How to Create a Five Year Financial Plan

How to Create a Five Year Financial Plan

 

Do you know what you’ll be doing with your money five years from now?

Chances are, no. Five years seems so far away, and it’s hard enough to figure out what you’re going to do with your money next month, let alone years from now. 

But data consistently shows that those with a written plan are far more likely to reach their goals. And by making a plan for your future money, you can make intentional choices and have the exact future you envision.

 

How to Create a Five Year Financial Plan

 

Why create a five-year financial plan?

 

I what you’re probably wondering: Why five years? It seems like an arbitrary amount of time, but it’s really not.

Five years is a short enough period of time that you can reasonably set goals for that period. While you don’t have a crystal ball, you may be able to picture what you’d like your life to look like five years from now.

Five years is also long enough that even for those bigger goals, five years could be long enough to help you save up enough money and accomplish them.

Saving for the down payment on a home seems daunting when you decide you want to buy next year. But if you know you’ll want to buy several years down the road, you can start saving early.

Five years seems like a long time, but it goes fast. And if you don’t make a financial plan for those five— years, they’ll pass before you know it.

 

How to create a financial plan

 

Identify your values

I truly believe that the first step in any goal-setting exercise — whether it’s setting an individual goal or making a full-blown financial plan — should be identifying your values.

Far too often, we live our lives on autopilot doing the things we think we’re “supposed to” be doing. But we haven’t taken the time to really decide whether that life actually aligns with our values.

One of the first exercises I do with my money coaching clients is helping them to identify their most important values. From there, we can make sure their budget prioritizes those values. And then, we can set financial goals that align with them.

So think about what you value. Maybe you value freedom, and that manifests itself in travel. Or maybe you value security, and a life well-lived would include buying a home and having a large nest egg. 

If you’re having trouble thinking of values, you can literally just Google “list of values.” You can read through it and see what resonates with you.

 

Envision your life five years from now

As you sit down to craft your five-year financial plan, consider what your next five years will look like. Envision your life one, and then three, and then five years from now.

Where do you live — both the location and the actual home? What do you do for work? Are you married? Do you have children? What hobbies do you do in your spare time? What kind of car are you driving? What trips are you taking?

It might seem like you can’t possibly know what you’ll be doing five years from now. But if you really think about it, I’m guessing you can come up with a vision for what you might like to be doing.

As you picture your life in the future, write down everything you see.

 

Set specific financial goals

Alright, you know that list you just made of what you envision for your life in the next five years? Well, it’s time to take that list and turn it into specific financial goals.

For each thing you’d like to accomplish, write down the date you’d like to accomplish it by and how much it will cost.

Some of these will be easy. You might know that a big goal is to become debt-free in the next few years, and you currently have $50,000 in debt.

But some might be trickier. Maybe you think you’ll be having a wedding in a few years but have no idea how much you’ll need to save.

No matter what your goal is, chances are you can do a little research to find out how much you can expect to spend.

Once you have your list of goals, I want you to do one very difficult thing: prioritize them.

I know it’s hard to look at a list of goals and decide which you want to come first. But at the end of the day, it’s easier to save for one big goal than many.

I recommend putting them in the order you’d like to achieve them and going all-in on the biggest one. That way, instead of making little progress on many things, you can make big progress on one.

Read: How to Set Financial Goals

 

Determine specific savings targets

Once you’ve figured out what goals you plan to save for over the next five years, it’s time to figure out how much you’ll save.

When you sat down and identified your goals, you hopefully identified when you want to reach each goal and how much it will cost. If so, this part should be pretty easy.

All it takes is a little math. Divide the amount you need to save for your goals by the number of months you have to save. You’ll know how much you need to save each month to make it happen.

You might see that number and realize you could be saving even more. That’s great news because it means you can move onto the next goal that much faster.

On the other hand, you might see the number and realize that your current list of goals isn’t exactly realistic over the next five years. That’s totally fine and pretty normal.

In that case, you have a few options:

  1. Adjust your expectations so that your goals fit within your current saving capabilities, or
  2. Decide that you’re willing to do what it takes to reach your goals no matter what, even if it means either drastically cutting your spending or increasing your income, or
  3. Do a little of each. Adjust your goals slightly, but also reduce spending and increase your income to make sure you can reach your goals.

