Consumers can now get financial plans from a multitude of sources, including banks, brokerage firms, insurance companies, accountants and CPAs, as well as individual financial planners and planning firms. Despite this, just 31% of financial decision makers had used a professional or sat down themselves to craft a comprehensive financial plan, according to a 2012 survey from the CFP (Certified Financial Planner) Board. If you do invest time and money in developing a plan, it needs to be one you can trust and really use. Financial plans can vary considerably – not just in cost, but in their complexity and detail level. Some provide considerably more information than you may want or need. Knowing what you require from a financial plan can help you choose a planner who can structure a plan that truly meets your needs.
What Should a Financial Plan Tell You?
Although there are no official rules outlining what must be included in a financial plan, most well-written plans contain at least the following components:
- A well-crafted set of financial goals and objectives based on your information, including finances, risk tolerance and time horizon;
- Future growth and projections based on realistic assumptions and/or historical projections or models;
- An executive summary with a brief, understandable synopsis of the plan; and
- A list of tasks and objectives to be accomplished (i.e. retirement-plan contributions/distributions, changes in asset allocation, etc.).
Many sophisticated plans include multiple hypothetical projections that illustrate what could happen in various possible scenarios, a mathematical analysis of the amount and types of risk exposure inherent in your investment portfolio, Monte Carlo simulations and much more. They also often contain a written guarantee that the plan contains unbiased information, and that the advisor has unconditionally put the client’s interests ahead of his/her own. To learn more about fiduciary standards for financial planners, see Choosing A Financial Advisor: Suitability Vs. Fiduciary Standards.
Comprehensive or Modular: How Complete Do You Need?
Paying $1,500 or more for a comprehensive plan that makes lifetime projections does not make sense for everyone. If you're, say, a single college graduate who may change jobs, spouses or even careers once or twice in the next 10 years, a very basic plan that simply delineates fundamental goals – such as paying off student loans and having a certain amount saved by age 30 – would more than suffice unless you have special financial needs or circumstances.
If you only have questions – or need numbers run – for a certain segment of your finances, such as retirement or college planning, it pays to find a planner with a program that can generate a plan for only the modules that apply to your situation. This type of plan may cost less than a comprehensive plan, more like $500, as it requires less data entry and fewer computations. Some professional programs such as Moneytree™ do planning by module easily, while other commercial programs cannot be dissected in this fashion.
Reality and Readability
Needless to say, your financial plan's value depends largely upon your ability to understand what it says. Even simple financial plans can be difficult to read and understand if they are poorly written and formatted. Many programs generate rows and columns of numbers that may be realistic and accurate. But if they just make your eyes glaze over when you look at them, instead of conveying what you need to know, the plan is a failure. Your planner should be able to show you what those numbers mean, but an effective financial plan should not require a translator to be understood. Before you settle on a planner, ask to see samples of plans he or she has made for other clients and make sure that the format meets your needs and your desired detail level.
Be sure to evaluate the underlying assumptions your financial advisor plans to use when constructing the plan to make sure they correspond to reality. Discuss them in advance and again when you get a draft of your plan. For example, if all the illustrations assume your assets will grow by 10-12% per year, every year, request some that show what will happen if the markets don't meet this expectation.
Responding to Changed Circumstances
Unforeseen life changes can derail even the soundest financial plan. Although hypothetical scenarios can (and often do) incorporate potential catastrophes, such as premature death and/or disability, other events – divorce, job loss, lawsuits, an inheritance or the birth of a child with health issues – are often excluded. For example, being laid off from a high-paying job may leave you with a substantially reduced income and lifestyle for some period, put you in a lower tax bracket and reduce retirement-plan contributions and distributions, as well as other aspects of your current financial plan. On the other hand, selling your start-up to a big company or getting a huge promotion would push you in the other direction.
Many planners will gladly update certain segments of a financial plan at little to no charge (at least up to a point). Major changes could require creating a new plan based on completely new assumptions and circumstances. The more concise and detailed your plan is, the greater the chance that this could happen. If you want to forecast a very specific cash-flow scenario during retirement, for example, you may need to amend the plan several times to maintain a relevant projection of IRA and/or qualified plan distributions and living expenses.
The Bottom Line
Although there are certainly times when projecting a very specific scenario using very specific assumptions is warranted, paying for this level of detail can be overkill in many cases. If your life circumstances and finances are relatively straightforward, a simple plan that outlines a broadly defined strategy is probably sufficient. For more information on financial plans and how they can benefit you, consult your financial advisor.