This article is called “Taking Stock”. We are going to talk about the two most important principles to start your road to building wealth.
Know Where You Are
In 2008, I consulted an investment company and ended up moving most of my investments into their vehicles. Over the past six years, I received my quarterly reports, but I never really had a good idea of how they were doing because the reports never told me what my overall gain was. This was a big problem – and against the principle of knowing where you are. In the end, I moved all my
investments into institutions where I could see clearly my money growing – and going (fees). In order to become wealthy, you have to start somewhere. Last week, we said Start Today. This week, you need to focus on Knowing Where You Are. It’s time to determine your financial inventory.
Your financial inventory will help you determine your net worth, which is the quintessential measure of your true wealth. If you are not familiar with calculating your net worth, check out my article called “Calculate Your Net Worth“, which gives you a short summary of how to proceed, and also a link to my Net Worth Worksheet. Once you complete a net worth statement, you will have a definitive inventory of all your financial assets and liabilities. We will be using this inventory in the upcoming months.
Know Where You Are Going
The second principle that will help you start your wealth journey is to understand your future objective – make a goal. If you want to take a driving vacation in another town, you need to make a plan. Where is the destination town? Is it 30 kilometers away or 300? You need to prepare your vehicle, find a place to stay, pace yourself on the drive, and plan your actual driving route to the destination (accounting for possible problems like bad weather, construction and traffic). When you check to make sure your car has a full tank of gas and that it is in good working order, you are knowing where you are – you’re taking inventory of your current state. Once you plan the route, make reservations and account for possible delays, you know where you are going.
In order to retire wealthy, how much money will you need? How will you get it? Are you hoping for a lucky windfall in the lottery or an inheritance from a rich parent? Most of us won’t have such luck, and it’s up to us to get ourselves to the land of milk and honey (or wealth and money). Once you have a concrete idea in your head of where you want to be, then you can develop a plan
to meet your future needs. We’ll discuss how to make that plan in the upcoming weeks.
When planning a retirement over 10 years away, you can’t rely solely on CPP (Canada Pension Plan) and Old Age Security (OAS) to fund your golden years. The income from CPP and OAS isn’t currently matching the rate of inflation, and the costs are soaring out of control. There have been many recent articles (2014 / 2015) about the dwindling funds in those plans and consequently, those in their working years are going to be paying even more so there will be something for their retirement as the baby boomers draw on the government funds currently in place.
How much is enough to retire on? Expect that you will need between 50% and 80% of your current gross income in order to retire comfortably.
Why so big a spread?!
The reason for the huge variation is that every financial situation is different. If you are a person who is mortgage-free, has no other debts, aren’t funding your child’s education (or adulthood), have no unexpected medical emergencies, and don’t plan on spending excessively above your current lifestyle (ie., space tourism), you will likely be able to maintain your lifestyle with 50% of what you are earning now. For most people, their mortgage is the biggest expense and hopefully you won’t be paying for your house into your retirement. If you plan on touring the world and doing everything you put off doing during your working years, then you should consider setting a higher goal for your retirement savings.
Here’s a sample calculation to help you understand what I mean. Joe is currently making $50,000 per year. He hopes to retire with no debts, no unplanned adult children living at home and with no plans to spend exorbitantly in his retirement years. He’s also hoping to live until at least 90 years old. We will assume that Joe fits in with the 50% model. That would mean that Joe will need $25,000 (of his own money – he will get CPP when he retires, as well as OAS if his yearly income is too low). For the sake of simplicity, we aren’t not taking into account any growth on investments, inflation, unexpected medical costs and other factors.
Life expectancy: 90
Retirement age: 65
Yearly amount Joe needs to provide from his own savings: $25,000
25 years of income @ $25,000 = $625,000 total savings required
Joe will need $625,000 in retirement savings when he retires at 65 based on the low expense, 50% model. He will still receive CPP and possibly OAS as well. There are still unanswered questions for Joe. What if he lives longer than 90? What if there is a terminal illness with high medical expenses? What if Joe’s children get divorced and need some help getting back on their feet? All of these circumstances would mean Joe needs more than $625,000.
As you can see, if Joe has not started saving already or has no pension plan, he’s got some work to do.
If you are like Joe, it’s time to think about taking a financial inventory (part of your net worth statement), and start putting aside some money Today.
Next Week: Start Your Journey
Once you have a financial inventory, a net worth statement and a goal, you can look at planning how to reach that goal. We’ll start talking about that next week.