It’s okay for goals to feel a little uncomfortable.

When Brandon and I first set the goal of buying an RV and traveling full-time, I didn’t actually think we’d be able to do it. I ran the numbers dozens of times, and it just never seemed possible. But low and behold, we accomplished our goal, and we even did it ahead of schedule.

So I guess what I’m saying is plan as much as you can and leave room for a little bit of magic.

 

Stick to a budget

Yep, we’re going to talk about the B-word. I’ve talked to so many women over the years who tell me they hate budgeting and they want a way to reach their goals.

And yes, there are personal finance experts who will tell you they can help you reach your goals without a budget. But then they describe the spending plan they teach, and it sounds an awful lot like a budget, just with a different name.

At the end of the day, the only way to be intentional about the amount of money leaving your bank account each month is with a budget. And when you budget, it’s easy to create a five-year financial plan because you know how much you’ll be able to save each month for the foreseeable future.

If you don’t have a monthly budget yet and aren’t sure where to start, you can use my guide: A Step by Step Guide to Creating a Monthly Budget.

 

Track your progress

Tracking your progress is one of the most important steps to any plan, and your financial plan is no exception. After all, it’s all about follow-through. And how will you know if you’re following through if you don’t actually track your progress?

I track my progress in a couple of ways:

  1. I sit down each week and update my budget and spending tracker to make sure I’m staying within my monthly budget. If I’m not staying on track, I can cut back as needed.
  2. I sit down each month and plan my budget for the following month and update my net worth. If I went over budget the previous month, I adjust, either by changing how much I budget for or figuring out how I can cut back in certain areas.

 

Create an annual check-in

As you make your way through your financial plan, it’s important to check in on your progress.

And while we’ve already talked about tracking your spending and your progress on a more granular level, it’s important to check in on the bigger picture too. Sit down each year and take an inventory of where you planned to be at that time versus where you actually are.

By scheduling an annual check-in, you can change course if things aren’t going quite the way you expected them to be.

It might be that you check in on your financial plan and find that you’re falling behind. In that case, you can either find a way to speed up your progress or adjust your expectations.

On the other hand, you might check in on your plan and find that you’re ahead of schedule. That’s great news! In that case, you can adjust your goals to accomplish even more in your five-year plan.

 

What to include in your financial plan

 

An annual and monthly budget

A five-year financial plan seems like a huge undertaking, and it definitely is. And if you look at it as one big picture, then it’s going to be hard to make strides.

Included in your five-year plan should be annual and monthly budgets.

The concept of a monthly budget is pretty common. You figure out how much money you have coming in each month, and you create a plan for exactly how you’ll spend it.

The idea of an annual budget isn’t quite as common, but it’s still an important way to make a plan for your money.

Creating an annual budget can help you identify those less common expenses, such as your annual vehicle registration or holiday spending. I use sinking funds to save for these expenses and my annual budget to plan for them.

Read: What Are Sinking Funds and Why Do You Need Them in Your Budget?

An annual budget can also help you to see what’s going to be happening with your money three, six, nine, and twelve months from now.

Here’s an example: Let’s say you’ve got a monthly car payment, but you’ll be paying off your loan in just a few months. When you use an annual budget, you’ll know ahead of time where you’ll reallocate that money each month. As a result, you have a better idea of when you’ll reach your next goal after that.

I love planning, and helping people to craft long-term financial plans is one of my favorite things, but I also know that the foundation of every great financial plan is your budget.

 

An emergency fund

Building an emergency fund should be the first step in anyone’s financial plan. It helps prevent future financial mishaps from becoming disasters and helps set a solid foundation for the rest of your financial goals.

There are two reasons you need emergency savings:

  • One-time emergency expenses
  • Income replacement in the event of a job loss

There’s definitely some debate as to how much you should save in your emergency fund. Certain financial experts recommend saving just $1,000 while you’re paying off debt, but I’d strongly recommend against this.

As a minimum, I recommend saving three months of expenses in your emergency fund. Once you’re debt-free, I’d go even further and shoot for at least six months of expenses.

One of the reasons an emergency fund is so important is that it helps you avoid future debt.

