Create Your Own Financial Plan
Source: Federal Reserve Bank of Dallas, Web: www.dallasfed.org/htm/wealth/intro.html .
Determine Your Net Worth
Add up the value of all your assets, including bank accounts, stocks and bonds, retirement plans, the market value of a home, car, and other property.
Next, total your liabilities, or debts, including a home mortgage, credit card balances, auto or student loans, and any major unpaid bills.
Subtract the liabilities from the assets. This is what you are worth. A high income does not necessarily mean a large net worth. A person with a high income who spends everything is not getting wealthier, just enjoying an affluent lifestyle.
To create a budget, look through your checkbook and determine your monthly expenses. Record of what you spend each day, including small amounts, which add up over time.
Having money deducted automatically from your paycheck or savings account makes saving easier. Base your budget on the remainder.
Set financial goals. What are you saving money for? Paying off credit card debt, meeting college expenses, making a down payment on a house are examples of financial goals.
Consult a financial planner, join an investment club, read financial publications, or do research on the Internet. When making investment decisions, consider how soon you will need your money, how much risk you can tolerate, and the anticipated inflation rate.
Savings accounts earn interest with no risk, since the FDIC insures deposits up to $100,000. Money market savings accounts earn interest and may allow check writing. A CD (certificate of deposit) offers higher interest, but you must leave the deposit in the account for a specified period of time.
Owning shares of stock in a corporation makes you an owner of that company. Stockholders can make money in two ways. The firm may pay a dividend to stockholders. If the stock increases in value, it could be sold at a profit. There is no guarantee of either.
When you buy a bond from a corporation, municipality, or government agency, the issuer promises to repay the value of the bond, plus interest, at a specific time. Firms such as Standard & Poor's and Moody's Investor Services rate bonds based on the credit worthiness of the issuer. The lower the risk, the lower interest rate you can expect to earn.
Treasury Bonds, Bills, and Notes
Bonds backed by the federal government are issued by the Treasury Department. Bills mature in three months, six months, or one year. Notes mature from 2 to 10 years, while bonds have terms of 10 years or more. Bonds, bills, and notes can all be sold prior to their maturity dates.
Savings bonds are also issued and backed by the federal government. But unlike treasury bonds they cannot be sold. Savings bonds are offered in denominations from $50 to $10,000. Different types of bonds have slightly different features. In most cases they offer tax advantages.
A mutual fund owns shares in a number of companies to reduce risk. An indexed fund owns stock in all the companies listed in a particular index, such as the Dow Jones Industrial Average or Standard & Poor's 500 Index. In an actively managed fund, the managers pick the stocks the fund will invest in. In either case, individual investors are relieved of the responsibility of having to decide what stocks to buy.
Individual Retirement Accounts
An individual retirement account (IRA) is a tax-deferred retirement plan. You receive a tax-benefit for your contributions, provided you are not already covered by a retirement plan and your income is below a certain level. You pay taxes when the money is withdrawn, at age 591/2 or older.
A Roth IRA works the other way around. You receive no tax benefit for contributions made while you are working, but the money is tax-free when you withdraw it at age 591/2 or later.
An education IRA allows parents or grandparents to save for the education expenses of a child under 18 years old. The contributions are not tax deductible, but the withdrawals are tax-free as long as they are used for qualified education-related expenses.
Other Retirement Plans
A Keogh plan allows self-employed people to set aside for retirement up to $30,000 or 25% of their income whichever is lower. A 401K lets employees contribute pre-tax dollars to a tax-deferred investment plan. Employers often match a portion of the employee's contribution.
Starting Your Own Business
Owning a small business can be a worthwhile investment provided you are willing to put the time and energy into the venture. But it is risky; most small businesses fail within five years.
Real estate has risen dramatically in value in many areas of the country in recent years, generally making home ownership a good investment. Owning rental property can also be profitable. However, owning and managing rental property can be a lot of work. It can also be costly, since property must be maintained. Those considering rental property as an investment should get plenty of advice before they make their decision.
Art, coins, antiques, and other collectibles may gain value over time, but the money invested in them is not earning interest. Because of the speculative nature of the market, only those with expert knowledge should consider investing in collectibles.
NOTE: Most of the information in this article was taken from the booklet, “Building Wealth: A Beginner's Guide to Securing Your Financial Future,” produced by the Federal Reserve Banks of Dallas.
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