6 Key Pillars of a Financial Plan

The first step is to decide what you would like to achieve. Once you have clear goals in mind, the decisions become a little easier.

Remember, financial planning is not a single event, or something to tick off your to do list. There is no deadline or end point. It’s an ongoing process that maps your financial decisions for the rest of your life. Just as your circumstances evolve, so does your financial plan.

Some people prefer to deal with all of their financial planning needs at once, requiring only an annual check-in thereafter to make sure everything is ticking along. Others may find this overwhelming, and prefer to address one area at a time, with one eye on the wider strategy.

The starting point is to break it down into 6 key areas.

1. Budget
The first step in creating your financial plan is understanding how much you are earning, spending, and saving.

To calculate your income, total up:

• Salaries
• Self-employed income
• Dividends
• Rental
• Any benefits you receive
• Other income

Remember to account for tax and other deductions, as you need to work out your net spendable income. You may also prefer to ignore any interest or investment income that accumulates within your accounts, as this isn’t readily available for you to spend.

Next, total up your expenditure. Remember to include:

• Bills paid monthly and annually
• Food, clothing, and household essentials
• Children’s costs
• Commuting and travel
• Hobbies, holidays, and leisure activities

It can be helpful to split the amounts into Essential and Discretionary categories. You can even set up additional accounts with your bank so that you can fund each category separately.

If your income exceeds your expenditure, this is a good start. You should think about what to do with the surplus, for example:

• Building up savings
• Clearing debt
• Topping up your pension
• Making regular investments

If your expenditure is more than your income, you should act now to avoid this becoming a problem. Consider:

• Cutting back on luxuries
• Shopping around for a better deal on your bills and groceries
• Transferring expensive debt to a 0% interest credit card or lower cost loan
• Finding a way of earning a second income

As you work on your budgeting skills, you can start to save and plan for the future.

2. Protection
Protection is a vital part of financial planning. Things can so easily go wrong, and a good financial plan has contingencies and risk management built in.

The main types of protection to consider are:

Life insurance – this pays out a lump sum on death. This is essential if you have any debts or if you have a family who are reliant on your income. Life insurance can also be useful later in life to help with estate planning and mitigate Inheritance Tax.

Critical illness cover – this pays out a lump sum if you are diagnosed with a serious illness. In some cases, you might simply need to cover your expenses for a short period while you receive treatment. Other conditions may be life changing, and the lump sum can help to pay for home adaptations or special equipment.

Income protection cover – this pays out a regular income if you are unable to work due to a longer-term condition. Income protection complements critical illness, as it can pay out for conditions which are not otherwise covered, or which persist for a longer period.

Most people should have all three, although the right combination will depend on circumstances and budget.

3. Tax
Tax should not be the sole driver of a financial plan. However, tax reduction is usually a bi-product of any sensible financial plan. For example:

• Making ISA contributions can reduce income and capital gains tax over time.
• Other investments can be managed according to capital gains allowances, avoiding large gains rolling up and becoming taxable in the future.
• Pension contributions are highly tax-efficient up to a point, although with heavy taxation if limits are exceeded. The key is to maximise your pension within these limits.
• There are numerous ways of mitigating inheritance tax, for example making gifts, setting up trusts, or arranging insurance to cover the liability.
• Certain higher-risk investments offer significant benefits in terms of income tax, capital gains tax and/or inheritance tax. However, these will not be suitable for everyone.

The skill is knowing how to combine the various allowances, reliefs, and exemptions, and understanding which investments to fund and which to withdraw from. Tax planning should be viewed holistically, rather than as the end goal.

4. Investing
Investment planning is only one component of your financial plan, albeit an essential one. A strong investment plan is based on the following main principles:

• Investing is for the long-term.
• The risk level should be appropriate, bearing in mind your goals, risk tolerance and capacity to sustain losses.
• The portfolio should be diverse, investing across a wide range of asset classes, regions and sectors.
• Costs should be kept under control.
• The market is efficient and it is usually counter-productive to react to world events. For example, if you withdraw money after a market crash, you risk missing out on the recovery.
• Regular monitoring is important.

5. Pension
This can be a complex area, but in general, it is a good idea to fund your pension. Pensions have the following benefits:

• Your contributions receive tax relief.
• Your employer may match your contributions.
• No tax is paid within the pension fund or when you switch investments.
• You can withdraw a tax-free lump sum of 25% at any time from age 55 (although this is rising to age 57 and will ultimately remain 10 years below the State Pension age).
• The remaining fund can provide you with a flexible income.

However, higher earners or those with substantial pension funds can usually benefit from advice to avoid breaching the Annual Allowance. Other investment options, such as ISAs or investment bonds may be appropriate for investors who have contributed the maximum to their pension.

6. Giving
Once you have secured your own financial future, you may wish to think about how you can help others. For example:

• Gifts to family
• Gifts into Trust
• Charitable donations
• Bequests via your Will

While making gifts can be satisfying on a personal level, you can also benefit from a tax point of view. For example:

• Gifts of up to £3,000 per year are immediately outside your estate.
• Larger gifts drop out of your estate after 7 years.
• Charitable gifts are immediately exempt and can also benefit from income tax relief.
• Charitable donations made via your Will can reduce the inheritance tax on your residual estate by 10% (providing at least 10% is given to charity).

By addressing these 6 key areas, you will soon be on track to achieving all of your financial goals.
Please do not hesitate to contact a member of the team to find out more about financial planning.