The preparation of certain personal financial statements will clarify the current status of your financial situation and provide the"starting point" for any future action. These statements are very helpful in assisting you in evaluating your own situation or in gathering the information needed to work with a financial planner.

The two forms we will be working with are the Personal Financial Statement; the Personal Budget.

THE PERSONAL BUDGET

Why Prepare a Personal Budget?

A Budget can be used as a tool in identifying how and when money is being spent. It can help to identify cash flow problems and can also identify dollars which may be redirected toward achieving financial goals.

Steps in Budgeting

1. The first step is to record historical information as to income. This information will come from pay stubs or statements or tax returns.
2. The next step is to record historical information concerning your personal expenses. This information will be found in your cancelled checks; checkbook registers; paid receipts (cash); credit card statements and/or tax returns.
3. You may wish to segregate your expenses by type. ("Fixed" expenses refer to payments which are equal and non-varying each payment period and "variable" expenses involve payments that vary in amount from one time period to the next.)
4. Once existing patterns are identified, you can identify those areas which you may wish to target for change.
5. The next step in the budgeting process involves preparing projected income and expenses for the next budgeting period (usually one year). You should include any targeted changes you have identified in Step 3.
6. Next, you will maintain Records of income and expenses as they occur.
7. Periodically compare actual results to desired target. Make changes as needed.
8. A budget will only help you achieve your goals if is honest; if it is used; and if adjustments are made, as needed. It also makes sense to get into the habit of "paying yourself first" by making the first check you write once you get paid to yourself to be deposited to you savings and investment program. If you wait to see what is left over, it is usually nothing!

THE PERSONAL FINANCIAL STATEMENT

Why Prepare a Personal Financial Statement?

The Financial Statement is like a snapshot of your financial condition as of a certain date. The categories on a balance are assets, liabilities, and net worth. Financial statements should be prepared at least once per year. The Personal Financial Statement will include the following information:

Assets

Assets are the things that you own. They are often grouped into broad categories:

• Liquid Assets - Cash or other financial assets, which can be easily and quickly converted into cash with little or no loss in value. (Checking Accounts, Money Market Accounts, Savings Accounts)
• Investment Assets – Assets which are held for their financial return, rather than for personal use. Stocks, Bonds, Mutual Funds, etc.) These assets generally appreciate (increase) in value.
• Real Property – Land and things attached to it (house, garage, etc.)
• Personal Property – Movable property usually held for personal use (automobile, furniture, clothing, etc. These assets generally depreciate (decrease) in value.

Within these broad categories, assets may be further classified:

• Collectibles – Assets, which may be held for both personal use/enjoyment and financial, return. (Art, antiques, etc.)
• Fixed Income Assets – Investments paying a fixed (usually guaranteed) return (Certificates of Deposit, Notes Receivable, etc.)
• Business Interests – This classification relates to the equity owned in any business you participate in
• Commodities/Tangibles – This classification contains gold, silver, gems, etc.

Liabilities

Liabilities are the things that you owe. They are also grouped into broad categories:

• Current Liabilities – Bills that are currently due and will be paid off within one year (Rent, Current Month’s unpaid utility bills; medical bills; credit card balances, etc.)
• Long Term Liabilities – Liabilities on which the payment stream will continue for more than one year (long term loans for auto, home, education etc.)

Within these broad categories liabilities may be further classified:

• Credit Card Bills – The total balance should be used; regardless of the amount of payment being made
• Taxes – Income and property taxes currently due; real estate taxes should only be listed here if not included in house payment listed in Monthly Housing Expense.
• Current Portion of Long Term Liabilities:- The portion of Long Term Liabilities due within the next 30 days.

Net Worth

Net Worth is the net amount of wealth or equity you own, based on your assets and liabilities. It is calculated by subtracting liabilities from assets. Net worth is increased when assets are added or debts are reduced or eliminated.

Utilizing and Analyzing the Information on your Personal Financial Statement

Important areas to examine are:

• Net Worth – If your family’s net worth is less than zero, than you are insolvent. A family’s net worth should increase over time.
• Solvency Ratio – This calculation shows how much of a financial cushion you have in relation to your financial obligations.
• Liquidity Ratio – This calculation shows how long you could pay your current bills from your assets.

Appropriate Use of Credit

The use of credit (posting payments until a future time) can be a useful tool for individuals, businesses and governments. There are numerous valid reasons for the use of credit, such as

• Safety/Convenience – Consumer does not need to carry large amounts of cash, which could be lost or stolen . Also, recourse is provided for unsatisfactory purchases and returns can be re-credited to the account.
• Emergencies – Consumer can deal with short term unexpected situations (auto repairs, medical expenses, etc.) when cash is not available.
• Record-Keeping – Credit borrowing provides an itemized record of all transactions.
• Opportunity – Consumer can make unanticipated purchases when cash resources are not available
• Facilitation of Transaction – Consumer can make certain purchases indirectly by telephone or Internet or directly such as automobile rental; airplane tickets, etc. when other payment forms are not practical.
• Identification – Credit cards are often used as a form of identification for other transactions such as cashing a check; applying for credit, etc.

