Depending on which survey you look at (and there are many to choose from), anywhere from one third to three quarters of Canadians say they don’t have a written financial plan in place. Whatever the actual number, it seems safe to say that many Canadians do not have a financial plan – which makes them vulnerable to financial insecurity. If you’re one of them, you may be wondering: Why should I have a financial plan? Do I really need one?
One common misconception is that financial planning is expensive. The cost to prepare a plan varies across different financial planners, with some offering them free of charge while others may charge $5,000+ for a comprehensive plan. The quality of each plan also varies, so a plan that you get for free may not be as effective as a $5,000 plan. What many people overlook is that even if a plan costs $5,000, you can offset that fee with the money you save by following your plan’s recommendations. Tax-saving strategies, lower interest payments, or increased rates of return are some of the ways a financial plan can pay for itself.
Another common reason people don’t have a written plan is that they feel they already have a good enough grasp of their finances. But what if “good enough” isn’t quite enough? There may be certain aspects of financial planning that you’re not aware of, such as the tax implications of joint accounts with adult children, spousal rollovers, spousal loans, and family trusts. The list goes on, and as the saying goes, “you don’t know what you don’t know.” A financial plan can help identify opportunities to increase your net worth that you didn’t even know existed.
How it works
A comprehensive financial plan covers all aspects of your financial life including cash flow planning, investments, retirement planning, estate planning, tax planning and insurance. Think of it as your personal roadmap. It shows where you are today (your net worth), where you would like to go (your goals), and the steps required to get there (the strategy).
There is, of course, much more to it than that. Here are some of the things a written financial plan can help you do:
Achieve your goals
Do you ever ask yourself questions like: Will I have enough money to retire? Will my family be taken care of if I die? Can I afford to buy that vacation property? Everyone has financial goals, but many people don’t know whether or not these goals are realistic. A financial plan will help you define your financial goals, determine whether they are realistic, and outline a strategy for achieving them.
Your plan will let you know if you’re on track to achieve your goals, or whether you need to make some adjustments. It’s often those adjustments that people who lack a proper plan are not aware of. It’s easy to spend excess cash flow on the latest technology, or for retirees to pull out cash from their RRIF account to buy a car, but can they actually afford to do this? Often, people don’t realize the impact of their decisions until many years down the road, but by then it could be too late. Having a saving, investing, and spending plan will help increase your wealth and put you on track to achieving your goals.
Increase confidence and peace of mind
People who have a financial plan (“planners”) and follow it are more likely to be confident in their ability to achieve their goals and retire. According to a CFP Board survey done in the U.S., only 30% of people who don’t have a plan feel very confident about managing their money and reaching their financial goals, compared to 52% of planners.
A different study found that 63% of people agreed that they worry less about money because of a financial plan, while 73% of respondents believe that financial planning has helped give them greater peace of mind. The same survey found that people with a financial plan are two times more likely to be confident in their plans to retire. Interestingly, financial confidence is said to be a better predictor than financial knowledge when it comes to outcomes associated with day-to-day money and debt management.
Research conducted by the Financial Planning Standards Council (FPSC) found that money is the number one stress factor for Canadians. These studies all seem to indicate that having a plan in place to manage your money will help you feel better about your financial situation and worry less. Who wouldn’t want that?
Increase your wealth
An important element of the financial plan is your cash flow picture. The plan will illustrate whether you spend more than you make, and determine your capacity for saving. It will also provide solutions for increasing your cash flow by paying down debt, reducing unnecessary expenditures, and taking advantage of potential tax-saving opportunities. An increase in cash flow will lead to an increase in savings, which in turn builds wealth.
According to the CFP Board in the U.S., 57% of planners are able to save 10% or more of their income, compared to only 39% for non-planners. Also, 48% of planners described themselves as living comfortably compared to only 22% of non-planners. Interestingly, the same study found that planners making between $50,000 and $99,999 are more likely to live comfortably compared to non-planners making over $100,000 (50% vs. 46%)., Another global study done by HSBC found that planners have accumulated nearly two and a half times (245%) more capital in their retirement accounts than non-planners!
Once you’ve identified how to increase your cash flow, the next step is to put strategies in place to preserve this wealth, such as setting up automated contributions to your savings accounts, having an investment plan that is appropriate for your circumstances, and understanding how to make withdrawals without impacting your retirement goals.
Identify opportunities and mistakes
A good financial plan will typically outline what you’re currently doing, provide some possible alternatives, and then suggest a recommended course of action. If you’re not financially savvy, it’s a great way to become more educated and identify potential opportunities. If you are on top of your finances, it can be a good reminder of strategies that you may have considered but have not yet executed.
Either way, having an expert look at your financial picture could reveal opportunities that you hadn’t previously considered. For instance, you may discover that the fees you are paying on your mutual funds are above the Canadian average, or that you can avoid OAS clawback by deferring OAS if you are still working past age 65. Since everyone’s financial situation is different, it’s important to have a financial plan that is customized to your unique circumstances.
Prepare for unexpected events
Do you have a will? Do you have enough insurance to protect your loved ones in case you die or become disabled? Do you have an emergency fund in case you lose your job? These areas of estate and insurance planning are important components of any financial plan, yet they are often overlooked.
There are three standard estate planning documents that should be covered under your plan: a will, Power of Attorney, and a Power of Attorney for Personal Care or a Personal Directive (this is known as a Health Care Representation Agreement in BC and a Mandate in Quebec). These documents will help protect you in case of incapacity, or help with estate administration in case of death.
It’s also important to review how much insurance coverage you have so that you won’t have to deplete your savings. There are many types of insurance options to consider such as life, disability, critical illness, and long-term care insurance. A financial plan should be able to analyze your current situation and determine which types of insurance may be appropriate for you.
Stay the course
When you have a financial plan, it’s important to implement the recommendations and monitor your progress. Review your plan at least once a year to ensure any action items have been properly carried out, or to make adjustments due to life changes, such as changes in relationship status, health or career. You should also be flexible if the plan just isn’t working for you, and try out other options.
If you’re still not convinced of the importance of having a written financial plan, at the very least, you should have a discussion with a financial planner about what you’re currently doing to see whether you have any potential opportunities for improvement. Because you could get to your destination eventually without a roadmap, but wouldn’t you rather turn on your GPS and enjoy the ride?
Wesley Fong, T.E. Wealth, VAN
This article was published in T.E. Wealth’s Strategies newsletter, December 2017 edition. Read the full edition here.