Focus on Personal Finance: Chapter 2
1st step of personal balance sheet
*List Assets aka Items of Value* -cash & money in bank accounts (checking, savings/ money market accounts, and cash value of life insurance) - Real Estate at current market value (home, condo, vacation property, and any land owned) - Personal Possessions aka Total Personal Possessions (market value of car, furniture/appliances, stereo and video equipment, computer, and jewelry) -Investment Assets (retirement accounts and mutual funds- long term investment needs)
1st step for cash flow statements
*List Inflows*= Total Inflows -Salary aka Gross aka Earned Income- deductions/taxes (federal, state, and social security) - Dividend Income aka Distribution of Earnings to Shareholders aka Interest Earned from Savings - Interest Income aka Passive Income
2nd step of personal balance sheet
*List all Liabilities* - Current Liabilities (medical bills, credit card/ charge account balances, balance due on auto loan) - Long- Term Liabilities (mortgage, home improvement loans, student loans)
Debt Ration
Liabilities divided by net worth - low ratio debt is best
Debt- Payments Ratio
Monthly credit payments divided by take home pay - less than 20% is best
3 Places to Store Important Records
Safe deposit box: Max security storage area away from home.
Cash Flow Statement aka Personal Income aka Expenditure Statement
Statement that summarizes cash receipts and payments for a given period. Tells you what you've received and spent. Total Cash Received- Cash Outflows= Cash Surplus (positive amount) aka Deficit (negative amount)
Cash flow
the actual inflows and outflows of cash during a given period
2nd step for cash flow statements
* List Cash Outflows (cash payments for living expenses)= Total Outflows - Savings & Investments - Fixed Outflows/ Installments- things we must pay (taxes, mortgage payment, car payment, and insurance premiums) - Variable Outflows- things you can control (food/ eating out, transportation, clothing/personal care, entertainment/vacations, medical/dental, utilities/household expenses, credit card payments, and miscellaneous)
3rd step of personal balance sheet
*Calculating Net Worth* Assets- Liabilities
Types of income
- money from a job - self-employment income/ commissions - interest - dividends - gifts - grants/ scholarships - government payments - retirement income - alimony/ child support
How to increase net worth?
1. Increase Savings 2. Reduce Spending 3. Increase Investments and Possessions 4. Reduce Amounts Owed
Steps to creating a Cash Flow Statement
1. Record income 2. Record Cash Outflows 3. Determine Net Cash flow
What are the 7 steps of the budgeting process?
1. Set financial goals 2. Estimate income 3. Budget Emergency Fund and Savings 4. Budget Fixed Expenses 5. Budget Variable Expenses 6. Record Spending Amounts 7. Review Spending and Savings Patterns aka Budget Variances ( revise if needed)
Intermediate Goals
2-5 years
Long term goals
5+ years
Goal revision techniques
Buy used, spend less on entertainment and food, pack a lunch, avoid buying on credit, buy less expensive brands
Liquid assets
Cash and items of value that can easily be converted to cash
Liquid Assets
Cash and items of value that can easily be converted to cash. (ex. checking & savings/money market account)
Assets
Cash and other property with a monetary value
Money management
Day to day financial activities necessary to manage current personal economic resources while working toward long-term financial security
Savings Techniques
Deposit a specific amount each payday into an account not readily accessible, payroll deduction, save coins, and cut down on spending
Take home pay/Disposable income/Gross Income
Earnings after deductions for taxes and other items.
How do you calculate total outflows?
Fixed Outflows+ Variable Outflows+ Savings= total outflows
Budget Variance
The difference between the amount budgeted and the actual received or spent.
Insolvency
The inability to pay debts when they are due because liabilities far exceed the value of assets
How can someone have financial difficulties with a high net worth?
The person has low liquidity and can doesn't have cash available to pay current expenses.
How do you calculate the Net Inflow aka Discretionary Income?
Total Inflows- Total Outflows= Net Inflow/ Discretionary Income
How to Calculate Savings Amounts
Use time value of money calculations. Be sure you have set specific amounts in your goals for savings
Short term goals
Within a year
Budget aka Spending Plan
a specific plan for spending income or planning spending and saving to achieve financial goals
What are three investments?
- Mutual Fund(stock) - IRAs - 401K
Personal Balance sheet aka Net Worth Statement aka Statement of Financial Position
A financial statement that reports what an individual or a family owns or owes; also called a net worth statement or statement of financial position. - reports your current financial situation
Savings Ratio
Amount saved each month divided by gross income - 5 to 10%
Current Ratio
Liquid assets divided by current liabilities - high ratio is best
Personal Computer System
budgets, checks written, income tax returns, account summaries, wills, estate plans, receipts and other scanned financial documents.
Long-term liabilities
debts that don't need to be paid in full more than a year from now (long-term) - mortgage - home improvement loan - student loans
Current liabilities
debts that must be paid within a year (short-term) -medical bills -credit card/ charge account balances -auto loan
What are three examples of taxes?
federal, state, and social security
Income/ Cash Inflows
inflows of cash for an individual or a household
What is an example of take-home pay/ net pay/ disposable income?
paycheck (after taxes) - 5% for people under 25 - 40% for people older
Home File
personal and employment records, tax records, credit records, housing records, investment records, money management records, financial services records, consumer purchase and automobile records, insurance records, estate planning and retirement records.
Payroll Deductions
available at place of employment, using direct deposit- where an amount is automatically deducted from your salary to desired account
Good vs bad assets
Good assets grow over time while bad assets just depreciate. The best kind grow as well as generate cash.
Good vs. bad debt
Good debt is something like education expenses, business expenses , and purchasing a home. Things that will either grow in value or help you to earn money in the future while bad debt is everything else. Credit cards, cars, and other expensive items still being paid off.
Systems for Personal Financial Records
Good for planning and measuring financial progress as well as handling daily business activities. Also good for making tax reports and financial investment decisions.
How do you calculate a personal balance sheet aka Net Worth Statement aka Statement of Financial Position?
Items of Value(what you own) - Amounts Owed (what you owe)= Net Worth (wealth)
Liquidity Ratio
Liquid assets divided by monthly expenses - high ratio is best
Discretionary Income
Money left over after paying for food, housing, and other necessities.