|If you had to choose between sitting down at the kitchen table to set financial goals or sitting on the beach in the Caribbean, you would probably choose the beach. But how would you pay for it? Goal setting may not be as exciting and fun as a vacation, but it helps you to save for and achieve exciting and fun things, as well as things that may not be as exhilarating but are still pretty important - like retirement or sending the kids to college.
The first step in achieving your financial goals is determining what your goals are. For right now, just think about the goals themselves and when you want to achieve them – don’t worry about the cost. Do you want to buy a new computer in a year? Have a down payment for a house in four years?
Once you figure out what your goals are, you can then calculate how much you will need and what you should set aside each month. How you do this depends on how much time you have to reach the goal.
- Short-term goals can be reached in under a year. To know how much you’ll need to save, look at what the cost of the goal is now – it is unlikely that the price will be that much different seven or eight months down the road. Once you know the total amount you need, determining the amount you need to save each month is easy - just divide the cost by the months until your goal date.
- Mid-term goals take one to five years to achieve. To determine the total cost and amount you need to save per month, you can use simple division, like you would for a short-term goal. This especially works for lower-cost goals and goals that are on the shorter end of the spectrum. For goals closer to the five year mark, you may want to take into account inflation and investment return the way you would with long-term goals. The math for the first method is much easier, but the second gives you more accurate numbers.
- Long-term goals are achieved in more than five years. These can be trickier to plan for because you may need to consider inflation and your projected return on investment. Once you determine what those will be, you can use a financial calculator to decide how much you’ll need to set aside every month.
- Inflation - What you want today will likely cost more in the future. To figure out how much, decide the rate of inflation you will use. You can do research on what the inflation rate has been historically for your goal, but if you can’t find anything specific, you can use the general inflation rate which in recent years has hovered around 3%. Don’t worry too much about coming up with a precise inflation rate – even economists sometimes disagree on what to use.
- Projected rate of return - It is a good idea to factor in the return that you expect to earn on your investments. For example, if you put money in a certificate of deposit (CD), you will be paid interest. If you invest your savings in stocks, the value of the stocks may increase over time, and you may also receive dividends. Some investments may come with a fixed rate of return that you know ahead of time. If what you plan to invest in doesn’t, you will have to estimate what you expect the return to be. One way to do this is to look at what the return has been in the past. Of course, that is no guarantee of future results.
After you set your goals and determine what amount you need to save each month to reach them, it is a good idea to consider if you can actually save that much each month. If your goal plan tells you to save $1,500 a month but your income is $1,700 a month, you probably will need to make some changes. To determine how realistic your goal plan is, start by comparing your current income and expenses. If there is not enough money in your budget right now to save what you want for your goals, consider if you can make any changes to your income and/or spending.
If you still fall short after making adjustments to your budget, you may have to rethink your goals. Is there a cheaper alternative available? Can you extend the timeframe? Are there any goals that are less important that can be dropped? Maybe you would really love to buy a $5,000 garden gnome but having enough money for retirement is a bigger priority.
Your savings should be the first “bill” you pay each month. But what if you simply can't put the $150 into your Maui extravaganza fund one month because your transmission blew up? Resist the urge to panic, and consider it a temporary setback. With a little extra effort, you may be able to make it up over the next couple of months. Or you may be able to alter your plans or achievement date slightly. However, if you find yourself regularly unable to meet your savings goal, there may be deeper issues to contend with. Were you too optimistic with those overtime hours? Couldn't give up smoking to save the extra $100 per month? Or perhaps the goal really wasn't for you – you thought a new computer was vital to your happiness, but the prospect of owning it just isn't giving you the thrill you anticipated. Revisit your goals and budget and make adjustments so that they are more achievable.
By taking the time to set financial goals, you can go from wishing to having.