The beginning of a new year is a great time to take stock and set personal and financial goals for 2021. I wanted to share the process that I use personally. It has worked well for me and of course, I use the same approach when advising my clients too.
It’s particularly useful to undertake this exercise after you have had a break, which most of us do over the Christmas/New Year period. That way you should have enough emotional energy to think and reflect clearly. It’s not a good idea to review finances and set goals if you are tired and in need of rest.
This whole process shouldn’t take more than a couple of hours for most people. This small amount of time is perhaps the best investment you can make in any given year.
Step 1: Review what went well and not so well during 2020
Mistakes tend to offer us the best learning opportunities – when everything goes exactly to plan, we typically learn very little. Therefore, the first step is to review everything that went wrong, or you could have done better last year. That could include not investing when you had the opportunity, not selling assets, wasteful spending and so on.
Procrastination or the inability to make a decision can be just as costly as making the wrong decision. The share market certainly taught us that last year. If you had invested in a world share market index fund in April or May 2020 (i.e. not the bottom of the market), the value of your investment would have increased by more than 20% to date (which equates to an annualised return of 34% p.a.).
Once you have identified any and all mistakes, ask yourself what you can do in the future to avoid repeating them. I like to ‘blame the system, not the person’. That is, don’t blame yourself. Instead, aim to systemise your financial decisions. Set rules that you must follow. As I have written about previously, it is challenging to remain unemotional when decisions involve your own money, so don’t be afraid to ask for help.
Step 2: Review existing investments and any unachieved goals from 2020
The next step is to review all existing investments to ascertain whether any changes need to be made.
Have any investments under-performed, or do you need to take profit on investments that have done well? Do any investment properties require maintenance or are you unsatisfied with your property manager? Do you need to refinance or restructure your mortgages including fixing interest rates? Increase personal insurance? Update your wills? Consolidate superannuation accounts or review its investment performance? These are examples of some of the questions you must ask yourself.
Were there any tasks or goals that you set to achieve during 2020 that were not completed? If so, you’ll need to add these items onto your list for this year.
Step 3: Estimate your surplus investable cash flow for 2021
The next step is to work out how much surplus cash flow you expect to have this year. Remember, the basic principle to successfully build wealth is always spend less than you earn and invest the difference. Or, put diffidently, invest a fixed amount as a priority and spend what’s left over.
I set out the most successful cash flow management banking structure in this blog last year. Almost all of my clients use this structure and have found it to be very successful and a painless way to eliminate any wasteful expenditure1. It also allows them to manage expenditure levels on an ongoing basis without needing to track every dollar or cent.
Are you good at managing your cash flow? Do you confidently know how much you spend and where? Most people know whether they need to tighten up cash flow management or not. If so, I strongly recommend implementing the structure I have set out above.
Once you have ascertained how much you will contribute towards building wealth i.e. the difference between your income and expenses, you can move to step 4.
Step 4: Allocate cash flow to maximise long term wealth
The next step is to work out what to do with this cash flow. Of course, there are many options including repaying or offsetting debt, acquiring additional investments such as shares or property, making additional contributions into super, accumulating a cash savings buffer and so on.
The best question to focus on is “how do I allocate my cash flow in 2021 in order to maximise my financial position by 2031 (or later)?”. This question forces you to focus on the long-term fundamentals and more importantly, ignore any short-term noise. Financial decisions that are based on sound fundamentals almost always turn out to be the correct decision.
Low interest rates create two competing opportunities.
Low interested rates maximise your surplus cash flow thereby making it easier to repay or reduce debt. Of course, it is much easier to repay a loan when the interest rate is 2% p.a. compared to 8% p.a. Therefore, 2021 provides a good window of opportunity to reduce debt.
Conversely, repaying debt might save you between 2% to 3% p.a. in interest expense. That is not a very high return. And if we expect interest rates to remain low for a few years, it is reasonable to assume that its likely you can earn a higher return by investing in other assets such as shares.
Both of these observations are correct. Often, the most appropriate approach is to find a balance and do both – reduce debt and invest. But of course, it depends on your financial position and goals.
Step 5: Review ongoing matters
The final step is to review all other ongoing financial matters including estate planning documents (wills, power of attorney, etc.), personal insurance (income protection, life and TPD, etc.), tax planning, interest rates and mortgage structure, superannuation and so on. These matters should be reviewed periodically – at least every 1-2 years – just to ensure they are current.
The goal is to identify anything that needs to be actioned during 2021.
Step 6: Set goals and an action list.
After you have undertaken the 5 steps above you should have a clear list of things to do or action during 2021. Prioritise the list and do the most important task first. Delegate as much as possible. You should surround yourself with a professional and trustworthy team that may include a financial adviser, accountant, mortgage broker, insurance advisor and property advocate.
Of course, notwithstanding my vested interest, it would be remiss of me to not mention that engaging a holistic financial services firm makes this whole planning experience a lot simpler. You have one team, that is all on the same page, working for you to make your financial and lifestyle goals become a reality.
A goal setting tips…
I hope it doesn’t sound too ‘out there’ but there are some steps you can take to increase the likelihood of you achieving your goals. I have used these methods over the years, and they have worked for me.
The first idea is to create a vision board – see here. A vision board is a visual representation of your goals.
The second is to write a vision i.e. describe a day in your life assuming that you achieve your goals. Be as specific as possible. Where you live, how much money you have in the bank, your relationships, what you do day-to-day, how you feel, etc. – whatever is important to you.
And thirdly, created accountability for achieving the tasks/goals that you have set out for yourself. Select a friend or family member and share your goals with them. Then ask them to meet with you every quarter to hold you accountable. Being held accountable massively increases your chances of success.
If you haven’t done anything like this before, it may sound a bit weird. But I’d encourage to give it a go. There’s a very good chance it will work.
