Thursday, October 16, 2014

Important Tools to Have in Your Toolbox

When the combine breaks down during harvest, the first thing my husband does is get the tools.  Anything and everything he might need – the wrench, the gear puller, the hammer – he grabs so he can fix the combine and get it back on the field.   Whether you are a mechanic, plumber, or farmer, the tools assist in analyzing and fixing the problem. Without them, you can only guess what might be wrong.  You are left both helpless and hopeless in detecting the source of the problem without the necessary gadgets.

There are two important tools we use to analyze our current financial situations.  Now you probably have never thought of them as “tools” per se.  Seeing dollars and cents scribbled on a sheet of paper simply may look like (what else?) a financial statement.  A closer look from a new perspective will highlight these “dollars and cents scribblings” as valuable tools that may be used to analyze or fix any financial problem. Without them, you may only be guessing the source of your difficulties.  The two important financial tools are your Net Worth and Cash Flow Statements.

A Net Worth Statement is a listing of everything you own (assets) and everything you owe (liabilities). When you subtract your liabilities from your assets, you determine your net worth. This simply means that if you sold everything you own (home, car) and redeemed your investments to pay off everything you owe (debt), this would be your cash-in-the-pocket.  The question is, “Is your Net Worth positive or negative?”

A Net Worth Statement is an effective measuring tool to determine if you are making progress from year to year.  When your net worth continues to decline, are you accumulating more debt? When your net worth continues to increase, are you diligently investing for the future? It’s important to know whether you are winning or losing the battle of building wealth.  Are you going backward or forward? 

When you retire, you will need to draw from your assets to support your lifestyle.  We know that benefits from Old Age Security and Canada Pension Plan will not be enough.  Although your home may be your greatest asset, you will not sell it at the onset of retirement. What else do you have? The Net Worth Statement is your reality check.

The next important tool you need in your toolbox is a Cash Flow Statement which simply tracks “money in and money out.”  How much money flows into and out of your hands? Since our focus is building wealth, the money has to come from somewhere. If it slips out of your hands quicker than you make it, then the Cash Flow Statement will show you why.  This valuable tool tracks everything: your day-to-day expenses, savings, mortgage and loan payments.  Since the Cash Flow Statement works with net income (income after taxes), you will not need to factor in taxes. This statement determines if any money is left at the end of the time frame you have chosen to use, be that monthly or yearly.

A Cash Flow Statement provides a clear picture of problem areas and helps identify potential solutions.  Possible solutions may be:

  • to reduce spending in any one category of your lifestyle expenses to increase savings or reduce debt.
  • to direct money to savings when loans are paid. 
  • to simply use your savings to pay off loans now rather than later.
  • to determine steps necessary to make your next big purchase. 
  • to basically show your income may need to increase to fund your savings and pay down debt.

These two valuable tools are important for your benefit. Now common thinking says a Net Worth Statement is only prepared when applying for a loan.  Common thinking says a Cash Flow Statement takes too much work to prepare. Common thinking says no one has time to do this. However, when you go beyond common thinking and are determined to improve your finances, you will make a habit of using these essential tools to measure your progress.  You will be impressed with the results.  Without these tools, you will continue to feel helpless and hopeless about truly figuring out your money problems.  Since some dreams are fueled with money, these critical tools in your toolbox show how your dreams can be funded.

Click the links to create both, the Net Worth Statement and Cash Flow Statement. Like other tools, a Net Worth and Cash Flow Statement, are useful for general inquiries (a maintenance check) to see that everything is running smoothly and you are on the right track.   Congratulations for handling your finances well.

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