Imagine you didn’t have an emergency fund and had an emergency $1,000 car repair. If you put it on the credit card and it takes a few months to pay it off, you’ll pay interest, meaning your emergency costs even more. But if you had an emergency fund, you could just pay for it and be done with it.

Read: How to Build an Emergency Fund & How Much to Save

 

Debt payoff

If you’re paying off debt, that should absolutely be a part of your five-year financial plan. Now, depending on how much debt you have, you may not plan to pay it all off in the next five years. For those with high student loan debt — which is many people these days — it’s okay to take longer if that fits your plan better.

The first step to creating your debt payoff plan is to decide which strategy you’ll use to pay down your debt. The two most popular strategies are the debt snowball and debt avalanche.

The debt snowball is where you prioritize your debt based on balance, paying down the smallest debts first. The debt avalanche is where you prioritize based on interest rate. You pay down the debt with the highest interest rate first.

The other decision you’ll have to make is how much you’ll put toward debt each month. It can be tempting to pay just the minimum payments and use the money for other goals. But I highly recommend paying at least some extra to pay it down faster.

Paying your debt off early can help you save hundreds, thousands, or even tens of thousands of dollars on interest. And if you have high-interest debt like credit cards, I think that should be your absolute priority. 

I recommend using a tool like Undebt.it to help you plan your debt payoff. You can experiment with the order and see how much faster you’ll be debt-free by paying just a little extra each month.

 

Financial goals

Your financial plan should also include any other financial goals you might be saving for. In fact, this right here is why a five-year financial plan is so important. When you can anticipate the goals you’ll want to reach several years from now, you can start preparing for them now.

When crafting your financial plan, map out when you hope to achieve each of your financial goals and how much they’ll cost. From there, you can easily figure out how much you need to save each month.

Common financial goals include:

  • Buying a home
  • Taking a vacation
  • Going back to school
  • Starting a business

…and many, many more.

 

Major life events

As you’re mapping out your financial goals, be sure to map out any major life events you think will come up over the next five years. Unfortunately, we often don’t start planning and saving for these until they’re upon us, and then it’s hard to catch up.

Major life events to consider in your financial plan include getting married, starting a family, or moving to a new city.

Even if you don’t know for a fact that one of these things will happen, you can still plan and save for them. Plenty of people start saving for a wedding long before they’re engaged or start saving for kids long before they’re pregnant.

 

Retirement savings

When you’re young, it’s easy to brush off saving for retirement, thinking you have plenty of time. This is how I felt for years, and I was incredibly lucky to have an employer that required us to contribute a certain percentage of our income to our retirement accounts each year.

No matter your age, retirement savings should be a part of your financial plan. Your age and how much you want to have when you retire will determine how big a part of your financial plan.

For younger people who don’t plan to retire until they’re 60s, saving for retirement is actually pretty simple.

The Securities and Exchange Commission reports the stock market produces a return of about 10% per year. Using that number, if you start saving when you’re 25 and invest $250 per month until you’re 65, you’ll retire with more than $1.3 million.

In some situations, you may need to save more per month to reach your retirement goals. That might be the case if you’re closer to retirement age or if you’re working toward early retirement.

Not sure how much you need to save? The NerdWallet Retirement Calculator is one of my favorite tools to help figure it out.

 

Additional income streams

I’ve found increasing my income to be the best way to speed up my financial plan and reach my big financial goals. And the good news is, there are many ways to do this.

Many people hope to start their own business someday. If this is you, make sure it’s a part of your financial plan. Online businesses today often quire little start-up costs, but it’s worth setting aside money either way. Luckily, you’ll ideally then see a return on that investment.

If you aren’t interested in starting a business and simply want a way to increase your income temporarily, that’s even easier to do. 

There are plenty of side hustles — either online or in-person — where you can earn extra money in your spare time. Once you know how much you can make each month, you can work that into your financial plan to help you reach your goals even faster.

If you’re interested in finding additional income streams, check out my guide on how to earn more money this year.

 

Final Thoughts

 

Having a financial plan is essential to making sure you are where you want to be in the future. Five years is the perfect amount of time — it’s just short enough that you have an idea of what goals to save for and just long enough that you have plenty of time to save.

Financial planning sounds a lot more complicated than it is. While you might picture sitting down with a financial planner and paying them a pretty penny to put together a plan for you, this is something you can do on your own — and for free!