Chapter 3 Money Management Strategy:Financial Statements &Budgeting

Mrs. Jordan

Financial Plan

Is an orderly program for spending, saving, and investing the money you earn.

Financial planning helps you do the following:

Determine and evaluate how wisely you are using your money.Get the most from your income.Prevent careless and wasteful spending.Organize your financial resources so that you can maintain personal financial fitness.Avoid money worries and problems by understanding the proper methods of saving, spending and borrowing money.

Chapter 3 Learning Objectives:

1. Recognize relationships among financial documents and money management activities

2. Design a system for maintaining personal financial records

3. Develop a personal balance sheet and cash flow statement

4. Create and implement a budget

5. Relate money management and savings activities to achieve financial goals

Planning for SuccessfulMoney Management

Objective 1: Recognize relationships among financial documents and money management activities

Daily spending and saving decisions are the heart of financial planning

Decisions must be coordinated with needs, goals, and personal situations

Money management is the day-to-day financial activities needed to manage personal economic resources, while working toward long-term financial security

Opportunity Cost

OPPORTUNITY COST AND MONEY-MANAGEMENT

Spending money on current living expenses reduces the amount you can save and invest

Saving and investing for the future reduces the amount you can spend now

Buying on credit ties up future income

Using savings for purchases results in lost interest and depletes savings

Comparison shopping can save money but takes valuable time

Daily decision making is a fact of life, and trade-offs have to be made. -Selecting an alternative means you give up something else.

COMPONENTS OF MONEY MANAGEMENT

Creating and implementing

a plan forspending, and saving (budgeting)

Creatingpersonalfinancial

statements(balance

sheets andcash flow

statements of income

and outflow)

Storingand

maintainingpersonalfinancialrecords

anddocuments

Provide WrittenEvidence

Measure & AssessFinancial Position & Progress

Basis for effective money management

These three components are interrelated.

A System for Personal and Financial Records

Objective 2: Design a system for maintaining personal financial records

Benefits of an Organized System of Financial Records

• Handling daily business affairs, including payment of bills on time

• Planning and measuring financial progress• Completing required tax reports• Making effective investment decisions• Determining available resources for current and future buying

Items for your Home File

• Personal and employment records - Resume, Work History (current/past jobs) Company Name, Manager Name, Company Address, Length of Employment

• Money management records - Budget (Monthly/Yearly)

• Tax records - W-2’s, tax forms, pay stubs

• College Records - Essays, transcripts, college information, application copies.

• Financial services records

• Consumer purchase, auto and credit records

• Housing records

• Insurance records

• Investment records - Net Worth Statement, Personal Property Statement

• Estate planning and retirement records

Items in your Safe Deposit BoxRecords that would be hard to replace

• Birth, marriage and death certificates, copy of will• Citizenship and military papers• Adoption and custody papers• Serial numbers and photos of valuables• CDs and credit and banking account numbers• Mortgage papers and titles• List of insurance policy numbers• Stock and bond certificates• Coins and other collectibles

How Long Should Records Be Kept?

Birth certificates, wills, and Social Security information should be kept indefinitely

Keep records on personal property and investments as long as you own them

Keep documents related to the purchase and sale of real estate indefinitely

Copies of tax returns and supporting data should be kept seven years

Personal Financial StatementsMeasure Financial Progress

Objective 3: Develop a personal balance sheet and cash flow statement

Purpose of Personal Financial Statements

Report your current financial position in relation to the value of the items you own and the amounts you owe

Measure your progress toward your financial goals

Maintain information on your financial activities

Provide data you can use when preparing tax forms or applying for credit

Balance Sheet: Where are you Now?

Also called the Net Worth Statement or Statement of Financial Planning

Preparation of Balance Sheet requires using the following Steps – -Balance Sheet Example on pg. 83 in textbook

STEP 1: LISTING ITEMS OF VALUE

• Assets - what you own

• Liquid assets - Cash and items that can easily be converted to cash.

