This means understanding what your true after-tax income is and what your fixed expenses are. Fixed expenses may include liabilities, such as mortgages or student loans. It’s important to know how much disposable income you have. Only once you know what your disposable income is can you allocate it in the most efficient manner. For you, that may mean paying down additional debt, setting aside money for a cash reserve, or increasing investment contributions for a particular goal. If you want to better understand your complete financial picture, I highly recommend the app Mint. Especially if you pay everything with a credit card it’s very easy to track a budget on Mint. If you do use Mint, don’t worry about itemizing every single transaction as much as keeping track of your entire outflow.
2. Automate savings and bill paying
It’s honestly amazing how little you need to invest these days and the costs associating with doing so. There are so many options for automated savings into diversified investment portfolios there’s really no excuse not to at least start something. Even if it’s $100 a month, you want to have the option readily available so that you can increase contributions at any moment. If you don’t take the time to establish these accounts, it’s less likely you’ll make the contributions once your cash flow permits. For fixed expenses use auto payment so that you can focus on what’s left over for discretionary spending.
3. Develop a cash reserve
I’ve wrote about this previously, and yes it’s still lame (but needs to be said)! Having 3-6 months’ (or more depending on circumstances) worth of living expenses is essential to allowing yourself the flexibility to invest the way you want to. The opportunity cost of holding that money in cash is negligible and worth it. There will always be times in life where unexpected lump-sum expenses arise. Credit cards should be seen as a secondary reserve for true emergencies.
3. Focus on improving net worth
Paying down debt also increases your net worth. As long as you are increasing your net worth in some way, you’re moving in the right direction. In the long run, your net worth is much more important than your income. If you save and invest properly, your net worth will have the potential to fluctuate more in a single week than what you currently make in a year. It’s not what you make, it’s what you save. Again, the app Mint is a great way to track your net worth. Mint even allows for the tracking of real estate (via zillow) and vehicles (via Kelley Blue Book).
4. Use your credit card like you would your debit card
Credit cards serve a couple purposes. They serve as an intermediary to protect you from fraudulent charges (since it’s technically not your money). They provide rewards, such as cash back or travel miles. Lastly, they provide cash flow support in true emergencies. Otherwise, it’s best to treat them as you would your debit card, meaning you spend only what you have in your actual bank account so that you can pay it off in full each month.
5. Live for today while planning for tomorrow
Don’t live your life worrying about every dollar you spend. Focus on the big expenses and let automation be your friend. Understand the trade off between what really makes you happy and the extra stuff that you don’t really need. I’ve never been a fan of worrying about tracking every little expense. If going out to Starbucks with your friends for a $5 latte makes you happy, then do it. Financing a $50,000 BMW on the other hand will set you back. Focus on the major expenses in life and keep perspective on the small ones.
Full Disclosure: Nothing on this site should ever be considered to be advice, research or an invitation to buy or sell any securities
Arguably the most important question you can ask your advisor. Incentives are a powerful motivator, and even the best advisor can be compromised when given incentives that do not align with the client’s best interest. A quick way, (although not foolproof) is to ask if your advisor is considered a “fiduciary”. Being a fiduciary means the person is legally required to do what’s in the best interest of the client. If the advisor is considered a fiduciary and does not do what’s in the best interest of the client (i.e. selling a product solely for the benefit of the advisor), then they’re leaving themselves open for lawsuits. Consider working with a fee-only advisor since their business model by default dictates they act as a fiduciary. If the advisor works based on commission, be very skeptical, since products can offer a wide variety of commissions to the advisor. The advisor may be incentivized to sell higher commission products that are deemed “suitable” for the client, but not necessarily what’s in the client’s best interest.
2. What is the advisor’s investment philosophy?
Does the advisor have a passive or active approach to investing, or maybe a combination of both? How does the advisor determine an appropriate asset allocation for a client? What factors warrant changes to client’s investments; for example, changes to a client’s circumstance versus changes in market environments. There is no perfect answer, as a wide variety of investment philosophies can drive long term success. However, you should look for an advisor who has a disciplined process, and one that can be reasonably/easily explained in plain English. Some of the best investment strategies can be very simple, but require behavioral coaching to make sure the client sticks to the chosen strategy. Don’t be sold on complicated investment strategies that you can’t understand; the finance industry has developed jargon over the years to keep consumers from asking important questions.
3. How does the advisor select investments and products; are there any proprietary products?
This goes along with question 1 and how an advisor is compensated. Again, if an advisor works for an overarching corporation, that does not necessarily mean they’re bad, however, they often have incentives from the corporation which may or may not align with the client’s best interest. The corporations are concerned with driving profits and appeasing shareholders, which can sometimes trickle down to the clients being taken advantage of. An example of this abuse can come from proprietary products. Many large broker-dealers and investment firms own mutual fund subsidiaries, whose funds their advisors can recommend to clients. Advisors may be incentivized to use a particular fund family because they are owned by the overarching corporation, regardless of the fund is the best one for the client. Proprietary products are not necessarily the number one thing to be wary of, it’s just better to have an advisor who you know has no incentive to recommend one investment over another.
4. What value does the advisor provide beyond investment returns?
With fee margin compression and investment automation, investment returns should not be the sole value provided by your financial advisor. Does your advisor provide advice on other financial aspects of your life? For example, budgeting and cash flow, protection planning, education planning, estate planning, and tax planning. You should look for an advisor who provides holistic advice, meaning they’re looking at how each aspect of your financial life is connected. The investment returns are only a piece of the pie.
5. What are the advisor’s expectations of you?
What does the advisor expect from your relationship? How often are you expected to meet and review your financial situation? Ask the advisor what their ideal client relationship looks like so that you can both properly set expectations. Setting expectations for both the client and advisor is crucial in creating a successful partnership. Discussing finances can be emotional, therefore it’s important to work with someone who you can trust and be open with.