investing regularly and systematically. One way to build wealth is to take a little bit out of each paycheck and invest it. Employer-sponsored qualified plans such as 401ks are a great way to do this and may offer tax advantages and employer matching. However, even if you don’t have a qualified plan, you can arrange to have money taken directly from your bank account and added to investments on a regular basis. The average person earns $2.7 million over their lifetime. (Source: US Census Bureau) Systematic investing can help you to keep more of that.
Another important step is to invest in equities, like stocks, stock mutual funds and ETFs. Historically, equity investments have out-performed other investment classes over the long-run. Since 1926, large-company stocks have averaged 10.2% returns annually, while government bonds have only averaged 5.5% annually over the same timeframe. (Source: Ibbotson) Like all investments, equities carry risk and past performance may not predict future returns. In addition, equity investments should be part of your overall investment plan. Your age, income level, time horizon and risk tolerance are all factors to consider in formulating your investment and asset allocation plan.
The bottom line to these important topics is that you want your money to earn the highest return compatible with your goals and tolerances and pay out the least in interest that you can. Both of these things may help you to build wealth over the long term.
To hear the podcast of the Smart Money Management radio show on this topic, or others, go to our website at alderferbergen.com.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
Alderfer Bergen & Co. and LPL Financial do not provide tax, legal or accounting advice. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.
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