Money Management

All About the Personal Financial Statement

By  Brian Thorp

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By keeping tabs on your finances, you can create a secure and fulfilling future. That’s where a personal financial statement comes in. At its core, a personal financial statement offers an overview of where you stand financially at any point in time. It can help you succeed in various aspects of your life.

Why You Need a Personal Financial Statement

There are several reasons you may want to create a personal financial statement. It can help you if you’d like to:

  • Take out a loan.
  • Apply for financial aid.
  • Make a guarantee.
  • Design a retirement, estate, college savings, or other financial plans.
  • Lease a commercial office or other types of business space.
  • Develop strategies to reduce your tax burden.
  • Run for public office.
  • Keep track of your credit.

Ideally, your personal financial statement will show that you have a positive net worth and your assets are greater than your liabilities. This can allow you to position yourself as a responsible borrower and someone who knows how to manage their money well. It may also prove that you’re thriving with your finances.

How a Personal Financial Statement Can Change Your Money Habits

A personal financial statement can be instrumental in the way you think about your money and manage it. Here’s why: When you see your net worth, you’ll realize that many of your previous and future behaviors affect that figure. It informs you of whether or not you’re on track to meet your financial goals. A high, positive net worth, for example, may mean that you’re closer to your dream of:

  • Buying a dream home or rental property.
  • Retiring early.
  • Working part-time instead of full-time so you can spend more time with your family.
  • Donating more money to a cause or organization you value.
  • Funding your children’s college.

Low or negative net worth can give you a wake-up call. It may be just what you need to change your behaviors and be more cautious with the way you spend your money. You may be more likely to get out of debt, pick up a side job, and stick to a budget if you’re displeased with this figure.

What’s Included in a Personal Financial Statement

The three major components of your personal financial statement are as follows:

Balance Sheet

Your balance sheet is an overview of your personal net worth and will list all of your assets and liabilities. Assets may include your home, car, savings accounts, and investment accounts. Liabilities, however, might be your mortgage, auto, student loans, and credit card balances. Your balance sheet will state the difference between your assets’ total value and the total amounts you owe on your liabilities. It’s a great representation of your net worth.

Income Statement

Your income statement will consist of your salary, bonuses, and commissions. If you have other income from interest, a side job, or dividends, you’ll include this information as well. Your income statement will also outline your insurance premiums, income taxes, and any other consistent cash outflows you may have. With your income statement, you can determine whether you spend more than you earn and what you can do to improve the way you spend money.

Cash Flow Statement

A cash flow statement shows how you spend your money. It breaks down your cash into three main categories: fixed, non-discretionary expenses, variable, non-discretionary expenses, and discretionary expenses or fun money. It bridges the void of information from the Balance Sheet and Income Statement. You can use a cash flow statement to figure out if you’re on the right path to building wealth and meeting your goals.

What to Exclude From a Personal Financial Statement

Now that you know what’s included in personal financial statements let’s discuss what they should exclude. Your personal financial statements will not contain any business-related assets or liabilities. The only exception is a personal loan for your business or any other tool you’re directly accountable for.

Your personal financial statements mustn’t include anything you rent or personal belongings like household goods or furniture, as their values are rarely high enough to be considered assets.

How Often Should You Update Your Personal Financial Statements?

Once you prepare your personal financial statements for the first time, your work is not done. Since your finances will likely change regularly, your personal financial statements require frequent updates. It’s essential to review and modify your statements every month or every other month. This way, you’ll always be up-to-date on where you stand with your finances and can make adjustments to your spending and saving habits as necessary.

Personal Financial Statement vs. Business Financial Statement

Business financial statements usually consist of a profit and loss statement and balance sheet. As stated, personal financial statements include a balance sheet, income statement, and cash flow statement.

With a business financial statement, you can start or grow your business and obtain small business loans to help you do so. However, personal financial statements focus on your personal life and can help you achieve your personal financial goals like buying a house, retiring, or sending your children to college.

Ways to Increase Your Net Worth

Your net worth is essentially the value of your assets over your liabilities. You can have plenty of assets and have plenty of liabilities, meaning you don’t have a high net worth. On the flip side, you can have minimal assets but no liabilities and solid net worth.

So what is the ideal net worth? It depends on your age, unique lifestyle, and comfort level. There is no hard and fast number that everyone agrees with. However, you can use a formula developed by Thomas Stanley and William Danko, authors of the book “The Millionaire Next Door,” to get an idea of where your net worth stands. The formula is Net Worth=AgeXPretax Income/10. If your pretax income is $60,000 and you’re 35, for example, your ideal net worth would be $210,000, according to this formula.

Of course, this is just one way to look at your net worth and doesn’t necessarily mean that you’re struggling with your finances if you’re below the $210,000 mark. It’s all about what type of net worth you feel comfortable with.

If your personal financial statements prove that your net worth is in the negative or lower than you’d like it to be, don’t worry. There are a variety of ways you can achieve a positive or higher figure. Here are several suggestions.

  • Cut Expenses: The less money you spend, the more you can use towards saving and investing. Take a look at your budget and figure out where you can reduce or eliminate expenses. If you rarely use that gym membership, for example, cancel it. If you tend to overspend on dining out, cook more meals at home. Remember that even a few dollars here and there can add up and increase your net worth in the long run.
  • Look for New Income Sources: If your 8 to 5 job doesn’t pay enough, don’t be afraid to earn money through other outlets. Depending on your schedule, preferences, and interests, you may want to take on a second job or freelance work. Or perhaps you have many items that you no longer need or want and can sell them on Craigslist or Facebook Marketplace.
  • Buy a House: If you’re currently renting, saving for a house may be a good option. Your mortgage payments can allow you to build equity, which can increase your net worth. If you do pursue homeownership, make sure you choose a home at or below your means. Otherwise, it can turn into a liability rather than a wealth-building tool.
  • Build an Emergency Fund: Unfortunately, life happens, and your car may break down, or your roof may need to be replaced when you least expect it. In these situations, it’s helpful to have an emergency fund. With an emergency fund, you can cover these unexpected expenses and avoid debt. Most financial experts recommend three to six months’ worth of savings in an emergency fund.
  • Get Out of Debt: Although it’s easier said than done, do your best to reduce or eliminate your debt. This includes your student loans, mortgage, credit card debt, car debt, and other places you make monthly payments to.
  • Invest: The sooner you begin to invest, the better. Once you have an emergency fund, make your money work for you via investing. You may want to consider some investment vehicles, including a 401(k), Roth IRA, Traditional IRA, and 529.
  • Get Insured: Insurance can protect you financially when and if the going gets tough. Life insurance, car insurance, and health insurance are important investments that can protect your (and your family’s) financial future.

How to Prepare Personal Financial Statements

If you’d like to prepare personal financial statements, you have two options. You can go the DIY route and complete them yourself. Fortunately, there are many free and fee-based templates available to guide you through the process.

Another option is to consult a financial advisor or hire a financial coach to help you. They can provide you with the expert guidance you need to ensure your personal financial statements are thorough and accurate. Even if you create your own statements, a financial advisor may review them and provide you with the peace of mind of knowing it’s in good shape.

A financial advisor can also help you increase your net worth. Once they learn more about your particular situation, they can make appropriate recommendations and steer you toward a healthier, happier financial future.

This article originally appeared on Your Money Geek and has been republished with permission.

Disclaimer: The information in this article is not intended to encourage any lifestyle changes without careful consideration and consultation with a qualified professional. This article is for reference purposes only, is generic in nature, is not intended as individual advice and is not financial or legal advice.

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