The Different Timelines of Personal Finance

I divide personal finance planning into short term, medium term, and long term categories. By thinking in different time frames, it’s easier to see if I’m meeting all my financial goals. Each time period serves as a different metric. The short term period tells me about our immediate financial health. The medium term time period is about saving for larger purchases, like a house or planning for eventual car replacements. It’s a measure of intentional saving. The long term is about retirement and investments. By checking on financial health over all three time scales, I can get a complete look at our financial picture.

The Short Term

The short term time period is about how finances are right now. This time period occurs over the course of the previous few months. The main question to ask is “How’s my cashflow?” Cashflow is king for short term personal finance. It’s easy to measure. Just look at how much money you’re making every month and how much you’re spending. It helps to have an expense tracking app like Mint or Personal Capital for this. If you want to go low tech, just write down how much money you have in your checking account at the beginning of the month and the end of the month. The difference is your cash flow. Every month is different and sometimes you hit the Expensive Month. This is why I look over three months to see an average of how my short term cash flow is going.

The Mid Term

The mid term is about dreams and goals. It’s a constant look towards where you want to be five years down the road. The ability to project your dreams five years out gives a concrete mark to aim at. It’s easy to get into the groove of staying cash flow positive over the short term. But aligning that cash flow with your intermediate life goals brings great fulfilment. For example, my wife and I want to have a house within the mid term window. We have a positive cash flow, but having the goal of earning a house gives that extra cash flow a job. It’s going into our house fund. Without thinking about this goal ahead of time, it would be difficult to prepare a house fund. Thinking of where we want to be five years from now allows us to execute a plan to make it happen.

This mid term financial planning is helpful for things other than saving for a house. For example, this kind of planning is the time scale that my wife and I use for repaying her student loans. For many borrowers, student loans aren’t something that can be jettisoned in the short term. But coming up with a plan for where you want these to be in 5 years gives clarity to how aggressively you want to pay them off. In our case, we saw the last two years of federal student loan deferment as a golden opportunity. With those loans accruing no interest, we took that money and threw it at her private loans. Her private loans had pretty high interest rates. Some were as high as 7%! By planning this in advance, we just finished paying off the private loans. We’ll be able to focus only on the federal loans now.

The Long Term

It’s difficult to plan far into the future. For younger folks, planning for retirement can be an overwhelming thought exercise. Never mind putting a strong retirement investing philosophy into action! I know the most common strategy is “put whatever the default is into my retirement account” and hope that it’s enough when retirement time rolls around. And thinking about how much you need to retire and socking away that much is had to fathom during the early career period. After all, how can I be diligently saving for retirement when I’m paying off student loans, trying to save for a house, and trying to enjoy life?

This long term planning is related most closely with the short term planning. That’s because the amount of money you need to save for retirement is directly related to the amount of money you spend in the near term. The rule of thumb that folks in the FI community use for minimum retirement savings is the 4% rule. To summarize, the 4% rule states that you can spend 4% of your retirement portfolio in a given year and not run out of money. This isn’t a perfect indicator of the exact amount that a retiree will need over their entire retirement. However, it is a good starting point that will give anyone a goal to aim for. Basically, take your yearly expenses and multiply them by 25. That’s the amount you nominally need in order to retire. To be more conservative, you can multiply that number by 30 like I do in my calculations. This number may have to be updated over time if your yearly expenses go up significantly. Giving in to lifestyle inflation means that you’ll need more to retire!

When to Update Plans

Updating financial plans should happen like updating health insurance: yearly, and after major life changes. Every year, it’s good to reflect on your current financial plans and trajectories. Maybe there are things that need to be cut back to make room for more important goals. Or maybe you need to loosen the purse strings to pursue something that you really value. Figuring out the best way to deploy money in the short term while still meeting mid and long term goals is much easier when all three time scales are considered at the same time. When certain goals are met, for example if you buy a house, other goals will have to be updated as well. Money that was going towards the down payment fund probably needs to go towards the mortgage. Retirement savings goals will probably need to be updated to include the money owed on the house around target retirement time. Being prepared for this ahead of time will reduce future stress.

The hardest part of planning is getting started. There are two steps that I recommend to get the process going. The first is to track spending. There’s no way to get a handle on long term savings/investing without knowing monthly cash flow. I use Mint, but Personal Capital is also popular. The second is more fun. Sit down with a pen and paper. Create a detailed lifestyle that you want to live. Come up with where you want to live, what kind of place you want to live in, hobbies you want to pursue, etc. Be as detailed as possible. With this in mind, you can formulate what you want to save for in the mid term and how much you’ll eventually need for retirement savings. With a baseline of living under your means and a dedication to saving, you can create a wide range of interesting lifestyles.