When it comes to money management, there seem to be dozens of distinct goals. Saving for retirement, college, a house, a car, a trip, and, perhaps, occasionally enjoying life.
All of these factors are crucial. But where do you start? How do you determine the most efficient path? And, most importantly, what will genuinely make you happy?
This article on how to set financial goals is intended to help you answer these and other important financial planning concerns.
Let’s get started.
Table of Contents
Step #1: Gather Accurate Data
One of The Ways To Wealth’s basic ideas is to treat your personal money as a company. This provides you with an accurate, objective view of your financial history, present, and future.
So Step #1 is to take a clear, honest look at your existing financial status.
The simplest approach to accomplish this is to establish a net worth statement that includes:
- Your assets (what you own).
- Your liabilities (what you owe).
For the time being, the purpose is just to compile a list of your assets and liabilities.
Tips and Recommended Resources:
- This step is about where you are now, not your mistakes in the past. So there’s no need to evaluate yourself or critique your previous decisions.
- Items such as furniture, personal jewelry, collectibles, household goods, and apparel should be excluded from your net worth unless they have considerable value and can be sold.
- There are numerous high-quality financial tracking apps available that can assist you in gathering and automatically updating this information.
Step #2: Understand Your Financial Needs
You can do almost anything to achieve your financial goals. However, you cannot accomplish everything. A solid relationship with money entails focusing on the goals that will benefit you the most.
So, what is most essential to you? Is it about getting out of debt? Become financially responsible. Creating an emergency fund? Traveling? Saving money? Preparing financially for a baby?
The first three steps of Dave Ramsey’s Baby Steps provide an excellent starting point for defining financial goals.
The steps are:
- Create a $1000 emergency fund.
- Pay off all debts except your mortgage.
- Save three to six months’ worth of spending.
It’s a simple structure that will help you figure out how to manage your money. Once you have a $1,000 emergency fund, you can pay off your debts (except your home). Once your non-mortgage debt is paid off, you should save for a 3-6 month emergency fund.
The objective is to focus on only one goal at a time.
Remember that Ramsey’s baby steps are easily debunked.
For example, is it better for you to pay off all debt, including a low-interest student loan, rather than simply high-interest debt?
If you’re not sure if this is the best option for you, read our piece on the Baby Steps framework, which goes over the advantages and cons in further detail.
Step #3: Think Outside the Spreadsheet
Ramit Sethi, author of the best-selling book I Will Teach You To Be Rich, frequently utilizes the phrase “live outside the spreadsheet.”
In other words, he’s arguing that spreadsheets should be used as a guidepost, but they shouldn’t be the center of your existence or something you obsess about.
This is why I dislike the term “financial goal-setting.” While it is vital to define fundamental financial necessities, like we did above, putting the phrase “financial” in front of goals tends to make people think about simply what looks good on a spreadsheet.
The best strategy is to identify overall life goals first, then reverse engineer the financial modifications required to accomplish those goals.
In the financial planning profession, there is a trend toward this style of thinking known as life planning.
George Kinder developed life planning, which is summarized as follows:
“Life planning emphasizes the human aspect of financial planning. In life planning, we use a methodical and nonjudgmental questioning process to find a client’s deepest and most profound aspirations. Then, utilizing a combination of professional and advanced relationship skills, we motivate clients to pursue their dreams, analyze and resolve roadblocks, develop a concrete financial plan, and give continuing support as clients achieve their goals.”
The cornerstone of life planning is built around three key questions.
Life Planning Question #1
Imagine you are financially stable and have enough money to meet your current and future demands. How would you lead your life? Would you change anything? Allow yourself to go. Don’t hold back your dreams. Describe a life that is fully and generously yours.
Life Planning Question #2
Imagine you go to your doctor and he tells you that you only have 5-10 years to live. You will never feel ill, but you will be unaware of when you die. What will you do with the time you have remaining? Will you change your life, and if so, how? (Remember that this question does not presume unlimited wealth, so respond depending on your present earnings.)
Life Planning Question #3
Finally, picture your doctor telling you that you only have 24 hours to live. Consider what emotions occur when you face your very real mortality. Consider what you may have missed. Who didn’t you get to be? What didn’t you get to do?
