Chapter 4 Financial Decisions and Planning What Are

Chapter 4 Financial Decisions and Planning

What Are Needs and Wants? • Needs are things you must have. o Examples: food, clothing, shelter • Wants are things people desire. o Examples: new cars, vacations, luxury items • Financial resources are used to acquire goods and services. 4 -1 Resources and Choices Slide 2

What Are Needs and Wants? • Financial resources are used to acquire goods and services. • Include: money or other items of value • While financial resources are limited, wants and needs are unlimited and growing • You will have difficult decisions between wants and needs • The amount of money a person has to spend after needs are met is called discretionary income. 4 -1 Resources and Choices Slide 3

How Are Income and Wealth Measured? • • • Wealth: items of value minus any debts owed Personal cash flow statement lists cash inflows and outflows. o Inflows = income o Money received from your job, investments, other sources o Outflows = expenses o Net income = positive cash flow o Net loss = negative cash flow o SHOW CASH FLOW STATEMENT Personal net worth statement shows a person’s net worth based on assets and liabilities. o Assets = money or items of value o For assets like Cars, value is based on the price you could sell for. o Liabilities = debts o Amount owed for car is liability o Difference between assets and liabilities is net worth o Assets that grow in value are appreciating and assets that decline in value are depreciating 4 -1 Resources and Choices Slide 4

How Is Wealth Measured? PERSONAL NET WORTH STATEMENT Assets Cash and checking account Liabilities $ 452. 56 Car loan $1, 100. 00 Savings account 500. 00 Credit card debt 200. 98 Savings bond 300. 00 Total liabilities $1, 300. 98 Baseball card collection 100. 00 Computer, i. Pod, games 300. 00 Car, current value Total assets 3, 000. 00 $4, 652. 56 Net Worth Assets minus liabilities Total liabilities and net worth 3, 351. 58 $4, 652. 56 Net Worth 4 -1 Resources and Choices Slide 5

How Can You Make Good Financial Choices? Decision-Making Process • When you give up one option in exchange for another you make a trade off. • The trade off results in an opportunity cost, which is the value of the next best alternative • Value can be measured in dollars, time, convenience, enjoyment, and so forth • Give Ipod and bicycle example 1. Define the need. • What need or problem will be resolved from buying the item or service. • Computer for online research 2. List options for meeting the need. • Buy or borrow computer • Go to library 4 -1 Resources and Choices Slide 6

How Can You Make Good Financial Choices? 1. Compare the options. o List advantages and disadvantages o Consider the opportunity cost—the value of your next best option. o Opportunity costs of using library computer vs buying 2. Make a decision. 3. Take action based on your decision. 4. Reevaluate your choice. • Buyers remorse? • Make purchase that you later regret 4 -1 Resources and Choices Slide 7

What Is the Purpose of Budgeting? • A budget is a spending and saving plan. • Similar to cash flow statement because both record income and expenses. • However, a cash flow statement differs because it lists actual cash inflows and outflows to show much money you have available at a certain date. 4 -2 Basics of Budgeting Slide 8

What Is the Purpose of Budgeting? • Spreadsheet allows you to answer what if questions. • What if expenses go up 8%? • What is the price of the car you are saving for goes up 10%? • What if prices on utilities drop 5%? 4 -2 Basics of Budgeting Slide 9

How Do You Prepare a Budget? • Step 1: Estimate income • Keep track of money both earned and unearned. • Money should be calculated in weekly, monthly, and yearly • Once you see the big picture you're about to see how much comes in and goes out. It may change your spending habits. • Step 2: Plan savings • Pay yourself first, put money into savings before you consider other expenses. • Plan how much you want to save each month. This amount may have to change based on your expenses. 4 -2 Basics of Budgeting Slide 10

How Do You Prepare a Budget? • Step 3: Estimate expenses: expenses are items which you spend money. • Lunch, clothes etc. o Variable expenses: costs the go up and down every month o Gas or electric bill fluctuate with weather o Can vary due to changing prices o Food, clothing, and entertainment are all variable. o Fixed expenses: costs that do not change o Rent, insurance, car payments o Fixed expenses remain constant even when income does not. o If you lose you job, you may have to eliminate a fixed expense if you cannot afford it. An example would be a car. 4 -2 Basics of Budgeting Slide 11

