Four Questions


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This guide describes the process I use in personal financial planning. The process is structured as four steps (I’m developing a separate article for each one), and it might help to think each step as your response to a question you must ask yourself. Developing your answers to each of these questions will require introspection, research, and some very basic mathematics.


When you’re satisfied that your answer to the first question is honest and thorough, move on to the next:

  1. Where am I starting?
    Step 1: Establishing a baseline.
  2. Where am I heading?
    Step 2: Defining your goals.
  3. How will I get there?
    Step 3: Developing your plan.
  4. How am I doing?
    Step 4: Monitoring your progress.
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Building an Emergency Fund

As financial goals go, building an emergency fund is an honorable one, features high on many people’s list of priorities. While it might seem self-explanatory, it’s worth thinking about what it is, what it isn’t, and the purpose it really serves.

What is an emergency fund?

An emergency fund is an asset which you can readily access (i.e. a current / “liquid” asset) in the event of an unplanned emergency, such as losing your job, having a medical crisis, or having to to travel urgently to visit a sick relative overseas. Something which you can’t predict, but when it happens, you can’t avoid.

What it isn’t…

An emergency fund isn’t a rainy-day fund, a vacation fund, or a “I’ve really gotta buy that Les Paul on eBay” fund. If you build an emergency fund, deplete it for a non-emergency reason, and then have a real emergency the next day? Well… you might as well have not bothered.

Why do I need an emergency fund?

Simple: peace-of-mind. People respond to emergencies in different ways:

  • Disbelief
  • Emotional numbing
  • Nightmares and other sleep disturbances
  • Anger, moodiness, and irritability
  • Forgetfulness
  • Flashbacks
  • Survivor guilt
  • Hypervigilance
  • Loss of hope
  • Social withdrawal
  • Increased use of alcohol and drugs
  • Isolation from others

Crisis intervention and trauma response: theory and practice
— Barbara Rubin Wainrib, Ellin L. Bloch (1998)

These aren’t states of mind in which you should be making important, time-sensitive decisions about your finances. Your emergency fund give you the peace-of-mind of knowing that whatever happens to you, money needn’t be one of your worries — at least in the short term.

You won’t have to take a loan from your 401k. You won’t have to redeem your CDs early. The only impact of using your emergency fund? You need to top it up again when the emergency is over.

How large does my emergency fund need to be?

The size of your emergency fund depends entirely on your personal circumstances. I’ve seen varying recommendations that your fund should cover between 3 – 8 months of your non-discretionary expenses (e..g mortgage / rent, food, bills), but with the purpose of the emergency fund being to provide you with peace of mind, the size of the fund you should aim for is determined by whatever you’re personally comfortable with. If you have a mortgage and kids, you’ll probably want more of the comfort-buffer provided by an emergency fund than if you’re single and renting.

If you’re heading for a three month emergency fund, let’s look at how much that might be:

Per month Three months
Rent $1,500 $4,500
Groceries $500 $1,500
Bills $400 $1,200
$2,200 $7,200

Even a three month emergency fund is still a sizable chunk of cash to save, and may seem daunting. Make your goals incremental. In the case above, perhaps your first emergency fund goal is $1000. Having any emergency fund is better than none — anything you have saved will make your life easier in a crisis. Then, aim for one month’s expenses ($2,200). It might take a year. It might take three years to hit your three-month emergency fund goal ($7,200).

    Time to save*
    Saving per month $1000 $2,200 $7,200
    $50 20 months 44 months 144 months
    $100 10 months 22 months 72 months
    $200 5 months 11 months 36 months

    * Not accounting for interest, which will likely be minimal during the period of saving in an instant-access savings account, and probably slightly higher but still small if you opt to keep your emergency fund in a CD or ladder of CDs.

    In summary: how much you should save to feel comfortable is dependent on what your likely needs are in an emergency.

    Saving for an emergency fund should be a high priority for all individuals who don’t currently have one. We’ll discuss how to decide where this ranks among your other potential high priority goals (e.g. paying off high-interest credit cards) in a later article.

    Other considerations

    Another thing to consider in setting your emergency fund targets: health insurance deductibles. This isn’t an article on health insurance, and you should consult with your employer and insurance provider to find the best option for you. However, if you are young and healthy, you may have opted for a health insurance plan with a high deductible, which could be several thousand dollars. You chose to spend a little less on a plan with smaller premiums each month, with the assumption that you will not need medical treatment. If you do get sick or have an accident, you could be stuck with a very significant hospital bill.

