When it comes to working towards your life goals, it’s vital to have a plan in place to help you reach them.
As part of this planning, it can be really helpful to get a grasp of the four stages of your personal financial life cycle.
That way, you can know what to expect, while also working out how to invest to get ready for what’s to come.
Building wealth
The first stage of your financial life cycle takes place during your early years in the world of work. As you’ve probably recently graduated from university or college, your income is likely to be relatively low. As a result, you may well be spending more than you earn – and accruing debt.
Financial considerations
Your focus at this stage needs to be on building savings and striving to clear any debts you have. Careful budgeting can help you generate savings, setting you on a firm footing for the next stage. As you probably don’t have dependents, this is the ideal time to slot money away. But in order to do this, you need to learn to live within your income so you have some cash to spare.
Once you’ve mastered this, your first priority should be building your emergency cash fund. This should be equivalent to between three and six months’ worth of essential expenses and held in an easy-access account. With this in place, you might look to slot money away for a house deposit.
At this stage, you may be using high-paying savings accounts. But bear in mind that while squirrelling money into savings has a place to cover planned expenses in the next five years, your hard-earned cash will be at the mercy of inflation.
This is where investments come into play. For any money you won’t need for five to 10 years, you could consider dipping a toe into investing. You don’t need to have thousands before you can start. One of the best ways to begin is by monthly or regular investing, starting with as little as £25 a month, and increasing that when you can. Small amounts regularly is a tried and tested way to spread risk. It helps you ride out the highs and lows. What you need to remember is that investing is for the long term. You can find the right platform or robo for your needs at Compare and Invest.
At this stage, you also want to give some thought to saving for retirement. Pensions are usually the best place to focus your efforts, as they are the gold standard of tax wrappers. If your employer offers a workplace scheme, you should take advantage of this (opt out, and you are essentially giving up free money).
Saving early can be the key to building a decent pension. This is because the longer you save, the more chance you have of seeing your money grow – in large part, due to compounding.
For money you want to access before retirement, make use of ISAs. (The current allowance is £20,000 a year per person). With savings and investments held in an ISA wrapper, there is no tax to pay on interest, capital gains or income earned.
Growing your wealth
Having put down the foundations in the early years of your working life, the next stage of your financial cycle is when you’re starting to get up to speed in terms of both your career and finances. Hopefully, by this stage, you have cleared your debts and built up a decent pot of savings.
At the same time, this could be the time you’ve had children, meaning your expenses will go up. This phase of your life can be very demanding, with many elements of financial planning needing to be attended to. But while your expenses might have gone up, your income is likely to have increased, too.
Financial considerations
This is the time to knuckle down and get serious about pension saving. It may also be the time to give more thought to investing for your goals. Your focus now needs to be on growing your wealth, both to help build funds for your family – as well as for your own retirement.
Bear in mind you may need to factor in other goals at this time, such as taking the first step onto the property ladder and saving for your child’s education costs. In terms of investing, your focus here should be on growth. As you still have a long time to go until you retire and need to draw on your investments, you can afford to take a higher degree of risk. This may mean more ups and downs, but also offers the potential for higher returns.
Take care to invest in a way that aligns with your time horizon and appetite for risk. Be sure to diversify across different sectors and countries – as well as different asset classes, such as shares and bonds.
This can help to reduce volatility.
If you have children, you may want to open – and save into – a vehicle such as tax-efficient Junior ISAs. As this stage of your life is more about managing your wealth, it may be helpful to get a financial adviser to ensure your finances are on track to meet your goals.
If it doesn’t make sense to pay for advice at this stage, check out investment platforms, which allow you to invest in a straightforward – and often relatively low-cost – way. In many cases, you can research and choose your own investments from the wide range on offer.
Alongside your savings and investments, remember to think about the future. This includes writing a will and getting a ‘lasting power of attorney’ in place in case anything should happen to you.
Preserving your wealth
As you transition into the third stage of your financial life, you are likely to be well established in your career, with a high income. Over time, your dependents will fly the nest which may mean your outgoings go down a little. If you’ve managed things well, with your expenses feeling more stable, and your savings growing, this could be the ‘golden stage’ for your finances.
With one eye on retirement, it’s a good time to take stock of what you have to date, and to set a target for what you will need when you retire.
Financial considerations
Your focus now needs to be on preserving wealth. This is likely to mean dialling down risk in your portfolio, reducing exposure to volatile areas, and moving into lower-risk assets. As you rebalance your portfolio to reflect this, this is the time to catch up on your retirement goals. If your earnings rise, pay more into your pension. Often when you increase contributions, your employer will match them.
This third stage in life may also be the time when you finally pay off your mortgage. Now that you have accumulated wealth, it’s also the time to start giving some thought to planning for the transfer of wealth.
Make sure you’ve got an up-to-date will, clearly setting out how you want to distribute your estate.
This is another time when you might need to take advice – view it as a ‘midlife MOT.’
Distributing wealth
The final stage of your financial cycle which takes place in your later years will be based around retirement. You will no longer be working – or at least hopefully working less – and are now living off your pension savings. Your outgoings might have dropped slightly given you’re spending less on dependants, and you may well have cleared your mortgage.
Financial considerations
The key at this stage is to ensure your retirement savings will last you for the rest of your life. Be aware that you may need your pot for another 20 years or more, making it vital to control expenses to remain within the available income. You may, for example, have plans to sell off investments gradually.
As you’re in the final phase of your financial life, you need to check all the necessary plans are in place to pass on wealth to loved ones in a tax-efficient way. It may be useful to speak to a financial adviser about plans for your estate.
While you’re at it, seize the opportunity to start simplifying your finances. This means cutting down on multiple accounts and consolidating investments. Ensure all your financial documents are organised, updated and accessible. By taking a few simple steps now, you can make life so much easier for loved ones once you are no longer around.
Photo by YanLev on Canva.
