In the Loop: February 2022

This post is the first in a series of personal finance blog posts.  Over time, we’ll walk through how to think about and approach personal finance and investing in a step-by-step way.  I’ll include several ‘starter’ posts on how to approach personal finance and investing. I’ll also have a “101” post on how the markets work, and additional special topic areas including estate planning considerations, how to talk to the next generation about money and investing, taxes, and charitable giving.

The first step in all of this is to have a mental framework for your personal financial life, which you can then use to organize your files and to provide a jumping-off point for investing.  Broadly, one’s financial life can be organized into 5 major categories: Income, Expenses, Taxes, Assets and Liabilities.

Income:  includes wages/salaries and bonuses from a job, interest and dividend income, child support or alimony, social security, annuity or pension income, rents, fees or royalties, and other income (can include partnership income, business distributions, etc).  In your filing system, create sub-folders for each type of income and order from largest to smallest.

Expenses: expenses are a key factor in long-term financial success.  Major expense categories include living expenses and liability expenses (mortgage, auto, other debt service).

• Housing – mortgage/rent, insurance, utilities, internet, cable & phone, home maintenance and HOA/condo fees
• Food –groceries, meals out and other food expenses
• Transportation –car payments, insurance, maintenance, public transportation and ride share costs, parking/tolls and gas
• Health – health insurance premium and deductible costs, prescription and other (copays, eyeglasses, etc)
• Personal / Family – child care, child support, financial gifts to family members, apparel and shoes, laundry, entertainment, other (includes haircuts, personal and beauty expenditures), gym/sports costs, personal travel/vacation
• Charitable giving – cash and in-kind donations
• Other – educational costs (tuition, school supplies, etc) and other costs

Within liability service, often debt service on a mortgage is the most common.  Note the rate, term, monthly payment and balance outstanding.  Auto loans are also common.  Note the same items for auto loans. In your filing system, first create folders for living expenses, and sub-folders for the categories within living expenses.  Liability expenses will be pulled from your liability folder (below).  Overall the expenses should be tracked in an excel spreadsheet or using an app (more to come on tracking expenses and budgeting in future posts).

Taxes:  these are technically an expense as well but are so important they get their own category.  Taxes sub-categories include income tax, social security tax, capital gain/investment income tax, property tax, and other taxes.  All materials tracking taxes paid should go into a tax folder for your CPA, with the forms required to file tax returns.  Taxes and “speaking CPA” will also be the subject of a future blog post.

Gross income less expenses less taxes equals the amount available to save and invest.  The goal is to maximize this number! The higher income is, the lower expenses are, the more funds are available to invest and build long-term wealth.  This is a critical piece to long-term investing success.

Assets: Moving on, pull the information together for your assets.  Assets include your investment portfolios (retirement and taxable) and real property, including your home, car and other real assets.  Note that the liquidity profile of the categories differs. Liquidity is how rapidly an asset can be sold for cash.  Of course cash is the most liquid, then investment portfolios, then real property.  Residences and alternative assets can be the most illiquid, particularly in volatile markets. Major asset categories include:

• Investment portfolios:
  • Bank accounts and CDs
  • Retirement accounts, including 401Ks, IRAs and Roth IRAs
  • Taxable accounts
  • Trust accounts
  • Private equity / venture capital interests
• Real property
  • Primary and secondary residences
  • Cars
  • Other types of real property: boats, equipment, art, jewelry
• Other
  • Business interests

Liabilities: this category includes any debt you have outstanding. Note that we included liability expense up in the expense category.  Note the amount outstanding, date of the loan, interest rate, term, monthly payment and balance outstanding.  Auto loans are also common.  Note the same items for auto loans. The monthly or periodic payments are what get included in liability debt service under the expense category.

Here, the simple idea is to maximize assets and minimize or optimize liabilities to maximize your net worth, which is the total of your assets less your liabilities.

In addition, the other major categories to include in your personal finance files are:

• Insurance – policies, note dates, terms and premium payments
• Estate Planning – will, financial and medical powers of attorney, healthcare directive and Trusts.  In addition, check beneficiaries for non-probate assets (IRAs, etc).  Ensure that guardianship for minor children is arranged.
• Charitable giving – statements for donor-advised funds or foundations. Ensure that receipts are collected for tax purposes and tracking.  Statements for in-kind gifts, include stock gifts and gifts of real property.
• Savings accounts for specific purposes, for example educational savings accounts – statements, note contribution, investment line-up and timing of liquidity needs

Half the battle is housekeeping and organization, and just pulling together and organizing materials is a great step forward and will set the stage for potential long-term financial success.  Next, we’ll tackle expenses and budgeting. 

Disclosure:  The information contained herein is based on sources that are believed to be reliable. Any statements nonfactual in nature herein constitute only current opinions or estimates, represent only the current judgment of the author, and are subject to change without notice.