New Year's Financial Goals: What Steps to Take?

As the pages of the calendar turn, we find ourselves on the brink of bidding farewell to 2023 and welcoming the fresh start that 2024 promises. In these moments, amidst the joyous festivities and gatherings, there's a natural tendency to ponder over our past deeds and chart out our aspirations for the days ahead. Among these contemplations, a crucial one that often surfaces is our financial trajectory in 2024 and the years to follow. This naturally leads us to a pivotal question:

"What should our financial objectives be for the coming year?"

At first glance, this seems like a straightforward query. Yet, the intricacies of its answer are far from simple. From my experience, the foundation for setting these goals lies in a solid understanding of financial planning. It's a realm that extends beyond the mere act of earning and saving money. I believe that our financial acumen is essentially evaluated across five distinct dimensions:

• Earn: How much do we make? 

• Save: How much can we save? 

• Invest: What is the overall returns of all our investments?

• Protect: How financially resilient are we against life crises? 

• Donate: What is the impact of our wealth to our community? 

Today, our positions in all of them are most likely different. One may be earning more but fail to save. Another may be good at investing but is underinsured. Or, one can be extremely wealthy but has no desire to contribute to his community via charities regularly. 

Hence, when it comes to money, everyone is on a journey. 

This is why financial planning is like planning a trip. Let’s say, we are planning to go for a short vacation. We need to know 3 things:

1: Where are we now? (KL)

2: Where do we want to be? (Penang)

3: How do we get there? (Car, Bus, Train or Plane)

Likewise, we can easily plan our finances with the 3 steps as follows: 

Step 1: Know Our Financial Position

Here, I’ll let out a secret. 

Perhaps, some may ask: “If I have RM X million in my bank accounts, would that mean I’m financially well off and as such, have no need to plan my finances?”. 

My answer is nope. Today, it’s possible for one who has

RM 1 million to be poor and the other who has RM 500k to be rich. The same goes with one who has 10 properties and the other who has 1 or 2 properties. The one with 10 properties could actually be poorer than most people. Thus, “looks” and “appearance” can be deceiving in assessing one’s financial health. 

To me, a more practical way to truly know how good you are doing financially is to measure it with 6 key metrics below: 

• Income Growth
• Savings Ratio 
• Passive Income / Total Expenses Ratio (PIE Ratio)
• Current Ratio 
• Debt-Service Ratio (DSR)
• Insurance Sufficiency Ratio (ISR)

Let’s use Aaron, a self-employed web developer as an example to illustrate how we could assess our own financial health. To start off, here’s a simplified version of his financial statement: 

1. Income Growth:

Let’s assume that Aaron made RM 65k in active income in 2022. Hence, Aaron’s income growth is 7.7% in 2023 as compared to 2022. 

Income Growth 

= ((Income 2023 - Income 2022) / Income 2022) x 100%

= ((RM 70,000 - RM 65,000) / RM 65,000 x 100% 

= 7.7%

If Aaron aims to grow his income by 10%-20%, then, 7.7% income growth won’t be considered a success in this aspect. Of course, if Aaron wishes to maintain his income at RM 65k but earns RM 70k in 2023 instead, I’m positive that Aaron would be happy to have earned his extra RM 5k. 

So, the 7.7% income growth can be either positive or negative depending on its context given. 

2. Savings Ratio

Aaron’s savings ratio is 14.3% as he saved 14.3% of his annual income in 2023. 

Savings Ratio

= Savings / Annual Income x 100% 

= RM 10,000 / RM 70,000 x 100% 

= 14.3%

This is to be compared to his savings ratio in 2022. If Aaron had raised this ratio, up from 10% to 14.3%, he deserves a pat on the back. However, if this ratio had fallen sharply from 20%-30% down to 14.3%, Aaron needs to sit down and have an assessment as to why there is such a fall in his savings ratio. 

3. Passive Income / Total Expenses Ratio (PIE Ratio)

As Aaron has zero passive income, his PIE Ratio would be 0%. This means Aaron would need to continue working to support himself. 