How Do You Prepare a Budget? Charitable giving: act of donating money or time o Donate through the church o Donate money to red cross to help victims of natural disaster. • Step 4: Balance the budget • Savings and expenses should equal total income. • When these amounts are the same, the budget is balance o 4 -2 Basics of Budgeting Slide 12

Personal Budget Income Work (part-time) Allowance for household chores Lunch money allowance Savings account interest Total income Weekly Monthly Yearly $30. 00 15. 00. 50 $55. 50 $120. 00 40. 00 60. 00 2. 00 $222. 00 $1, 440. 00 480. 00 720. 00 24. 00 $2, 664. 00 $ 5. 50 $ 22. 00 $ 264. 00 Gifts Clothes and shoes Loan payment to parents Lunches Entertainment/miscellaneous Total expenses $ 5. 00 15. 00 10. 00 $50. 00 $ 20. 00 60. 00 40. 00 $200. 00 $ 240. 00 720. 00 480. 00 $2, 400. 00 Total savings and expenses $55. 50 $222. 00 $2, 664. 00 Savings Deposit to savings account Expenses 4 -2 Basics of Budgeting Slide 13

Budget Analysis • Variances – Favorable Variances – Unfavorable Variances – When you spend more than 10% of what you planned you should look at it carefully. Slide 14

Recordkeeping Methods • Manual records • Electronic records Slide 15

Focus On. . . Philanthropy • • Philanthropy is a form of charitable giving. It supports a societal cause. It often lasts for an extended period of time. It is the primary source of funding for the fine arts, performing arts, and most religious and humanitarian causes. 4 -2 Basics of Budgeting Slide 16

What Is Financial Planning? • Financial planning is a process of looking at your current financial situation and thinking about your future. • More than a budget. • Purpose is to plan for earning, saving, spending, and investing to allow you to achieve goals today and in the future. 4 -3 Personal Financial Planning Slide 17

What Is Financial Planning? • Step 1: Gather financial information – Everything related to your finances should be considered – List of financial records. Need to prepare first 3 • Cash flow statement, Net worth statement, Budget, Checkbook, Bank statements, Investment accounts, Insurance policies, Paycheck stubs, Tax returns, Wills, Trusts, Credit accounts, Any legal documents related to finances – At some point you will need to retire. – Look at medical history and medical history of family members to estimate life expectancy – You should plan to meet financial needs all the way to the end of life 4 -3 Personal Financial Planning Slide 18

What Is Financial Planning? • Step 2: Analyze information – Look at inflows and outflows – Answer questions • Is your income growing over time? • Is your net worth growing? • How are your spending habits changing? • Who else depends on your income? • What new goals do you need to add and plan? 4 -3 Personal Financial Planning Slide 19

What Is Financial Planning? • Step 3: Set goals o o o Personal goals: things you want to achieve in your life Financial goals: describe how you will pay for your personal goals. Short term goals: one week to one year o Replenish the money spent on PS 4 in savings account Medium term: 2 – 5 years o Save money for college o Increase income over the next 3 years Long term goals: 5+ years o Contribute to 401(k) for retirement o Buy a car 4 -3 Personal Financial Planning Slide 20

What Is Financial Planning? • • Step 4: Develop a timeline and benchmarks – Timeline: visual display of how long it will take to achieve each phase of your plan – Timeline should include benchmarks, which are standards progress is measured against. Step 5: Implement and evaluate the plan – Since goals and plans change, you need to constantly update your plan 4 -3 Personal Financial Planning Slide 21

Financial Plan (One Goal) FINANCIAL PLAN Net worth on April 1, 20 --: $525. 56 Personal Goal Financial Goal Benchmarks Timeline Live in my own house in the country. 1. Save money for a down payment ($12, 000) 5 years Buy a house in the country. • Set aside $200 per month Once per month • Open a separate account for money saved April 8 (next week) • Talk to a mortgage broker to get prepared Make an appointment for April 15 2. Get a job that provides enough income to make monthly payments 4 -3 Personal Financial Planning 2 years Slide 22

Where Can You Get Good Financial Advice? • Financial planners • Financial experts • Newspapers and magazines • Seminars and workshops • Financial websites 4 -3 Personal Financial Planning Slide 23

How Can You Protect Financial Resources? • • • Deal only with financial advisers you know and trust. Keep good records. Verify account balances regularly. Guard passwords. Be aware of phishing. – Internet scam in which an e-mail is sent from someone posing as your bank or other legitimate business asking for personal information. Guard against identity theft. 4 -3 Personal Financial Planning Slide 24