    If this situation applies to you, consider this:

    Find the difference between the lower-premium plan you chose, and the more expensive one with a lower, or zero, deductible, and consider putting this amount from each paycheck into your emergency fund. If these savings, over a year, would add up to more than the high deductible of your plan, you may have found a viable way to partially self-insure yourself:

    • If you don’t get sick or injured during the year, and have no medical bills? You’ve accumulated a substantial amount towards a general emergency fund, and can continue the savings next year.
    • If you do get sick or injured, and require treatment? You have an account with sufficient savings to cover your deductible, and you are not penalized for your choice of the ‘cheap’ plan. You either re-start saving for your new deductible and repeat the process next year, or re-evaluate your health risks and consider switching plans.
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    Cash Flow Statement

    After the personal balance sheet, the cash flow statement is the second tool we’ll be using to answer question one:where am I starting?” and establish our baseline. It will also be a useful tool when it comes to identifying areas for attention when we get to developing our action plan, and is also something we will revisit occasionally when we ask ourselves how am I doing?”.

    What is a cash flow statement?

    It’s nothing more than a list of where your money comes from (income) and goes (expenditures) within a defined period — monthly would be appropriate.

    NB: I’ll probably interchange between using “expenditures” and “expenses” — we aren’t accountants here, and for our purposes, they mean the same thing.

    Really. That’s it. Just like our personal balance sheet, we don’t have to answer to anyone else here, so as long as you stick to your own rules, you can’t go wrong. Where does your money come from each month, and where does it go? That’s all you’re documenting on the cash flow statement.

    Net cash flow = incomeexpenditures

    Let’s look at a simple example:

    Salary (after deductions and witholding) $2,090
    Interest (CDs, etc.) $10
    Total Income $3,000
    Rent $1,500
    Minimum credit card payments $200
    Groceries $500
    Home bills (gas, electricity, cable TV, internet) $300
    Cell phone bill $100
    Dining & entertainment (beer & pizza) $200
    Total Expenses $2,800
    Net cash flow $200

    What does a cash flow statement tell us?

    You can draw a few simple conclusions from your cash flow statement:

    • If your net cash flow is a positive number, you are operating at a surplus. You are richer (or less poor!) at the end of the month than you were at the beginning — your net worth is increasing. Even if your net worth is negative, at least you’re moving in the right direction.
    • If your net cash flow is a negative number, you are operating at a deficit. This means you’re spending more than you’re earning, which isn’t a good thing. Don’t panic — one of our first goals should be getting this number above zero.

    What should I include on a cash flow statement?

    Three principles you should stick to are being comprehensive, consistent and conservative in what you include in your personal cash flow statement.

    Being comprehensive means including all of the items you can reasonable expect to receive (income) and pay (expenses). Items you include in your income should include salary, guaranteed interest income (from CDs, etc.), alimony, etc. Items you include in your expenditures should include all bills, rent / mortgage payments, groceries, entertainment, minimum debt repayment obligations, and anything else you see leaving your bank account or wallet. Don’t forget to include cash you withdraw to pay for out-of-pocket items.

    Consistency is all about including or excluding the same items each time you look at your cash flow. You’re kidding no-one but yourself if you change the scope of your cash flow analysis to make your financial situation look healthier.

    Perhaps the most important of the three principles is conservatism. This is all about making sure your cash flow errs on the side of underestimating income and overestimating expenses. I don’t mean wild over- or under-estimates, but if there are any figures you aren’t 100% certain about, guess low for income, and guess high for expenses.

    You could include an estimate of your annual bonus, apportioned (divided) by twelve in your monthly income, but I wouldn’t recommend including it at all — it isn’t guaranteed income, and a bonus should be just that — an extra cash lump sum. If you aren’t budgeting on receiving this, you can choose what to spend it on when it arrives. However, you should apportion and include your anticipated annual expenses — such as car and home contents insurance premiums, apportioned into your monthly expenses (i.e. divided into imagined monthly installments). If you’re trying to apportion your next car insurance premium and aren’t sure exactly how much your next bill will be, look at your last one and add 10%. Budget for that in your cash flow statement.

    If your cash flow statement misses out on documenting some potential income you might receive, the worst that happens is you have a nice windfall, a little extra spending money, or perhaps don’t repay a debt quite as fast as you could have.

    If you forget to document a major expense you should have anticipated, you can find yourself with much more serious problems, especially if you have insufficient current assets to pay those bills.

    Including savings

    If you’re already making regular payments into savings accounts (401ks, IRAs, instant access savings accounts, etc.), you can choose whether to deduct them from your cash flow statement or not. If you choose not to deduct savings (and if these payments aren’t being paid through your employer, and thus already reflected in your salary figure), you need to remember when looking at your net cash flow figure that you’re already investing part (or all) of this figure each month.