Your answers to these questions can help you determine what is important to you. From there, you might consider how to use money as a tool to create the life you want. That is the polar opposite of how most people perceive money, which is viewed as an end in itself.
Step #4: Set Financial Goals for the Life You Really Want
If you took the time to answer the questions above (Step #3), you should have noticed that they become increasingly difficult. It’s easy to imagine what you’d do if money weren’t an issue, but it’s more difficult to consider what you regret not doing.
What relevance does this have to financial goals? Understanding your life’s priorities allows you to make financial decisions that match those priorities.
Of sure, some priorities should be simple. Examples include creating an emergency fund, budgeting for your first apartment, saving for a down payment on a home, or beginning to establish an investing portfolio.
However, you must set your own priorities. You should not buy a home just because everyone believes it’s the appropriate thing to do. Instead, do it because it aligns with your values (such as wanting to raise your family in a stable atmosphere).
Don’t do anything if your priorities aren’t aligned!
Clarify Your Financial Priorities
Creating a list of your priorities is an essential step in developing your financial plan.
Review your responses above to determine your top priority, as well as a list of the top five.
This does not have to be official; simply scribble them down, like in the example below:
- My number one priority is [your top priority].
- My top priority are [your top five priorities].
Examples of financial values can include:
- Experiences with your loved ones.
- Personal growth and development.
- Realization of your potential.
- Bringing up children in a stable household.
- Freedom and independence.
- Leaving your children and grandchildren in a better financial situation.
It is quite OK that not everyone will have five goals. Often, one overarching goal makes sense, such as repaying high-interest debt. And achieving one goal can take a year or more. Nonetheless, you want a goal or collection of goals that are actually achievable within a year.
Put Your Plan in Motion
Now that you’ve established your one-year goals, it’s time to break them down into shorter-term steps.
What do you need to accomplish in the next month to get on track to meet the goals you’ve set? Create a 30-day action plan for each of your one-year priorities.
For example, if your objective is to develop an emergency fund, the immediate measures might be:
- Determine a goal quantity.
- Open a savings account to store your money.
- Set up an automatic transfer from your checking to your savings account (that is, pay yourself first).
All of this can be completed in a day.
It is here that cash flow planning, the most significant part of developing a financial plan, becomes critical. More particular, understand the difference between how much you spend and save each month.
From there, handle your money in a way that guarantees it is directed toward your financial objectives.
I am a firm believer in reverse budgeting, which involves automatically paying your goals first. With this structure, if you want to save for a three-month emergency fund, the money is automatically withdrawn immediately after your paycheck is deposited into a separate bank account.
Step #5: Track Your Progress
Setting objectives without tracking progress is a waste of time.
Setting financial objectives is a constantly evolving process. This process includes revisiting your goals on a regular basis, making course corrections, and defining new goals along the way.
At the absolute least, you should begin reviewing your progress toward your goals every 30 days. Once you have everything under control, you may find that a quarterly or annual schedule is sufficient.
Some of your goals, such as paying off your credit card, may be fulfilled quickly. Others, such as saving for retirement, may take years.
Long-term goals are important but so is appreciating the present. After completing this method a few times, you’ll understand how to strike the proper balance.
To ensure you’re on the right track, I recommend following some fundamental financial ratios. Then, put down some ideas regarding what you’ve accomplished in the last month.
Final Thoughts on Financial Goal Setting
Too often, people approach personal finance as if it were Monopoly, with the goal of accumulating as many assets as possible.
However, that is not how the game of personal finance is won.
One of the most used terms on the site is to make personal finance personal. In other words, you should handle your money based on your own goals and ideals, not mine or anybody else’s.
To accomplish this, you must first establish your own priorities. Then you work your way backward to establish financial objectives.
So, whether you’re paying off debt, building an emergency fund, saving for retirement, or anything else, try not to see it as just another duty to complete and get out of the way. Instead, consider how to incorporate them into your overall life goals.
Money is a means, not an end. The key is to properly use it so that you can live the life you desire.