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Get a big picture of where you are in your finances at the moment with the financial planning pyramid method.
It’s a personal finance strategy that lets you have a good view of the whole picture and not just one piece of the pie.
Did you know successful people take this unique approach to building a good financial plan?
Instead of focusing on singular financial problems, they set their eyes on a bigger objective. They don’t just concentrate on paying off their debts or picking the right stocks. Rather, they devote themselves to the big goal.
What’s the big goal, you might ask?
Well, it depends. If you ask me, I’d like to have financial freedom as my big goal. Have savings for retirement and enough funds for emergencies. At the same time, work on paying off debts.
The idea behind the financial planning pyramid method is to build a good foundation. This allows you to achieve your goals despite the economic uncertainties in life.
Here’s what you need to know about the financial planning pyramid system.
This personal finance pyramid follows Maslow’s theory. To meet your higher-level needs, you need to satisfy your basic-level needs.
The most fundamental needs are at the base of the financial pyramid. And to create a strong pyramid, you need to establish a solid base; a sturdy foundation that will carry the other levels.
Think of your financial planning pyramid as a house. Without a solid foundation, it will collapse.
It doesn’t matter how beautiful the house is. No matter how fantastic it looks, without a solid foundation, it will cave in.
What’s a good foundation for a financial planning pyramid?
To create a strong foundation for your financial planning pyramid, you need to have protection from any unexpected event that can jeopardize your long-term financial goals.
This is where insurance comes in.
Without anything set aside for your financial protection, you open yourself to a lot of risks that can affect all your plans. Everything could crumble should an unexpected event occur.
Insurance gives you the cushion in case of an emergency or unanticipated events like job loss or medical issues.
Another good protection against a potentially jeopardizing occurrence may come in the form of setting aside a certain percentage of your income and putting it in an emergency fund.
What’s the next layer in a financial pyramid?
To build your wealth, you need to have savings. But to effectively proceed on this stage, you need to have completed the first steps, which covers the insurance protection requirements.
Ideally, set aside about 15 percent of your income to build your savings. Start with this rate, but challenge yourself by increasing it further every year. Perhaps the next year, you will go for 16 percent or more.
My personal goal is to eventually save up to 50 percent of my income. To do this, simply spend significantly less.
Also, the earlier you start making investments, the better.
Inflation will only eat up your money in a savings account. The money in your bank savings right now will have less than 50 percent of its purchasing power in 20 or so years. The best way to make your money grow is to enter into investments.
The next level of the financial planning pyramid is wealth building and preservation.
Building and preserving your wealth is an extension to setting aside money as savings.
Now that you have created a good foundation for your financial health, it’s time to progress by becoming wealthier.
You can now focus on this since you have the necessary protection from any eventuality like job loss or medical issues. This foundation will cover the costs that you might incur without jeopardizing your finances.
With savings in place, you also gain the confidence that lets you breathe easier, knowing you have the funds for whatever plans you may have.
So what happens at this level?
This is where you let your finances grow further. Perhaps buy a car and a home as well as invest in your kid’s college fund.
You may also want to concentrate on retirement planning at this stage.
Paying off your debts is also a good investment to undertake. By eliminating most of the principal, you can stop the interest from accumulating too much.
And now that you’ve started to accumulate more wealth, what’s next?
It’s important to preserve it. And the only way to prepare for the worst case scenarios is to have more protection; be it insurance or some other form of risk management.
Let’s go into these three main levels in the financial planning pyramid.
Having a good base is crucial to financial planning.
The three most important considerations to remember when building a solid foundation in your financial planning pyramid chart are:
- Wealth building and preservation.
This is the most vital component in a financial risk pyramid. Insurance gives you the protection you need against unexpected events like job loss or medical issues.
But here’s an unfortunate reality. A lot of people don’t insure against eventualities. The common justification is that it is money they don’t get back.
Insuring against a risk that may or may not happen shows financial maturity.
Yes, some get lucky and will never experience a catastrophe. And it follows that the premiums they paid constitute money that they will never get back.
But are you willing to take that chance? Will you risk losing everything in a disaster?
Insurance gives you the cushion, which absorbs the blow from unexpected events. Without ample fund for emergencies, catastrophes will have you digging into your long-term savings and potentially depleting it; worse, you will incur debts.
Can you imagine being in a family where the breadwinner dies? With the finances changed drastically, the kids may not be able to complete school. It’s all downhill from there. It may only be a matter of time when the family will beg for food.
Insurance is a risk-managing measure.
It may not be the most exciting aspect of financial planning, but it is certainly the most critical one.
Insurance gives you the proper safety net that manages risk. It will catch you should an unforeseen or inevitable catastrophic event occurs. It will protect you and your family from the out-of-pocket expenses that may arise from these unfortunate events.
Let’s talk about life and health insurance.
Are you the breadwinner?
Who will suffer if you get sick or die?
It’s not only you; your family will also suffer. Worse, death brings a whole new set of problems too.
