The very first action you need to take is to understand your current financial situation in order to devise a plan of action to achieve your financial dreams.
The following steps show you how to create your personal financial statement which will give you an accurate picture of where you are with your personal finances.
1 – List your monthly income
You need to list all of your sources of income. This list should include income from your job, business, dividends, rental income, etc…
When listing your monthly income categorise each entry as one of the following: earned income, passive income and portfolio income.
Earned income is income you work for. Your income from your job is your earned income.
Passive income is income you earn without having to work for it. Once it is setup you don’t need to do anything to get the income from it.
Portfolio income can be defined as income from investments. It includes interest earned, dividends and royalties.
Total each category and also add a total income row.
Your income list may be looking something like the following:
2 – List your monthly expenses
Now you need to list all of your expenses. It is important to be thorough, include taxes, monthly payments on credit cards, car payments, mortgage payments ( don’t forget to include any payment for investment properties), utility bills, etc…
Create a row totalling your expenses and below that row add another row to calculate your Net Monthly Cash Flow.
To calculate your Net Monthly Cash Flow simply deduct your total expenses from your total income.
Your expense list may look something like the following:
3 – List all of your assets
The next step is to list all of your assets. Don’t forget than an asset is something that puts money into your pocket. Your personal home or your car are not assets because they are not putting money into your pocket every month. You can list savings, income producing real estate, shares, royalties, any business that you might have that produce income without your participation, etc…
Add a row to calculate your total assets.
4 – List of your liabilities
Liabilities may include full mortgage amounts, amount owed on credit cards, student loans, amount owed on cars. Don’t forget to list the balance on mortgages of your investment properties.
Add a row to calculate your total liabilities.
Underneath the liabilities total add a row to calculate your Net Worth. This should be calculated as your total assets less your total liabilities.
Your assets and liabilities section should look something like the following:
Now take a deep breadth. If you have done all according to the instructions you created your own personal financial statement.
This is a valuable tool to help you to understand where you are with regards to your finances and most importantly what to do to achieve your financial dreams.
What next?
Now you need to interpret the information shown on you statement.
1 – All your money goes to paying expenses
If this is your situation then there is no money to invest into acquiring passive income. Setting up passive income may require a little investment depending on what you are doing. If you are purchasing an investment property then you may need a few thousand dollars as a deposit.
If all your money goes towards paying your expenses then you need to either increase your income or reduce your expenses. Doing both is the ideal.
2 – All your money goes to pay for your luxuries
If all your money goes towards paying for your liabilities then it is an indication that you may be purchasing items that you can’t really afford, that is why you have a liability. You probably paid for them with some sort of credit, either credit card, personal loan or car loan.
This in my opinion needs to be fixed as soon as possible. You need to pay off these debts because they are probably taking money out of your pocket as you sleep (interest calculated daily).
If you are in this situation your income goes to pay your expenses and luxuries.
A related scenario is when you have liabilities to pay for your expenses. You may be using your credit card to pay for your living expenses and if it shows in this list, it means that you are not paying off all of the balance. This is a serious problem that needs to be addressed.
3 – Your money goes into assets and investments
If your cash flow is positive and the only liabilities you have are for the purposes of acquiring real assets and your money goes into acquiring those assets then you are in a healthy financial position.
That is what you want to achieve. Your income, which should be mostly passive or business income, should go into paying for your expenses and for acquiring more assets.
This should be your target, if you have passive income and you continually invest in acquiring various sources of passive/business income your are well on the road towards financial independence.
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ReplyDeleteBusiness owners who are intimidated by financial analysis tend to fall into the second group—they act only when pushed. But that can be a mistake. Knowing one's way around a financial statement is an important step in maturing as a business owner.
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