    If you choose to deduct savings, your cash flow statement could look like this:

    Income $3,000
    Expenses $2,800
    Net cash flow
    Savings $150
    Net cash flow after savings $50 

    Your net cash flow after deducting payments into savings accounts, if positive, is money you have “left-over” each month. You might decide to use this extra $50 to make extra payments to a credit card, or increase your 401k contributions. We’ll discuss how you prioritize these decisions when we answer question 2: “where am I heading?”.

    There’s a good article on understanding personal cash flow at Personal Finance Digest.

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    Personal Balance Sheet

    A personal balance sheet is one of the most important tools you will use in managing your finances, and the bottom line: your net worth, is one way to gain some insight into your overall financial health.

    What is a personal balance sheet?

    Don’t even think of worrying about accounting rules here. This isn’t a professional accounting class, and you’re not reporting your balance sheet to the SEC or shareholders. You aren’t going to get in trouble for doing it wrong. The only rules I really suggest you stick to are:

    1. Be honest with yourself.
    2. Be consistent.

    Don’t change the scope of your balance sheet without good reason. If you choose not to include the value of your comic collection as an asset, don’t decide to add it in next month because something else has taken a turn for the worse. You’re not kidding anyone but yourself, and aren’t getting the real value from the personal balance sheet: seeing whether your net worth is moving in the right direction.

    What are my assets?

    Things you own of value are assets. It is useful to distinguish between current assets and long-term assets.

    Current assets

    Current assets are those with high liquidity, i.e. those which you can convert to cash in hand at a moment’s notice, or expect to receive within a short period of time (you choose — let’s say a month).

    Examples include cash, checking and (instant access) savings account balances, and that $50 you loaned to your room-mate (called an “account receivable”). Make a list of all of these, and their current balances.

    Long-term assets

    A long-term asset is one which you couldn’t use for beer money next weekend. They’re things which you plan to (or have to) keep for a long time.

    Examples include certificates of deposit, retirement accounts (your 401(k), IRA, etc.), your home and your car. Make a list of all of these, and their current balances.

    For some long-term assets where you don’t have an accurate value, either:

    The most important thing to remember in valuing your assets for your personal balance sheet is rule #2: be consistent.

    What are my liabilities?

    Things you owe are liabilities. For our purposes, it’s really as simple as that. You can also split these into current and long-term categories if you wish. I don’t bother.

    Examples of liabilities include credit cards, personal loans, bills and debts due for payment (“accounts payable”). Perhaps a student loan which you know you’ll have to repay when you leave college could be a “long-term liability”. It doesn’t really matter what you call it. Make a list of all of these, and their current balances.

    What is my net worth?

    Net worth = total assetstotal liabilities

    That’s pretty much all you need to know for now. Now, write it all down, calculate total assets and liabilities, subtract liabilities from assets, and you’re done!

    I’ve provided an example of a very simple personal balance sheet below. I recommend using Google Docs to set up a spreadsheet of your own — unlike Microsoft Excel spreadsheets stored on your hard drive, you can access your Google Docs from anywhere with an internet connection, and you really won’t need to use any of the advanced features of a desktop spreadsheet program for your personal balance sheet. Whatever you’re most comfortable with is fine. A pencil and notebook will work just as well.

    Current Assets
    Checking Account $500
    Savings Account $1,000
    Total Current Assets $1,500
    Long-Term Assets
    Certificate of Deposit $750
    401(k) $1,250
    Total Long-Term Assets $2,000
    Total Assets $3,500
    Current Liabilities
    Credit Card $2,000
    Total Current Liabilities
    Long-Term Liabilities
    Student loan (not entered repayment) $2,000
    Total Long-Term Liabilities
    Total Liabilities
    Net Worth ($500)

    In this example, we owe (liabilities) more than we own (assets), so our net worth is negative. Don’t panic if the same applies to you. Even if you didn’t know it until now, that might why you’re here.

    Now we’ve completed our personal balance sheet, we’re half way through establishing our baseline, and half way through answering the first question: “where am I starting?“.

    Some other good reading on personal balance sheets and net worth:

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    The aim of this blog is to encourage, and help you to answer four questions which will guide you through developing your personal financial strategy. This might seem like an abstract approach, but there are some very real, practical tools you will use for each step. The traditional ‘meat and potatoes’ of discussing financial products and their relative merits and weights in your investment portfolio will come in step three (developing your plan), but until you’ve found your starting point in step one (establishing a baseline) and set your goals (step two), it makes no sense to get to the specific of products and investment strategies. Then, monitoring your progress (step four) becomes an important ongoing task, and what you learn doing this may cause you to adjust your goals and approaches, revisiting steps two and three.