PIE Ratio

= Passive Income / Total Expenses x 100% 

= RM 0 / RM 60,000 x 100% 

= 0%

4. Current Ratio

This measures how long Aaron can last if he stops working. From above, we can see that Aaron has RM 20k in his bank accounts. Such can last him for 4 months in the event if Aaron fails to bring in any active income today. 

Current Ratio

= Liquid Assets / Total Expenses x 12 months

= RM 20,000 / RM 60,000 x 12 months

= 4 months

5. Debt-Service Ratio (DSR)

This measures the proportion of his income used to pay his debt installments. It is better, in Aaron’s case, to have a lower DSR as the lower his DSR, the steadier, stabler and healthier his finances. 

DSR

= Total Loan Installments / Total Income x 100%

= RM 12,000 / RM 70,000 x 100%

= 17.1%

6. Insurance Sufficiency Ratio (ISR)

Let’s say Aaron has 1 insurance policy that covers RM 60k in sum assured. Thus, his sum assured is sufficient to last him over 1 year’s worth of total expenses. In his case, the question is: “Would that be sufficient?”.

ISR

= Sum Assured / Total Expenses per annum

= RM 60,000 / RM 60,000 

= 1 Year

Thus, Aaron’s financial scorecard (position) would be as follows: 

Of which, Aaron can assess what he did well or not so well in his finances.

Step 2: Where We Want to Be Financially?

Once we know our financial position, Step 2 is to know our financial destination (where we want to be). If I’m in Aaron’s position, I can start by choosing 2-3 key metrics to work on to improve my finances. For instance, among them, I choose to work on: 

• Income Growth 
• Savings Ratio 
• Current Ratio 

I can place targeted ratios that are realistic as follows: 

For instance, I aim to have 20% in income growth for 2024. This would bring my active income from RM 70k to RM 84k. In this period, I aim to keep my expenses at RM 60k. Thus, I would save RM 24k in 2024. This shall boost my savings ratio from 14.3% to 28.6%. With them, I’ll increase my liquid assets from RM 20k to a total of RM 44k. This could boost my current ratio from 4 months to 8.8 months. 

As I do this, my DSR would be reduced from 17.1% to 14.3%.

By working on just 2-3 metrics, Aaron’s financial health could be greatly improved. It is then possible for him to work on the remaining financial metrics as follows: 

Let’s say he aims to have a 6-month emergency fund worth RM 30k. This means that Aaron’s liquid asset of RM 44k can be allocated in the following manner: 

• RM 30k in cash (emergency fund)
• RM 14k in liquid investments (example: stocks, unit trusts and ASB). 

Here, if Aaron invests RM 14k in ASB and expects 5% yield per annum from it, in his case, he would expect RM 700 a year in ASB dividends. This shall be 1.12% in PIE Ratio (RM 700/RM 60k x 100%). Of course, he can use such dividends to buy or add more life insurance coverage and thus, contributing to his ISR. 

So, we can see that Aaron can improve on his finances by setting goals such as:

• Income Growth = 20% 

• Savings Ratio = 28.6%

• PIE Ratio = 1.12%

• Current Ratio = 8.8 months

• DSR = 14.3%

• ISR = 1+ years

Step 3: Financial Vehicles: How Do We Get There?

At this stage, we know 2 things: 

• Where are we financially today in 2023?
• Where are we going to be financially in 2024?

The bridge between the two is the choices of financial vehicles to get there. For a start, in Aaron’s case, the question is: “How can he grow his income by 20%?”. Is it to upskill, convert better, engage in higher value projects or ... etc? The way to increase one’s income differs based on one’s choice of vocation. 

The same goes with the choices of investments and financial protection tools to be used to strengthen our finances. 

Conclusion:

When it comes to planning our finances, keep it simple and just start. 

You can use the 6 metrics above as a guide. Personally, I use them on a regular basis to track my finances. Here, the trick is to make it fun. For instance, instead of waiting for 1 year (the end of 2024) to reassess your finances, you can do the assessment on a monthly basis. Such is more practical and if you do so, you can get the hang of it by the third or fourth month. 

Remember: Setting goals doesn’t get you to your financial destination. Rather it is about execution of your plan that would get you there. 

With that, I would like to wish you a prosperous new year 2024.