It is actually quite scary to make a financial plan that lasts a lifetime. There are more things we do not know than things we know for sure. Yet, I made the effort to make a financial plan to guide my actions, and guess what: it is wrong! But it is perfect for me.
My first attempt dates from 18 months ago. It was nothing more than a spreadsheet that tried to guesstimate my assets by the time I retire at age
65 67. It was very basic: a list of everything I have and what I plan to save going forward. I added some compounding interest formula and tada… a number comes out. What to do with it? Is it enough? I had no idea.
Over time, while reading more on financial planning, I started to add some more personal insight to the plan. The current result: the long term goals that I use as the basis for the planning and a plan to retire in 2029.
The simple fact that I started to think about the future made that I needed to do a few things.
A plan is an action list that tells you how to go from A to B.
So, I did the following
- Where is A?
- Where is B?
Finding A is clearly the easy part of the equation. It all started about 18 months ago. I listed everything I have and own. It took some time to find everything and log it.
Defining B is more difficult: We know a few basic longer terms goals we have. It can be resumed in one word: FREEDOM. The freedom to do what we want. Not being held back by money, a boss or other constraints. So, this is what we want to reach. Freedom is hard to enter in a spreadsheet as a comparison value. The next step is to translate this into a real number. To keep things easy for now, we go with the 4 pct rule.
Let the planning start
Now we know where we are and where we want to go, we can make a plan. By guesstimating our yearly income and expenses, we can see how much we can invest. Next to that, these investments will compound over time. The end result is my FIRE tool.
All of this sounds rational and reasonable. So, how and where is it wrong? There are many flaws in the plan.
The 4pct rule needs my future spending. I have no clue what this will be, so, I made a best guess estimate by starting from our current budget. I add some items and remove some items.
The plan needs the following years income and expenses. Again, no guarantee that the number I put on it is correct. Using the principles above and leveraging our budget, we can make some educated guess.
Yield over the next 15 years. Here I went with a conservative estimate that reflects my current low risk asset allocation.
We love to travel and will in due time do some works in the house. Let’s add this to the plan.
This plan has a lot of guesstimates, a lot of assumptions and moving parts. By just tuning one element, I can be FREE 2 years sooner or later. The yield is a good example. An increase to a more commonly accepted return brings the FIRE date 2 years forward.
How can this be an good?
I am a believer in 2 things
- A plan is above all a communication tool. It allows you to communicate a message. I use it to discuss the subject with my wife, to keep me focused and on this blog. It provides a framework to guide decisions. It allows to split the problem into eatable pieces
- A plan provides also a bench mark. It allows me to measure progress against a set number of goals. By doing regular check ups, I can see if the plan needs adjustment
- The amber index measures the progress in net worth compared to the plan. This way, there is a clear black and white input: Are we on track to our date? If not, we now we need to adjust the plan. It is better to do this in 2016 than all the way at the end in 2028. The margin for correction is just not available anymore.
- Each year, I update the parameters that go into the plan. As time progresses, I have a better view on our ongoing expenses and our expected income. We can also update the expected travel plans and house upgrades. As such, each year, we tune. Again, better now than seeing in 2028 that we might need 3 more years.
By having a plan in place that is based on best guesses, and by following up on a regular basis this plan, I do believe we are far better off than people that have no plan at all. In my opinion, they make even bigger assumptions on the future outcome of their savings. And by not measuring from time to time, they will be surprised at the end. In some cases they will be happily surprised, in other cases, they will be disappointed.
How do you deal with this incertitude that comes with planning this far ahead?