    Of course, skip to whatever you think will be of most use to you, but I’m developing and publishing the articles which make up this guide in the order in which I’ve listed them above, so try to skip ahead and you might find I haven’t written about it yet!


    There are plenty of other great resources out there if you want a second (or third, or one-hundredth) opinion, or to explore some topics in more depth. I won’t bombard you with thousands, but some of my favorite writers who discuss personal finance can be found at:

    Of course, there are also the big names, people who made their fortunes telling people how to get out of debt and fill their wallets: Dave RamseySuze Orman and the like. Choose to read someone you can identify with, whose style you like, and whose input you can really use.

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    Question 4: How am I doing?

    Monitoring your progress

    You’ve established your baseline, set your goals, and come up with a plan to reach them. Are we done? You’re kidding me, right? We’ve only just begun.

    How is it going after a month? A year? Three years?

    “If anything is certain, it is that change is certain. The world we are planning for today will not exist in this form tomorrow.” — Philip Crosby

    Tracking Net Worth

    Remember the personal balance sheet we used to establish our baseline? If you haven’t started yet, that should be your first step in taking control of your finances. Add another column for each month, and track the balance of all of your assets and liabilities.

    Your net worth is simply total assetstotal liabilities, and while it doesn’t tell you everything you need to know about the state of your financial health, is a good starting point. The plan you developed in responding to question 3, “how will I get there?”, was focused on increasing income and assets, and reducing expenditures and liabilities. The change in your net worth is a measure of whether, overall, you’re doing more of the good stuff than the bad. You want to see your net worth rise every month.

    You don’t need to check the value of your fixed assets (house, car etc.) and long-term investments (401k, IRAs, etc.) every month — you can if you want, but checking up on those once a year will be more than often enough. There are certainly perils of looking at retirement savings balances too often: short term fluctuations in the markets will start to seem important and may influence you when they should not.

    Your checking accounts, savings, credit card and loan balances should always be up-to-date on your monthly personal balance sheet. If you can’t recite your current balances on these accounts to within +/- $250, you probably aren’t paying them enough attention.

    Goal Tracking

    Now, think back to question two, and remind yourself why you’re even doing this. Why you’re spending a couple of hours a month messing about with a spreadsheet and calculating your “net worth”. Your ‘worth’ is measured in more than dollars and cents right? Of course it is. Meeting your goals is the very definition of success. So; look at the your short-, medium-, and long-term goals you set for yourself when you asked yourself question two — “where am I going?”Have you got there yet? Are you going in the right direction?

    Say, for instance, you’ve met goal #1 (paying off your $2500 credit card balance, a short-term goal which was your first priority because of the high interest rate you were paying on the debt). Those $250 credit card payments were eating into every paycheck, but you’d got into so used to living without the money that now you’ve paid off the debt, you feel $250 richer every month. What to do? Celebrate your success (I recommend beer and cake), go back to question two, and set your next goal! It might be repaying your next highest-interest debt, or once those are gone, it might be opening a Roth IRA and starting putting money aside for your retirement.

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    Question 3: How will I get there?

    Developing your plan

    This is where it gets real. You’ve set some lofty goals for yourself, and now it’s your responsibility to come up with a plan to achieve them. You want your income to exceed your expenditure. You want your assets to exceed your liabilities. You never want to see a bill printed in red ink again. How are you going to make that happen?

    There are specialists who write in great depth about specific strategies, and for now, I will only touch on those I have first-hand experience of. The long and short of it: no matter what your goals (unless they are to get poorer or into more debt), there are some pretty universal things your approach needs to address (not necessarily in this order):

    + Increasing: income and assets

    - Decreasing: expenditures and liabilities

    Johnny Mercer got it right: you’ve got to accentuate the positive, eliminate the negative.

    Increasing income

    • Primary employment
    • Secondary income streams
    • Interest and dividends

    Increasing assets

    • Checking and savings accounts
    • CDs and ladders
    • 401k
    • IRA
    • Real estate
    • ETFs

    Reducing expenditures

    • Accommodation
    • Food
    • Medical expenses
    • Entertainment
    • Utilities, other bills

    Reducing liabilities

    • Credit cards
    • Personal loans
    • Taxes (nothing shifty, just making sure you get all the deductions and credits you’re entitled to, and paying what you owe, but not a penny more)

    Think it over. Some of these items may not apply to you, and there are plenty of possibilities I haven’t listed, but your answer to the question “how will I get there?” will need to involve strategies for increasing the type of items on the first two lists, and reducing the type of items on the second two. We’ll get into these in more detail later, after we introduce the final question

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    Question 2: Where am I heading?

