‘Spring Cleaning’ Includes Your Client’s Finances, Too

Ah yes, spring is in the air.

The flowers, the lawn that needs mowing, the allergies. It is a new day and a time that many choose to do some "spring cleaning." According to Wikipedia, spring cleaning "is the practice of thoroughly cleaning a house in the springtime." There are many spring-cleaning tips and lists on the internet for those interested. However, there is no mention of a spring checkup on finances during this cleaning period.

The Federal Reserve's recent report on the economic well-being of U.S. households indicated that 64 percent of all adults in November 2020 would have been able to cover an unexpected expense of $400 with cash, savings, or a credit card paid off at the following statement (Reserve, F., 2022). This leaves 36 percent of adults forced to pay the amount over time if they can cover the expense. Additionally, inflation is at a record high, housing prices continue to climb, and supply chain issues are not going away anytime soon.

So why is it that so few Americans take the time to review their finances each year? A 2019 survey conducted by Northwestern Mutual found that 48 percent of respondents ranked financial preparedness as a top-five concern. Is the task too daunting, or do individuals not know where to start? Is the term financial plan equated to having to pay a financial professional?

Creating a financial plan or a financial checkup is possible in the DIY age. It requires no more than time, honest reflection, and communication with your significant other if necessary. If more than one of you is in the household, you need to be on the same page regardless of who primarily handles the finances. An annual financial plan is a great way to begin, and spring is a great time to do so.

An annual financial plan is meant to create a financial map for what you would like to accomplish next year. Like any plan, the place to start is finding out where you are now, followed by setting goals for where you would like to be this time next year. Once these two ideas are in place, you can develop the strategy necessary to get you from point A to point B.

Step One: Where are you now? Gather your latest bank, investment, retirement, credit card, and mortgage statements. Once you have all that paperwork in front of you, it is time to create a balance sheet by listing your assets (what you own) in one column and your liabilities (what you owe) in another column. List your assets in terms of their market value — what you could sell them for — and your liabilities in terms of balance due. Once you have done this, subtract the total liabilities from the total assets to determine your net worth. You may have a negative net worth for new college graduates now, but that topic is for another day. Next, list your monthly living expenses (much like you would for a budget) and calculate your liquidity ratio. The liquidity ratio is your liquid assets (checking, savings, money market accounts) divided by your monthly living expenses. The liquidity ratio is an essential indicator regarding the number of months of living expenses in the bank should you be out of work for a bit. (ex. $10,000 liquid assets ÷ $2,000 monthly living expenses = 5 months of liquidity). The liquidity ratio is often that "aha" moment for folks when they realize that there aren't enough savings to cover many months out of work. An emergency savings fund that covers this liquidity ratio should be your first priority.

Step Two: Review or create a budget that incorporates "paying yourself first," or ensuring your budget allows you to save toward your emergency fund while still taking care of your essential obligations. This will take the form of income minus savings minus expenses. After carefully reviewing the new budget, you can determine if you have income left over each month to invest in your future wants.

Lastly, review your retirement plan accounts and make sure these continue to meet your retirement goals and risk tolerance. The stock market is volatile, and recent twists and turns have demonstrated this volatility. Be sure that you are comfortable with your investment choices during this time, and you will be guaranteed to be satisfied with them during the smooth swings.

Dr. Mary Dorn is an assistant professor of finance in the Columbia College Robert W Plaster School of Business.

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Dr. Mary Dorn

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