Personal Financial Planning

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Personal Financial Planning

• H. Swint Friday, Ph.D., CFP
• Associate Professor of Finance
• College of Business
• Texas AM University Corpus Christi

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Island Views 
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Why Plan?

• If you don't know where
• you are going,
• you'll probably end up
• somewhere else.
•  
• Yogi Berra

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Millionaire Success Factors

• Allocate time, energy and money efficiently
• Strive for financial independence rather than
  social status by
• Living below your means
• Investing 20 of your annual income
• Choose the right occupations
• The Millionaire Next Door

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The Benefits of Financial Planning

• Get control of your time, energy and finances
• Improved financial position
• Increased future financial security
• Accumulate wealth for heirs
• Reduced stress and better state of mind

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The Financial Planning Lifecycle
Income
Income Stream
Retirement/ Estate
Tax
Benefits
Savings/ Investment
Employment Periods
10 20 30 40 50 60
70 80
Age
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The Financial Planning Process

• Assess current financial condition
• Develop realistic and measurable goals
• Prioritize financial goals
• Identify strategies to achieve goals
• Enact goal achieving strategies in rank order
• Monitor financial progress
• Reassess goals and priorities at different life
  events

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Controlling Expenses

• "Diligence is the basis of wealth,
• and thrift the source of riches."
• Chinese proverb.

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Living Below Your Means
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A Spent is a Lot of s Not Saved

• Monthly spending choices from age 30 to 65
• One soft drink a day (15) _at_ 8 return
• 34,408
• Dinner for 2 once a month (60) _at_ 8 return
• 137,633
• A Café Latte a day (100) _at_ 8 return
• 229,388
• The monthly payments on a Intrepid versus a
  Navigator (348) _at_ 8 return
• 798,271

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The Law of Large Numbers

• Look to the large numbers to find savings
• Big Ticket Items
• Housing
• Transportation
• Buy less than you can afford
• Diversify portfolio by investing the difference
• High Volume Expenditures
• Dining and Café Lattes
• Entertainment and Clothing
• Cut back on the numbers
• Find more cost effective substitutes

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Pitfalls in Retirement Planning

• Starting too late.
• Putting away too little.
• Investing too conservatively (especially when you
  are younger).
• Investing too aggressively (at any age)
• Rule of Thumb at retirement (7 to 10 years of low
  risk investments to cover living expenses)

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Sources of Retirement Income
Other
Pensions
Government Assistance, including Social Security
Income-Producing Assets
Government still provides the largest portionrigh
t now.
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Dont Count on Social Security

• The Baby Boomers
• Born between 1945 and 1964
• The largest population segment
• Median Age of workforce is rising fast
• 1980 Just below 35 years of age
• 2005 Projected to be 41 years of age
• The Social Security Trust fund is projected to
  run out of funds within the next 3 decades
• Long-term care and healthcare costs will continue
  to rise as population ages

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Be Prepared for a Long Retirement

• Life Expectancy and Retirement Age for the
  Average American
• Early 1950s
• Retire in late 60s
• Live another 1.6 years
• Late 1990s
• Retire in Early 60s
• Live another 14 years
• Source Stocks for the Long Run by Jeremy
  Seigel

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Time is Money

• Who will have the most at retirement (65)?
• Little Lisa Parents put 3000 into retirement
  account at birth with no additional contributions
• Prudent Paul Starts investing 3000 a year at
  18 making his last contribution at age 25
• Procrastinating Pete Pete waits until age 26 to
  start putting away 3000 a year until age 65.
• Assume 10 tax deferred return on investments
• What about at a 7 tax deferred return?

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Its About Timing Too

• Which investment will provide the best return?

Fund Annual Return Standard Deviation Growth of 10k over 20 Years
A 16.69 18.19 172,813
B 7.86 15.74 36,341
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Things Are Not Always Rosy

• News from the Financial Times
• When the index broke 10,000 points, investors
  celebrated, brokers toasted each other
  economist talked about new market paradigms where
  stocks could achieve unheard of valuations
• Just months later, the dream ended as the index
  plunged a stomach churning 80 destroying the
  hopes of thousands of amateur investors drawn to
  the markets by years of easy profit.
• Taiwan during the bubble

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Sound Familiar? (Nasdaq)

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The Secret is Time

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And Controlling Risk

• Volatility creates uncertainty and eats up
  returns
• Which Investment has the highest compound return?

Fund 1 2 3 4 Mean Std. Dev. Period Return
A 10 10 10 10 10 0 46
B 20 0 20 0 10 12 44
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The Answer - Asset Allocation

• The process of putting your eggs into a number of
  carefully selected baskets
• When some baskets fall as inevitably occurs,
  other baskets still have eggs

Source Standard Poors Micropal 1970s 1980s 1990s
U. S. Stock 5.88 17.55 17.90
Bonds 5.52 12.62 9.70
Foreign Stock 8.80 21.99 5.00
Commodities 21.25 10.67 0.48
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Gather Little By Little

• Wealth hastily gotten will dwindle, but those
  who gather little by little will increase it.
• King Solomon

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Dollar Cost Average Out the Bumps
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An Easy Solution - Mutual Funds

• Dollar Cost Average Out the Bumps Mutual funds
  pool investor money and have a professional money
  manager invest for their benefit
• Financial returns
• Advantages of mutual funds
• Diversification
• Convenience
• Generally low fees
• Professional management ???

