Personal Finance
Effective Goals should
"SMART" Approach
Changes in Net Worth result from
cash inflows and outflows.
Future Value Example
100 deposited for 1 year at 6% per year Future Value = $100 + ($100 X .06 X 1) Future Value = $100 + $6 = $106
The 7 Step Budgeting process are
1: Set Financial Goals 2: Estimate Income 3: Budget an Emergency Fund and Savings 4: Budget Fixed Expenses 5: Budget Variable Expenses 6: Record Spending Amounts 7: Review Spending and Saving Patterns
inflation
A continuous rise in the price of goods and services. Reduces buying power of the dollar Most harmful to those on fixed incomes Inflation rates vary "Hidden inflation"
Balance Sheet
A financial statement that reports assets, liabilities, and owner's equity on a specific date.
AGI
Adjusted Gross Income
Life Situation and Personal Values
Adult life cycle Life Situation Factors Major events: Values:
Self Employment
Advantage: Owning your own business can have tax advantages Disadvantage: Business owners have to pay additional taxes
Other income
Alimony, awards, lottery winnings, and prizes
How Do I File My State Tax Return
All but 7 states have a state income tax Most states' tax rate ranges from 1 to 10 percent States usually require income tax returns to be filed when the federal income tax return is due
Flat tax
All taxpayers pay the same rate Would increase taxes for many
Tax credits
Amount subtracted directly from the amount of taxes owed Earned income credits Foreign tax credits Child and dependent care credits Retirement tax credits Adoption tax credits Education credits to offset college education expenses
Future Value
Amount that will be available at a later date
Gross income
Amount you earn before taxes are withheld
Exclusions
Amounts excluded from gross income Also referred to as tax-exempt income; income not subject to federal income tax Example = interest on most state and city bonds
Mental Budget
Appropriate if financial resources and responsibilities are limited
Copies of tax returns and supporting data
At least 7 years; 10 years is better
How Long to Keep Records
Birth certificates, wills, and Social Security information is Permanently Personal property and investments that is as long you own themDocuments re: purchase and sale of real estate
What to Keep in a Safe Deposit Box
Birth, marriage and death certificates List of checking, savings and financial institution account numbers Citizenship and military papers Adoption and custody papers Serial numbers and photos of valuables CDs and credit and banking account numbers Mortgage papers and titles List of insurance policy numbers Stock and bond certificates Coins and other collectibles Copy of will
Durable-product goals
Car, appliances
Meeting Daily Money Needs
Common mistakes
Personal Changes:
Consider changes in your personal situation and income Monitor your tax strategies to best serve your daily needs and long-term financial goals
Financial Needs Goals:
Consumable-product goals. . . Food, clothing Durable-product goals . . . . . . Car, appliances Intangible-purchase goals
Calculating Savings Amounts
Convert savings goals into specific amounts Use savings and investments plans to grow your money Use time value of money to calculate progress toward financial goals
Records on Your Personal Computer
Current and past budgets Summary of checks written and other banking transactions Past income tax returns Account summaries, performance results of investments Digital versions of wills, estate plans, and other documents
Present Value
Current value of an amount desired in the future
Personal financial planning involves
Determine financial situation Develop financial goals Identify alternative courses of action Evaluate alternatives Create and implement a financial action plan Review and revise the financial plan
Outflows > Inflows
Draw from savings or borrow (buy on credit)
Main Components of Gross Income
Earned income Investment income Passive income Other income
ntangible-purchase goals
Education, health
Physical Budget
Envelopes, folders or containers
Total income is affected by:
Exclusions, Tax-deferred income
Taxes on Wealth
Federal estate tax State inheritance tax
Consumable-product goals
Food, clothing, occur on a periodic basis and involve items that are used up relatively quickly (food, clothing, entertainment)
4 step of finance planning
Formalized report Summarizes current financial situation Analyzes financial needs Recommends future financial activities
Major events
Graduation, marriage, divorce Birth or adoption of child Career or health changes
Adjusted gross income
Gross income reduced by certain adjustments, described below The basis for computing various deductions
Money management
day-to-day financial activities necessary to manage current personal economic resources, while working toward long-term financial security
Deflation
decline in prices
Use Time Value of Money calculations to
determine increased value of savings and amounts needed to reach future goals
IRS Changes
IRS modifies tax filing procedures each year Congress passes legislation to change the tax code each year. Take advantage of these changes for personal financial planning
Net income
income on which tax is computed
Insolvency:
Inability to pay debts when due Liabilities far exceed assets
Taxes on Earnings
Income tax and Social Security
Tax-deferred income
Income that will be taxed at a later date, such as earnings from an traditional individual retirement account (IRA
Ways to Increase Net Worth
Increase savings Reduce spending Increase the value of investments and other possessions Reduce amounts owed
Advantages of Financial Planning are
Increased effectiveness in obtaining, using, and protecting financial resources Increased control of your financial affairs Improved personal relationships Sense of freedom from financial worries
Tax Exempt Investments
Interest income from municipal bonds are exempt from federal and some state taxes
Risk premium
Length of time funds in use Expected inflation Uncertainty
Budget = spending plan Helps you
Live within your income Spend money wisely Reach financial goals Prepare for financial emergencies Develop wise financial management habits
Problem/Result
Lower assets or higher liabilities
Life Situation
Marital status, household size, employment. life situation is an event such as graduation, dependent children leaving home , , parents separate or divorce, changes in health,birth,adoption of a child.