• Real estate - Home, condo, vacation property, land.

• Personal possessions - Automobile, personal belongings.

• Investment assets - Funds set aside for long-term financial needs.

Balance Sheet (Continued)

STEP 2: DETERMINING THE AMOUNTS OWED

Liabilities - what you owe others

• Current liabilities (< 1 year) insurance premiums, charge accounts, tax payments.

• Long term liabilities - auto loans, student loans, mortgage.

STEP 3: COMPUTING NET WORTH

Assets – Liabilities = Net Worth

Assets = Net Worth + Liabilities

Insolvency: is the inability to pay debts when they are due

Balance Sheet (Concluded)

Net Worth is an indication of the financial position at any given date

Ways to increase Net Worth

•Increasing your savings

•Reducing spending

•Increasing the value of investments and other possessions

•Reducing the amounts you owe

Create a Balance Sheet

Use the following items to prepare a balance sheet. Determine the total assets, total liabilities, net worth, total cash inflows, and total cash outflows.   

Rent for the month, $450 Auto insurance, $250

Monthly take-home salary, $1650 Household possessions, $4600

Cash in checking account, $770 Stereo equipment, $1500

Savings account balance, $2300 Payment for electricity, $75

Spending for food, $250 Lunches/parking for work, $220

Balance of educational loan, $3300 Donations, $50

Current value of automobile, $6500 Home computer, $1000

Telephone bill paid for month, $85 Value of stock investment, $1200

Credit card balance, $450 Clothing purchase, $ 100

Loan payment, $110 Entertainment, $250

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Cash Flow StatementCash Flow is the actual inflow, outflow for a given time period.

The Cash Flow statement is also called personal income and expenditure statement.

See example on page 86 in textbook.

The process of preparing cash flows statement follows these steps:STEP 1: RECORD INCOME

• Wages, salaries, and commissions• Self-employment business income• Savings and investment income• Gifts, grants, scholarships and educational loans• Government payments, such as Social Security, public assistance, and

unemployment benefits• Amounts received from pension and retirement programs• Alimony and child support payments

Cash Flow Statement (Continued)

STEP 2: RECORD CASH OUTFLOWS

• Fixed Expenses - Do not vary from month to month. Rent, Mortgage, Installment Loan, Student Loan, Cable,

Phone…

• Variable expenses - Flexible payments that change from month to month. Food, Clothing, Utilities, recreation, medical expenses…

• STEP 3: DETERMINE NET CASH FLOWS

• The difference between income and outflows can either be positive or negative (Surplus or Deficit)

• Cash flow statement provides the foundation for preparing and implementing a budget

Cash Flow Statement

Complete your own!

Budgeting for Skilled Money Management

Objective 4: Create and implement a budget

A budget is an organized spending plan that helps you plan your spending and saving so that you do not have to borrow money to meet your needs.

The main purposes of a budget are to help you

• Live within your income

• Spend your money wisely

• Reach your financial goals

• Prepare for financial emergencies

• Develop wise financial management habits

Starting the Budgeting Process

1. Set financial goals

2. Estimate income from all sources

3. Budget amount for an emergency fund – pay yourself first, periodic expenses and financial goals (Try to set aside 10%)

4. Budget Fixed Expenses that you are obligated to pay

5. Budget Variable Expenses—the amounts that are to be spent for household and living expenses

6. Record Spending Amounts—the actual amounts for inflows and outflows, comparing actual amounts with budgeted amounts to determine variances

7. Review Spending and Saving Patterns

8. Evaluate whether revisions are needed in your savings and spending plans

First you need income…

Where Does My Money Go?

