How to Develop a Financial Plan: A Five Step Guide

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During my time at the Harvard Pre-College Program, I was introduced to a five step method for developing a clear and effective financial plan. I learned how a financial plan is crucial to living comfortably and achieving both life and financial goals. It also provides a framework for making informed decisions about spending, saving, and investing.

In this post, I’ll walk you through this five-step guide, with the hope that you can use these steps to develop your own financial plan, regardless of your age, background, or current financial situation.

0. Establish your Life Goals

This is considered "step 0" of the process because it happens before you actually start developing your financial plan. It is a crucial step because it gives you the motivation to stay dedicated and follow through with your financial plan and to remember why you are making the financial decisions you have to make in both the short-term and long-term.

The questions you should address for this step include:

• What are your short-term life goals?

• What are your intermediate-term life goals?

• What are your long-term life goals?

Notice how the life goals are broken down into different time lengths to guide you throughout your complete journey in life. Importantly, short-term is considered in the next few months or year, intermediate in the next one to five years, and long-term past five years. However, this description might be susceptible to change depending on individual circumstances (e.g. the long-term for a 15 year-old will be considered further in the future than for a 60 year-old).

Some common life goals established by people of all ages and backgrounds include:

• Improving health by eating healthier or working out more (short-term)

• Learning a new skill (short-term)

• Building stronger relationships with family and friends (short-term/long-term)

• Career advancements (intermediate-term)

• Complete a degree or certification (intermediate-term)

• Financial stability (intermediate-term)

• Travel (intermediate-term/long-term)

• Purchase a home (long-term)

• Retirement planning (long-term)

• Major career milestones like reaching a top position in a field or starting a successful business (long-term)

• Working on projects that have a lasting impact on the community or the world (long-term)

1. Establish your Financial Goals

After establishing your life goals, you can now move into the financial goals which involve defining your financial priorities and outlining the steps needed to achieve them.

The questions you should address for this step include:

• What are your short-term financial goals?

• What are your intermediate-term financial goals?

• What are your long-term financial goals?

Similar to the life goals, the financial goals are also separated into different time lengths in order to provide structure and clarity, making it easier to track progress and adjust your strategies as needed. This approach allows you to prioritize immediate needs while also planning for future aspirations.

Some common financial goals include:

• Building an emergency fund (short-term)

• Paying off debt (short-term)

• Saving for retirement (long-term)

• Buying a home (intermediate-term/long term)

• Saving for education (intermediate-term/long term)

• Investing for wealth growth (intermediate-term/long-term)

• Planning for major purchases (short-term/intermediate-term)

• Improving credit score (short-term/intermediate-term)

2. Consider your Current Financial Position

It's always important to recognize your current financial position so you can keep grounded and make realistic and achievable plans for the future.

The questions you should address for this step include:

• How much money do you have in savings?

• What is the value of your investments?

• What is your net worth?

Remember that evaluating the value of an investment involves understanding its potential returns and associated risks, and that net worth is the value of all assets minus any liabilities.

3. Identify and Evaluate Alternative Plans

This step involves diving deeper into the potential actions you might take to achieve your financial goals, and evaluating if there are any other routes you can take. By assessing the potential benefits and drawbacks of each alternative, you can choose the most suitable path that aligns with your objectives and risk tolerance.

The questions you should address for this step include:

• How can you obtain the necessary funds to achieve your financial goals?

• Will you need to reduce your spending to save more money each month?

• Will you need to make investments that generate a higher rate of return?

4. Select and Implement the Best Plan

Finally, the last step involved with developing a financial plan includes the actual selecting and establishment of the plan you believe suits you the most. Be sure to take your risk tolerance and life goals into consideration when choosing and implementing the best plan.

The questions you should address for this step are:

• What are the advantages and disadvantages of each alternative plan that could be used to achieve your goals?

• How does each plan align with my current financial situation and future aspirations?

The Bottomline

Overall, creating a financial plan is essential for reaching your life and money goals. By following these five steps—setting your goals, understanding your current finances, exploring options, and choosing the best plan—you can make smart decisions that fit your dreams. Remember, your plan should adapt as your life changes, keeping you on the path to a secure and happy future.

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