How to get financially fit and start investing: Part One

19 May 2020

Are you financially fit? Creating wealth through investing starts with a solid financial plan. In this two-part series, Financial Advisor Ben Brett from Bounce Financial explains:
  1. How you can get your finances financially fit by structuring and automating your budget; and
  2. The steps you can take to start investing using your newfound financial fitness.

Getting the foundations right

For most people, the time we dedicate to earning a living is astronomical. Once you consider the process of preparing for work, the commute, the actual work and finally, the overtime, it is clear that the thing we spend the most time on in life is earning an income.

What seems to surprise me the most about this, is even though we spend such a large portion of our lives earning money, we spend an extraordinarily small amount of time planning what to do with that money.

The three areas in developing your financial plan

In my experience, when people make a financial plan, they tend to miss a lot of crucial steps. In approaching a financial plan, I like to break it down into three areas:

  • Current You
  • Medium Term You; and
  • Future You

Current You

What does your life cost to live right now?

‘Current You’ reflects your day to day costs. When I am talking about ‘Current You’, I’m referring to what is usually called a budget.

The first step is to determine how much your life costs to live over an entire year right now. This may take a little work but it is relatively easy to do as you can look back through your bank transactions to make sure you are correct. Some things I often see forgotten include:

  • Gifts (including Christmas gifts)
  • Medical expenses
  • Charity donations
  • Uber/Taxi
  • Vet costs

Once you’ve worked out how much your life has cost over an entire year, you have your ‘life number’.

Am I spending too much?

Once you’ve worked out your life number, you can work out whether you are spending too much by doing the following calculation:

Image with text saying "your combined yearly income (after tax) minus your life number

If the result of this calculation is a positive number i.e. you are spending less than you are earning, then you are on the right track. Otherwise, you are going to need to take action straight away.

This is also a useful step for determining whether you’ve missed something in your budget. If this calculation says that you should be saving $10,000 per year but you have no savings, then it’s time to review the budget again as you’ve clearly missed something.

How much should I reduce my expenses?

Most people seem to try and remove expenses from their lifestyle without a clear goal in mind for that money. This is usually driven by the view that they are spending too much and that they should simply spend less. But that’s not how I look at this.

Your lifestyle is important. Life is meant to be lived and whilst planning for the future is vital, if it makes you miserable today, not only is that not enjoyable, you are not going to stick to it.

If you are going to reduce your expenses, I encourage you to start slow. List the discretionary expenses you have and rank them in order of importance. From there work out which ones you could reduce.

Identify whether there are any expenses you could reduce which won’t affect your lifestyle. Could you get a cheaper car insurance policy? Could you change electricity providers? Anywhere you can save money but preserve your lifestyle is a massive win.

Finally, once you’ve worked out how much you can reduce your expenses, make a plan for how you will eventually spend that additional saved money. Maybe you want to take a large holiday? Maybe you want to pay for private school for your kids? Maybe you want to start an investment portfolio? Having a plan for that additional money will mean that you are more likely to stick to this new budget.

Automate your finances

Once you’ve worked out your new ‘life number’, you are going to need a plan to help you stick to that budget. Automating your finances is a great place to start.

The first step is to set up separate accounts. At the very least, I recommend setting up a ‘bills account’ and a ‘fun spending money account’. The key is separating out the money you can spend on fun things from the money you are going to need to pay for your lifestyle costs.

You can set up ‘specialty accounts’ to address your unique areas like a holiday fund or clothes fund. You may also want to set up an investment account and use this as your ‘specialty account’ depending on your goals.

Finally, you need to track how you are spending compared with your plan. You can easily track your finances using either an app or an excel spreadsheet. Again, this takes some work but means that you can be confident you are tracking your plan.

Medium Term You

Remember that calculation you did above to work out your savings capacity? Well now is the time to think about how you are going to use it!

This can be the exciting part of coming up with a financial plan but there is one more task you need to complete. You now need to pay down all of your consumer debt.

Any credit cards, personal loans, or car loans need to be paid off before you can start putting this money to good use. Having savings isn’t helpful when you still have this debt.

If the process of paying it down will mean that you can’t achieve your future goals, there are two options you have:

  1. You can reduce your lifestyle expenses in the short-term even more to pay this off quicker; or
  2. You can change your goals.

Once you’ve paid off all of your consumer debt however, the options are endless. You may want to put this extra money onto your home loan to pay it off quicker, you may want to start investing for future goals or you may simply want to put this into a separate bank account and use it for a more short-term goal.

The focus on this part of your financial plan is knowing how much you can save and have a plan for that money so that it doesn’t get eaten up by lifestyle costs.

In part two of this article, I’ll explain how you go about investing this money and some of the options available to you.

Future You

Each week, your employer sends 9.5% of your salary to a super fund to be invested on your behalf. That’s a huge portion of your income that’s invested and will eventually make up a significant amount of your wealth.

Having a plan for how much additional you contribute, how that money is invested, and what fees you are paying to invest that money is very important to consider.

But what if you have future goals that aren’t just retirement? This is where you need to start planning for ‘Future You’. By coming up with a plan and investing some of your surplus income to ‘Future You’, you can ensure that you’ll achieve your goals and live life on your own terms.

The benefit of this is you have time on your hands, which means a little bit invested over a long time could have a big impact. In my experience, people are too optimistic that things will be better in the future. If you don’t make a plan for the future, it will look exactly like your life so far.

Getting financially fit

When it comes to fitness goals like weight loss or muscle gain, nobody achieves them overnight. They are achieved by coming up with a realistic plan which you stick to over the long-term. A financial plan is exactly the same.

By coming up with a plan not just for ‘Current You’ but ‘Medium Term You’ and ‘Future You’, you are investing in yourself and setting yourself up for success all throughout your life.

Should I now invest?

In part two of this article, I’ll explain how you can set up your investments to address ‘Medium Term You’ and ‘Future You’.

Author profile image About Ben Brett

Brisbane financial planner, Ben Brett of Bounce Financial specialises in providing financial advice to young professionals who have bought their first home and are wondering what comes next.

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