• Almost 31% of an individual’s paycheck is deducted

• Taxes are the largest expense most individuals will have

• Therefore, it is important to understand the systematic deductions

• U.S. tax system operates on an ongoing payment system

• Taxes are immediately paid on income earned

Starting a New Job

To receive a paycheck, an employee must:

• Complete a Form W-4 - Employee’s Withholding Allowance

Certificate• Complete a Form I-9 –

Employment Eligibility Verification

Form W-4

Employee’s Withholding Allowance Certificate

• Determines the percentage of gross pay which will be withheld for taxes

Allowances

• Used to determine the amount of federal taxes withheld from the paycheck

• A person may claim a personal allowance if no one else claims the person as a dependent

• Dependent – a person who relies on the taxpayer for financial support

Form W-4Employment form that lets the employer know how much money to take out of your paycheck. Exempt if make less than $6,200 in 2014.

Form I-9

Employment Eligibility Verification Form

Used to verify the eligibility of individuals to avoid hiring undocumented workers or others who are not eligible to work in the United States

Must provide documentation which establishes identity and employment eligibility

• Examples include driver’s license, passport, Social Security card, and birth certificate

Form W-2

Wage and Tax Statement

States the amount of money earned and taxes paid throughout the previous year

Used to file income taxes

By January 31, an employer should mail a Form W-2 to each employee for the previous year

Paying EmployeesThree methods employers may use to pay employees:

1. Paycheck- • Most common method

• Employee responsible for handling the paycheck

• Immediately see payroll stub and deductions

Paying Employees continued

2. Direct Deposit-• Employers directly deposit employee’s paycheck into the

authorized employee’s bank account

• Employee receives the paycheck stub detailing the paycheck deductions

• Most secure because there is no direct handling of the check

• Employee knows exactly when paycheck will be deposited and available

Paying Employees continued

3. Payroll Card-• A payroll card electronically carries the balance of the employee’s

net pay• Funds are directly deposited by an employer into an account at a

financial institution that is linked to the payroll card

• Parties involved:• Employer• Employee• Financial institution

• Use the payroll card for ATM withdrawals or to make purchases

Payroll Card

There are numerous fees associated with payroll cards

• Number of fees depends upon the financial institution• Examples:

• Monthly or annual fee• ATM fee• Inactivity fee• Fee after a specific number of transactions have been used• Replacement fee if the card is lost, stolen , or destroyed• Load fee (when funds are placed on the card account)• Point of sale (POS) fee for using the card at a POS terminal,

or an electronic payment processor

Benefits of Using Payroll Cards

Employers

• Lower internal costs• Costs associated with

producing, handling, and distributing pay checks is eliminated

Financial Institutions

• Profit from the fees charged to employees, employers, and merchants

Employees• Safer than carrying large amounts

of cash• Unbanked employees do not have

to pay check cashing fees• Americans roughly spend $8

billion annually in check cashing fees

• Can access electronic monthly statement of transactions

• Can receive a second card• Give allowances to children• Send money internationally

• Easily make online purchases

Consumer Protection with Payroll Cards

Regulation E – Electronic Fund Transfer Act

• Protects payroll card holder from fraudulent charges on lost or stolen cards

• Card holder is only liable for $50 if a lost or stolen card is reported within 48 hours

• Over four million paychecks are stolen annually with no protection to employees

• Regulation E provides exceptional safety and protection for payroll card holders

Gross Pay

Gross Pay – amount of money you make before taxes

• Hourly: hours worked x rate of pay

• Ex: 40 * 5.85 = $234• Salary: annual salary/number of pay periods in year

• Ex: 48,000/12 = 4,000 (if paid monthly)Weekly: 52Bi-monthly: 24 timesBi-weekly: 26

• Overtime is calculated at 1.5 the rate of pay for hours worked over 40 hours in a 1 week period

• Ex: 5.85 * 1.5 = 8.775 (new rate of pay)8.775 * 8 (overtime hours) = 70.2

If regular hourly pay was $234, you would add $70.2 to get total gross pay amount:

$234 + 70.2 = $304.20 (gross pay)

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Paycheck

Pay Period 6/11/2004-7/11/2004

$1,502.10$250.35Totals

$503.46$117.72$636.00$244.92$0.00$0.00

$106.00$40.82$83.91$19.62$0.00$0.00

Federal WithholdingState WithholdingFed OASDI/ EE or Social SecurityFed MED/ EE or MedicareMedical401K