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Mutual Fund Categories

• Aggressive Growth
• Growth
• Value
• Growth Income
• Balanced
• Bond
• Money Market

• Index
• International
• Global
• Sector
• Socially Responsible

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Mutual Fund Fees

• Loads sales commissions
• Front load Max 8.5
• Back load and CDSC Max 6
• No Load fund
• 12(b) 1 Fees Advertising and promotion
• Max 1 of assets
• Management and Operating Fees Cover manager and
  ongoing expenses of operation funds
• Typically 0.25 to 1.5

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The Cost of Mutual Fund Fees

• Bill plans to invest 500 a month for his
  retirement in 30 years and is considering the
  following funds.

Fund Load 12b - 1 Mgt Fee Gross E(R)
A 5 .25 1.00 10
B 0 1.00 1.00 10
NL 0 0 1.00 10
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And the Results are

Fund A Fund B Fund NL
Investment Months 360 360 360
Monthly Return 8.75/12 8.00/12 9/12
Monthly Contribution 475 500 500
Future Account Value 825,603 745,180 915,372
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Basic Retirement Accounts

• Roth IRA
• Contribution 3,000 max per person up to earned
  income. Increase in the future
• No deduction but tax free withdrawals
• Phase-outs 95k-110k single 150k-160k married
• 10 penalty and tax on earnings for early
  withdrawal before age 59 ½ or permanent
  disability
• Penalty free withdrawal for first time home buyer
  or higher education expenses
• Rule of thumb Current tax rate lt Retirement tax
  rate

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Basic Retirement Plans - continued

• Regular IRA
• Contribution 3000 max per person up to earned
  income. Increases in the future
• Contribution tax deductible withdrawals fully
  taxed
• Ineligible if company offers retirement plan
  unless lower income
• 10 penalty and taxes on all withdrawals for
  early withdrawal before age 59 ½ or permanent
  disability
• Penalty free withdrawal for first time home buyer
  or higher education expenses
• Rule of thumb Current tax rate gt Retirement tax
  rate

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Basic Retirement Plans - continued

• SEP (Simplified Employee Pension)
• Tax rules basically the same as a Regular IRA
• For small business owners
• Contributions Up to lesser of 25 of income or
  40,000
• 401k
• Tax rules basically the same as a Regular IRA
• For employees of companies
• Contributions Up to 12,000 rising to 15,000 in
  2006
• Some have employee matching or loan features

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Risk Management

• Shield family from economic loss resulting from
  unanticipated events through insurance
• Life
• Key considerations
• Income and debts
• Dependants and marital status
• Rule of Thumb
• 7 times annual income
• Financially Prudent
• Provide for last expenses and grieving period
• Eliminate major debts
• Replace income until dependants are self
  sufficient
• Assume reasonable return (5 to 6)

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Risk Management - continued

• Health
• Major medical expenses
• Disability
• Optional coverage
• Comprehensive medical
• Eye, dental, and dread disease (adverse
  selection)
• Home and Auto
• Necessary coverage
• Minimum required by lender
• Amount required to maintain similar lifestyle in
  tragedy
• Liability
• Needs depend on assets to shield
• Cover reasonable levels of potential liability

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Taxes, Taxes and More Taxes

• "Excessive taxation ... will carry reason and
  reflection to every man's door, and particularly
  in the hour of election.
• And
• "Taxes should be proportioned to what may be
  annually spared by the individual."
• Thomas Jefferson

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Tax Planning Strategies

• Practice tax avoidance not evasion
• Employ all appropriate deductions or credits.
• Use tax-sheltered and deferred savings vehicles
• 401K
• Roth and Regular IRA
• Municipal bonds and variable annuities
• Shift income to family members in lower tax
  brackets
• Start a business in your spare time

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Estate Planning

• Accumulating assets for
• Dependents in event of death
• Family in event of disability
• Special considerations include
• Dependent ages
• Education needs
• Provide plan for family in event of
• Death
• Disability

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Your Counsel Is Key

• "The wisdom of a ruler is measured
• by the wisdom of his counsel..." 
• King Solomon

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Dont be a horror story, select your advisor
carefully

• The broker of a disabled teacher traded her
  account while she was incapacitated after surgery
  holding many positions less than a week
• Churning losses exceeded 100,000
• Advisor selection
• Must be qualified with the appropriate education,
  designations and licensures
• Come with good recommendations and credentials

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Steps to Success

• Seek competent financial advice or become
  educated regarding money management and investing
• Set realistic performance expectations and
  understand rationale behind strategies
• Review your plan to make sure your portfolio has
  the appropriate risk levels and is on track

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Closing Slide

• H. Swint Friday, Ph.D., CFP
• E-01 Personal Financial Planning
• Please return your completed session survey
• to the room monitor or the collection boxes
• near the exit