When I started my personal finance education a few years back I read a lot of blogs and books. I had this insatiable hunger for all things related to finances and wondered why I never studied this stuff in school. The information I learned led me to start making good financial decisions and good planning. I wanted to share with the community the steps we should all take to start our financial journey. This is a checklist/starter kit for getting on the right road to financial security. My philosophy is to make things easier in life- max benefit with minimum intervention- so hopefully this will work for you. This does not mean no work, set it and forget it, but at least an easily followed path.
Things to get your personal house in order
So in no particular order here are the things we should be doing to protect ourselves and give ourselves the knowledge we need to do well.
- Setting up a budget/expense report: Ever wonder what should be included in a budget? We cover what you may want to consider.
- Determining net worth: Do you know how to calculate your net worth? We discuss how to do it and if things like your home or cars should be included? Check it out to see what I do.
- Get you some insurance: Here we discuss what insurance you need for your family? Is an umbrella policy really necessary?
- Setting up a will or living trust and What to place in a living trust: How do you protect your family with a living trust? Why would you want one and how much will this cost? How do you do it? Check out these posts to figure it out.
- Max out the 401K, 403b, 457, or Government TSP: Ever wonder what these different accounts are? How much can you put into one versus the other? Is a Traditional or Roth plan right for you?
- Start an IRA: What is an IRA? Should you have one? How do you do a backdoor Roth?
- Pay down debt: As Dave Ramsey says, debt is bad. Still which debt should you pay down first and when can you consider paying down debt versus investing.
- Start tax-advantaged accounts: Once you have done the above, what is the next thing to do with your money?
- Save and plan for the future to enjoy early retirement
Now in more detail:
Set up a budget/expense review
Some may call this a budget and actually determine how much money they can spend on things every month. This is a great idea if you are overspending compared to your earnings. Whether it is having an excel sheet you update regularly, a ledger, or just envelopes of cash. Whatever works for you. For our family, this is an expense review. We do not formally budget, but keep an eye on where money is going and make sure we are saving enough each month. Thus our Money earned = Expenses + Savings. No money goes unnoticed. We try to nurture each dollar.
Determine net worth
Determining net worth is important. I think it can do a few things. 1) It sets up a visual goal allowing for motivation. How much are we worth? How much do we want to be worth today, next year, in 5 years? 2) It lets us organize our debts by amount owed and then interest rates. After organizing and visualizing the debt that is sitting on our chest like an elephant, we can deal with it. We can get some air and figure out if we want to pay off the small debts first (debt snowball as discussed here) or pay off high-interest debts first. The financially wise choice is to pay off high-interest debt first, but I preferred paying off low debt amounts first. It made me feel better and motivated to see the debt disappear off my ledger as I described here.
Get some Insurance
Insurances are variable for each individual.
• Term life insurance
Everyone should have this if they have a family they are supporting (spouse, kids, spouse and kids, or even parents) that will cover funeral expenses and living expenses if they die. Term life insurance typically goes until age 60 or 65 and is relatively cheap. Everyone should have term life insurance until they think that they will be financially independent enough to support their family. If this is age 45 due to great planning and getting excited about the FIRE community, then great. For most people, it will be closer to 55 or 65 when the kids have grown and the retirement income (IRAs, 401Ks and Social Security) begins being tapped.
The amount needed is variable and needs to be determined by annual expenses for a number of years. For instance, as the sole breadwinner, a person may need more term life then if their spouse also earns an income. Basically, term life is protecting the family against a tragedy.
In our family I am the sole breadwinner currently but I have a term life insurance for my wife as I understand that if she dies I will be devastated and need time off from work to cope and help our son cope. As I am not financially independent and we have a mortgage and my school debt, I have decided the small monthly payment for her term life insurance is worth it. I also have term life insurance for a much larger amount as if I die the financial implications are much higher for the family. I will be canceling my term life insurance as soon as I reach financial freedom.