$1,353.33

Year-to-dateCurrentDeductionsPay Type-Gross Pay

Employee Address293 Michael GroveBillings, MT 59102

Check Amount$1,102.98

Check #164

SSN201-92-4856

EmployeeBeakens, Joe

On-The-Go

Pay Period 6/11/2004-7/11/2004

$1,502.10$250.35Totals

$503.46$117.72$636.00$244.92$0.00$0.00

$106.00$40.82$83.91$19.62$0.00$0.00

Federal WithholdingState WithholdingFed OASDI/ EE or Social SecurityFed MED/ EE or MedicareMedical401K

$1,353.33

Year-to-dateCurrentDeductionsPay Type-Gross Pay

Employee Address293 Michael GroveBillings, MT 59102

Check Amount$1,102.98

Check #164

SSN201-92-4856

EmployeeBeakens, Joe

On-The-Go

Pay Period

– The length of time for which an employee’s wages are calculated; most are weekly, bi-weekly, twice a month, or monthly

Deductions

The amount of money subtracted from the gross pay earned for mandatory systematic taxes, employee sponsored medical benefits, and/or retirement benefits.

Federal Tax• The amount required by law for employers to withhold from earned wages to pay

taxes

• The amount of money deducted depends on the amount earned and information provided on the Form W-4

• Largest deduction withheld from an employee’s gross income

State Tax• The percentage deducted from an individual’s paycheck to assist in funding

government agencies within the state

• The percentage deducted depends on the amount of gross pay earned

Local & City Tax – Many cities require an earnings tax

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• Social Security Tax – also called FICA

This tax includes two separate taxes: Fed OASDI/EE or Social Security and Fed MED/EE or Medicare

These two taxes can be combined as one line item or itemized separately on a paycheck stub

Currently: 7.65% of gross pay

Social Security– Nation’s retirement program, helps provide retirement

income for elderly and pays disability benefits– Based upon a percentage (6.2%) of gross income, employer

matches the contribution made by the employeeMedicare

– Nation’s health care program for the elderly and disabled, provides hospital and medical insurance to those who qualify

– Based upon a percentage (1.45%) of gross income

Optional deductions: union dues, healthcare, uniform, retirement, etc.

Net Pay

Net Pay: the amount of money AFTER all deductions have been taken out of your gross pay

• Also called “take home” pay or “disposable income” – it is the amount you have available to spend from your paycheck

• Calculated: gross pay – deductions = net pay

Discretionary Income: money left over AFTER paying for housing, food and other necessities

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Characteristics of Successful Budgeting

• Well-planned• Realistic• Flexible • Clearly communicated

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Selecting a Budgeting System

Mental budget – it is all in your head

Physical budget-use envelopes for your expenses such as food, rent, etc.

Written budget – use spreadsheets

Computerized budget – use software such as Quicken (www.quicken.com)

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Money Management and Achieving Financial Goals

Objective 5: Relate money management and savings activities to achieve financial goals

IDENTIFYING SAVING GOALS…

• To set aside money for irregular and unexpected expenses• To pay for the replacement of expensive items, such as cars or a

down payment on a house• To buy special items like recreational equipment or to pay for a

vacation• To provide for long-term expenses such as retirement or the

education of children• To earn income from the interest on savings for use in paying living

expenses

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Money Management and Achieving Financial Goals (continued)

SELECTING A SAVINGS TECHNIQUE

Payroll deductions into savings accounts

Automatic payments from checking into savings accounts or mutual funds

Saving regularly in 401(k) plans

Also save coins, make periodic deposits

Write a check each payday as a % of income and deposit into savings

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Money Management and Achieving Financial Goals (continued)

Balance Sheet reports current financial position (Net Worth)

Cash Flow Statement shows cash you have received and spent in the past

Budget helps you to spend and save to achieve financial goals

Sample Budget

Personal Property Inventory

Net Worth Statement