Death of a breadwinner cuts off the family’s income source. Without money, lifestyle will be severely affected.
On the other hand, serious illness of a breadwinner will not only cut the income stream; the family will also have to incur out-of-pocket costs to answer for the medical needs.
While most people don’t think of mortality, it is crucial that you handle this matter as soon as possible. The earlier you secure a life or health insurance coverage, the cheaper it is.
For you and your family’s financial security, you need to secure life and health insurance protection.
Choosing to ignore the reality of death or illness and its consequences is gravely irresponsible especially in today’s world. It can be very devastating for the surviving family.
With this protection in play, your family’s lifestyle survives. Death or illness will cause little to no major financial hit.
The insurance proceeds can pay off any debts left behind. It can also provide for the kids.
It’s also equally important to set up an emergency fund.
This fund can give you the peace of mind, knowing you have enough provisions for out-of-pocket costs that may arise from unexpected events.
You don’t have to dig deep into your savings or incur debts. More importantly, you and your family will continue your current lifestyle.
An emergency fund is your defense against events that aren’t usually covered by life, health, or any type of insurance.
Ideally, you should have at least three to six months worth of income in an emergency fund.
This is the stage where most people jump into, which shouldn’t be.
If you want to create a solid foundation for your financial planning pyramid, you should first focus on your protection level.
With insurance protection and an emergency fund in place, you won’t have to touch your savings to answer for the unexpected costs.
Having said that, savings is the level where you begin the first part of your journey toward building your wealth.
Save first before you invest.
Ideally, you should set aside 15 percent of your regular income and put it into a savings account. Every year, increase it up a notch.
If you ask me, I’d like to achieve a 50-percent savings rate in the near future. To do that, I will just have to limit my spending. These money saving tips can help you save hundreds.
Or I could look for other sources of income so I could set aside a higher percentage of my regular income into a savings account.
This may be easier said than done. Even millionaires have a hard time trimming expenses down to a minimum and working on a tight budget. It’s hard work, but it can be doable.
To achieve your savings target, reassess your cash flow. Make an honest appraisal of the money that comes in versus the amount that comes out every month.
A regular financial check is vital to get an accurate picture and estimate how much you can save every period. Even if you can only put in $50 or so each month, that can go a long way.
Once you’ve determined the amount of your necessary monthly expenses, you’ll have a good idea of how much to set aside as savings.
Make investments early.
Hurry in building your savings so you can start with making investments. The earlier you begin, the better.
Keeping your savings in the bank is only good when you need to get hold of money fast. But accessibility is completely different from making your money grow.
If you want to reap the most benefits, start investing.
People don’t become millionaires by investing in savings accounts.
Wondering how to start investing?
For starters, check with your company’s benefits coordinator or HR department regarding retirement plans or similar options.
Also, you may want to speak with financial advisors regarding asset management or other investment programs.
Make investments today to reap its benefits tomorrow.
3. Wealth Building and Preservation
This is a follow-up to the second level of the financial pyramid, which is savings.
It is on this level that you pursue efforts toward building more wealth.
Building your wealth requires discipline and perseverance. You need to budget your money, keeping track of your spending while ensuring a steady flow of income.
Are you familiar with the 50-30-20 system?
These numbers are percentages of where your money goes every month.
- 50 percent goes to the essentials, namely food, utilities, housing costs, etc.
- 30 percent is discretionary spending, which includes phone and cable subscriptions, entertainment and amusement experiences, vacations, etc.
- 20 percent is the amount that goes into your savings account.
If you want to create more wealth, focus on reducing your discretionary spending.
Also, downsize your home or car to lower your expenses on these items. Sell or dispose of it. The less stuff you have, the more affordable living can be. Minimalism offers a psychologically freeing feeling.
Curb overspending by shopping smart.
Are you looking to buy an expensive item?
Practice delayed gratification by postponing your purchase until you have reasonably contemplated on it or have saved up enough to make it possible.
You might also want to look into thrifting and second-hand shopping.
Budget appropriately and wisely.
Now that you’re making enough money while setting aside enough for your insurance and emergency fund, what’s next?
To preserve the wealth you’ve built, you need to stick to a budget. What good are your income-generating systems and insurance protection if you can’t keep with a sound financial management system.
Building your wealth is a long-term strategy.
Think of it as a marathon, not a sprint. If you want to build your wealth and make sure it lasts, you need a sound long-term strategy.
It takes many steps, and you’ll likely see little progress. But in the long run, you’ll find yourself a whole lot better than when you started.
Have you started on your financial planning today?
2 thoughts on “The Financial Planning Pyramid & How It Impacts Your Finances”
This is a wonderful read! I love your pyramid comparison. It makes so much sense! Thanks for the reminder about not becoming a millionaire through savings accounts too. They are important, but perhaps I need to switch my focus for a few months and learn something new! Thanks again!
Yes, asset allocation is so important. I’m all about having a cash emergency fund/safety net, but having money in cash actually loses you money since you aren’t gaining any interest to combat inflation.
Thanks so much for your great comment!