• Auto insurance
A good auto insurance policy is key. This is more for if I crash into someone else and they need medical care, etc. We do not have fancy cars, and therefore our coverage only covers collision and damages to other's cars and their medical expenses. We also insured that our cars are covered if someone else drives them. For a while, I unwittingly only had coverage for the cars if my wife and I drove them. Not smart in our case as we have family that drives our cars occasionally
• Home insurance
Also a necessary insurance. If our house burned down, we would be in deep doo doo. We still owe a mortgage and while we do not have very expensive items, it is important that the insurance covers the costs of lost items in the house. We did have flood insurance when we lived in New Orleans but have not taken out earthquake insurance while living in Northern California.
Review these additional insurances and take into account where the house is located (literally details such as how high above sea level for flood insurance or is the house sitting on granite for earthquake insurance). Each region has their own recommendations and it should be taken seriously. For instance, the poor people of Baton Rouge who got flooded this year (2016). The majority did not have flood insurance and their home insurance will not cover the damage as discussed here.
• Umbrella insurance
For a high-income earner or one of high net worth considering a relatively cheap umbrella insurance is a good idea. This insurance sits and waits for something so bad to happen that it eats up your auto or home insurance and still is hungry. So say there is a lawsuit for 1 million dollars and your auto insurance only covers $500,000 in claims, then the umbrella kicks in to cover the other $500,000. We have an umbrella policy and it only costs a few dollars a month.
• Insurances to avoid
Whole life insurance- it is bad and the White Coat Investor will tell you why. For some people, it may make sense, but this is rarely the case. Simple warranties on new purchases such as tv's, drills, etc. These things are new. They don't break often. The receipt will be lost prior to needing it in 2-3 years. They are rarely worth it.
Set up A will or living trust
A will or living trust is a good idea if you have some accumulated assets and children or family you want to give it to. Look here for how we set one up using Legal Zoom.
Max out your 401k, 403b, 457, or Government TSP at work
If you have the option to contribute to these accounts then do so, particularly if there is an employer match (free money!). This is the single most important thing you can do and very easy. Whether you should do a Roth or traditional 401 K is up to you. This is what I did with my 401K. If you have a 403b and have the money to contribute then do so. The maximum combined amount is $18,000 or $24,000 if over 50 years old.
Set up an IRA
If you make under the modified adjusted gross income (<117,000 for individuals and <$184,000 for married couples filing jointly) then start a Roth IRA for $5500 max contribution ($6,500 if over 50 years old). If you make more then the modified adjusted gross income, set up a traditional IRA and do a backdoor Roth conversion. Here is a good link for how to do it from the White Coat Investor. Here is how to report it on your taxes by the finance buff.
Other things to consider going forward in financial independence
Pay down debt
Before paying down debt, at least first contribute to the 401K to get the max match from an employer. This is free money. Then determine the interest rates of your debt and start paying them off. Debt sucks, even low-interest debt and getting rid of it is good for the mind, sole and pocketbooks. Even if there is potential earnings from investing that is not there. Once I paid off all debt but my school debt and mortgage, I started treating my school debt as my safe/bond type allocation. Every dollar put into it has a 3% return.
Start a tax-advantaged account
Once the above is complete, then open up a tax-advantaged account. Vanguard is good. Index funds are good. Nothing fancy. Just get money in the market and let it work for you. There will be a future post about asset allocation.
Save and plan for the future to enjoy early retirement.
How quick can we get there? It depends on the savings rates as outlined here by JL Collins
So have I missed anything in the financial starter kit? Any recommendations?
I am Eiman Jahangir and I am a dad, husband, and cardiologist. I grew up in the South, trained in the Northeast, moved out West, and now am happily back home in the South. My wife and I have seen our fair share of ups and downs, from the pain of dealing with infertility and losing everything in a matter of hours in the Tubb’s Wildfire, to the joys of having our son and finally finding a medical practice that is right for me. It hasn’t always been easy, but I am grateful and continue to move forward in positive steps.
I write to help people looking to improve their lives. I have written my thoughts and experiences on a wide arrange of topics from parenting to finances to mindfulness. While some of my posts are more useful for doctors and other high earners, most are for everyone.