Investment income
Money received in the form of dividends, interest, or rent from investments
Balance Sheet
Net Worth Statement
Basic Financial Planning Activities
Obtaining Chapter 1 Planning Chapters 2,3 Saving Chapter 4 Borrowing Chapter 5 Spending Chapters 6,7 Managing Risk Chapters 8-10 Investing Chapters 11-13 Retirement/Estate Planning Chapter 14
Written Budget
On paper
Common mistakes
Overspending (impulse buying, using credit) Insufficient liquid assets Using savings or borrowing to pay for current expenses Failing to put unneeded funds in an interest bearing or investment account
Calculating interest earned
Payment x Rate x Time
Cash Flow Statement
Personal Income and Expenditure Statement
Cash flow statement =
Personal Income and Expenditure Statement
Records in Your Home File
Personal and employment records Money management records Tax records Financial services records Credit records Consumer purchase and auto records Housing records Insurance records Investment records Estate planning and retirement records
Financial Planning
Process of managing your money to achieve personal economic satisfaction
Capital Gains
Profits from the sale of stocks, bonds or real estate Long-term capital gains (held more than one year) taxed at a lower rate
Inflows > Outflows
Put money into savings or pay off debts Result: Higher net worth
Taxes on Property
Real estate property tax Personal property tax
Adjustments to income
Reduce AGI Contributions to a traditional IRA or Keogh Alimony payments
Passive income
Results from business activities in which you do not directly participate, such as a limited partnership
Taxes on Purchases
Sales tax & excise tax
Time Frames for Achieving Financial Goals
Short-term goals . . . . . . . . . . . within 1 year Intermediate goals . . . . . . . . . 1-5 years Long-term goals . . . . . . . . . . . > 5 years
S = M = A = R = T =
Specific Measurable Action-oriented Realistic Time-based
Computerized Budget
Spreadsheet or specialized software
Components of a Balance Sheet
Step 1 - List items of value Liquid assets Real estate Personal possessions Investment assets Step 2 - Determine amounts owed Current liabilities (< 1 year) Long term liabilities Step 3 - Compute your net worth
Future Value Series of Deposits
Table factors = Appendix Exhibit 1-B "Annuity" = series of equal deposits at equal intervals earning a constant rate Example: Deposit $50 per year at 7% for 6 years Appendix Exhibit 1-B factor = 7.153 Period = 6; % = 7% Future Value = $50 x 7.153 = $357.65
Tax Deferred Investments
Tax deferred annuities Section 529 education savings plans Retirement Plans -IRA, Keogh or 401(k) A type of tax shelter
VAT
Taxes a product at each stage in the manufacturing process Tends to start small and rise over time
Types of Taxes
Taxes on Purchases Taxes on Property Taxes on Wealth Taxes on Earnings
The Federal Reserve
The US central bank consisting of 12 regional banks are run by a board of governors appointed by the president for overlapping 14-year terms; formally independent of the executive and congressional branches of government; private bank members of the system own their assets.
Present Value
The current value of a future amount based on a certain interest rate and time period The current value of an amount desired in the future How much to deposit now to obtain a desired total in the future "Discounting
Tax table rates
marginal rates
Your total tax liability is based on the
published tax tables or tax schedules, less any tax credits
Basis for achieving financial security
relationship between the personal balance sheet, cash flow statement and budget
Values:
The ideas and principles you consider correct, desirable, and important
Future Value
The increased value of money from interest earned Amount to which current savings will increase Total amount available in the future "Compoundin
marginal rates
The percentage of the last dollar that you earn that must be paid out in taxes (the key tax rate).The tax rate paid on the last (or next) dollar of taxable income Example: After deductions and exemptions, a person in the 35% tax bracket pays 35 cents in taxes for every dollar of taxable income in that bracket.
Adult life cycle
The stage in the family situation and financial need of an adult is an important influence on your financial activities and decision
Every decision involves a trade-off Personal opportunity costs
Time Effort Health
inancial Planning in Our Economy Global Influences
U.S economy affected by foreign investors and competition from foreign companies Level of imports/exports affects available supply of dollars Level of foreign investment affects domestic money supply Money supply affects consumer interest rates
Earned income
Usually includes wages, salary, commissions, fees, tips, and bonuses
VAT
Value-Added Tax
Characteristics of a Successful Budget
Well planned Realistic Flexible Clearly communicated
Selecting a Saving Technique
Write a check each payday and deposit in a savings account Use payroll deduction to deposit a certain amount in savings (direct deposit) Save coins or spend less on certain items
Annuity
series of equal deposits at equal intervals earning a constant rate Example:Deposit $50 per year at 7% for 6 years Appendix Exhibit 1-B factor = 7.153 Period = 6; % = 7% Future Value = $50 x 7.153 = $357.65 A level stream of cash flows for a fixed period of time
Exemptions
subtracted from AGI
Taxable income is determined by
subtracting adjustments to income, deductions, and allowances for exemptions from gross income
Interest Rate
the cost of money Affected by supply and demand , The percentage of a sum of money charged for its use. Rent or charge paid for use of money, expressed as a percentage per month or year of the sum borrowed.
The average tax rate
the total tax due divided by taxable income
Opportunity cost
what you give up making a choice, Refers to what you give up (your next best choice) in order to do or get something else (your chosen decision).The trade-off of a decision Not always measurable in dollars; may be time Consider lost opportunities resulting from your decisions
An exemption =
a deduction for yourself, your spouse, or qualified dependents The amount of the exemption
CPI
a measure of inflation, (consumer price index) a measure of the overall cost of the goods and services bought by a typical consumer
Tax deduction
amount subtracted from adjusted gross income (AGI) to arrive at taxable income