    Defining your goals

    Now that you’ve established your baseline, the fun part: deciding how rich you want to be. That may seem flippant, as for those struggling to pay off credit card debt and personal loans, living paycheck to paycheck is a challenge. However, setting and prioritizing your financial goals is the next important step you must take, and deciding whether you need $1 million or $10 million is retirement savings will make a significant difference to how much you need to save now, and whether you are 40 or 4 years from retirement will impact your investment strategy and approach to risk.

    Setting your goals will not be a one-off process. Perhaps today, your most important goal is to pay off that credit card charging 20% APR — and so it should be. But next year, your credit card is paid off with no recurring balance, what financial target should be in your crosshairs next? Or say you budget $250 a month to chip away at that outstanding balance over 12 months, but tomorrow you move in with a roommate, cutting your bills and finding yourself with a little extra cash. How much should you increase your credit cards repayments by to reach your goal sooner, or should you think about starting an emergency fund, if you don’t already have one?

    You will find yourself tweaking your goals as you go, but always consider the impact of doing so, and remember to revisit periodically: temporarily reducing your 401k contributions to increase repayments on a high interest loan may make fiscal sense (if you aren’t missing out on a company match in doing so), but if you forget to increase those contributions when the debt is repaid, you may find yourself ‘caught short’ at retirement.

    Define the time-frame of your goals — my suggestion:

    • Short-term (3 – 12 months)
    • Medium-term (1 – 5 years)
    • Long-term (5 years – decomposition)

    I recommend re-evaluating these goals at the shorter end of each suggested time-frame (e.g. annually for medium-term goals).

    Think about which of the following goals could (or should) apply to you, and the time-frame which applies, and put them in order of what you think their priority is to you now. Make a list. Use pencil. It will change.

    • Emergency fund
    • Debt-elimination
    • Retirement savings
    • Home ownership
    • Net worth
    • Major purchase

    We’ll discuss each of these types of goals in depth in coming articles, and help you prioritize and set firm, time-frames for achieving them. But first, I have two more questions for you...

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    Question 1: Where am I starting?

    Establishing a baseline

    The first step in personal financial planning must be fully understanding your current situation. Think of this as a journey to meeting your financial goals: how can you set a meaningful destination without knowing where you’re starting from? How can you plan your route from point A to point B if you don’t know where point A is?

    Understanding your current situation means developing a ‘baseline‘ — a line in the sand which represents the starting point of your journey to meeting your financial goals, whatever they may be. The baseline will be essential in developing your action plan — what you need to do, and monitoring your progress — seeing how far you’ve come since today, day zero. The day you take control.

    Two of the tools I found essential in establishing my own baseline were:

    1. Personal balance sheet (the balance of your assets and liabilities)
    2. Cash flow statement (analysis of your income and expenditures)
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    Three things I promise not to do

    Who are you?

    Hi. I’m Tim. I broke my arm last week (that’s a story for another day), so have a little free time and decided I’d like to spend it writing.

    I’m a bit of a nerd when it comes to managing personal finances, and this is my attempt at documenting what I think I already know, and what I learn, as I learn it. I hope you find it useful. Please comment and let me, and  your fellow readers, know whether you agree, disagree, or have questions about any of the topics discussed.

    As someone who needs to set himself rules to play by, here are mine:

    1. I won’t call anything I write a “simple step” — they’re as simple or as complex as your own situation is, and as your own goals are: paying off your credit card; saving $1k for a new laptop; saving $1m for retirement; developing a tax-effective charitable giving strategy. I’ll try to touch on all these topics. Some steps are simpler than others!
    2. I won’t suggest that this content is aimed just at complete beginners — while I aim to provide a thorough introduction to these topics for people with no personal financial plan currently in place, I hope some of the articles will offer some insight into reviewing an existing strategy for those readers who already have one. I intend for the depth of content to increase as my own experience does.
    3. I won’t claim to be an expert — I am not. I have no professional financial training. My education is in science, and my short career has so far touched on several industries, but my strengths in each role have a recurring theme: explaining complex ideas in simple ways. I’m learning this as I go.

    In summary: bear with me; do your due-diligence — don’t base your financial decisions solely on what you read here (I’ve listed some other good resources in another post); and most importantly, please use the comments or email me to tell me if you think I’m wrong!

    Four questions?

    Hold tight. I’ll explain in the next post.

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