Inappropriate Use of Credit

There exists, however, the potential for abuse of credit which leads to over-indebtedness and financial problems and may ultimately impede or prevent the achievement of financial goals..

• The biggest problem with credit is the tendency to overspend.
• Credit should not be used for routine basic living expenses or impulse purchases
• Credit should also not be used for the purchase of short-lived goods and services. (Rule of thumb: an item purchased by credit should not be used up sooner than the bill is paid off!)
• Monthly debt repayment should not exceed 20% of monthly take-home pay.
• High interest costs on unpaid balances can accumulate rapidly.

Borrowing on Open Account

Credit is extended in a number of different ways. There may be significant differences in methods of calculation of interest, ancillary charges, limitations etc.

• Bank Cards – These are issued by banks and other financial institutions. The most common of these cards are Visa and MasterCard. These cards can generally be used at a wide range of facilities to purchase a wide variety of goods and services. Credit is usually on a revolving basis with a minimum payment due monthly. Credit limits and terms vary.
• Travel and Entertainment Cards – These are cards such as American Express or Diners Club, which must usually be paid in full each month.
• Retail Credit Cards – These cards are issued by retail merchants for exclusive use in purchasing their goods or services. These accounts are subject to a credit limit and periodic payments. Some issuers of this type credit are major department stores, gas companies, etc.
• Secured Credit Cards – These cards are issued to consumers who have credit problems or who do not have a credit history. A deposit is required to "secure:" any charges made on these cards. Limits are usually lower than regular bankcards (not to exceed amount on "deposit").
• Affinity Cards – These cards are issued jointly by a lending institution and some organization (charitable, professional, educational) and purchases made on these cards will benefit the named institution. These cards may also enable the user to acquire promotional rewards such as "frequent flyer" miles, purchase credits or rebates, etc.).
• Prestige Cards – These cards offer higher limits; more services and features than other credit cards. There are often higher fees associated with these cards ("Platinum" or "Gold" cards).
• Revolving Line of Credit – This type credit does not utilize credit cards. Consumers may charge or write checks against a pre-determined credit limit. Some typical uses of this type account are unsecured personal lines of credit; home equity lines, etc.

Computation of Finance Charges on Credit Accounts

Various charges, fees and interest computations may all affect the cost of credit when using a credit card. Be sure to compare!

• Calculation of Interest rate on Unpaid Balances – May be fixed or variable. Issuers must disclose the "APR" (Annual Percentage Rate) and the "PIR" (Periodic Interest Rate) for each billing cycle.
• Computation of Unpaid Balance – The method by which a card issuer calculates the unpaid balance on an account. This balance multiplied by the periodic interest rate determines the finance charge, so it is very important!

Consumer Credit Legislation

• The Equal Credit Opportunity Act makes it illegal for creditors to discriminate on the basis of sex, race, age, marital status, religion, national origin, or the receipt of public assistance when considering a credit application.
• The Fair Credit Reporting Act protects your rights in the collecting and disclosure of credit information.
• The Fair Credit Billing Act addresses issues in mailing bills, errors and complaints and discounts for cash purchases; and allows the cardholding recourse on unsatisfactory purchases..
• The Truth in Lending Act requires lenders to make full disclosure of finance charges and annual percentages rates ("APR")
• The Consumer Protection Act limits the liability of the cardholder if a credit card is lost of stolen.
• The Fair Credit Debt Collection Practices Act extended protection against unreasonable collection practices.

Credit Card Utilization Tips

• Maintain a minimum number of credit cards.
• Understand the terms and conditions under which a card is used.
• Sign all cards as soon as they are received.
• Pay credit card bills promptly, to keep charges as low as possible and to maintain good credit rating.
• Keep records of credit card numbers, expiration dates and contact numbers for card issuers, in the event a card is lost or stolen.
• Safeguard your credit card information to prevent unauthorized use.
• Carefully review credit card statements each month, verifying charges against original charge tickets.
• Notify issuer immediately if card is lost or stolen. (Cardholder can be held liable for unauthorized charges of up to $50 per card). Most issuers provide a 24-hour toll free number for this purpose. A written notification should also be sent.

Credit Reporting Agencies.

Your financial history is maintained on record by credit reporting agencies (credit bureaus). They collect information from your creditors, the public records, and other sources. Lenders will use this information in determining whether or not and on what terms to extend credit to you. A typical report would include the following:

1. Personal Data (social security number, birth date, address and marital status)
2. Employment Data (place of employment, previous employment history, etc.)
3. Credit History (current obligations and payment status; previous obligations and payment history; etc.)
4. Inquiries (a listing of those who have requested credit information on the individual concerned)
5. Public Records (information concerning current and previous bankruptcies, judgements, lawsuits, etc.)
6. Personal Statement (if requested by the individual concerned in which a brief explanation can be given of disputes or circumstances surrounding detrimental information)

Major Credit Reporting Agencies are as follows:

A consumer may obtain a written copy of his/her credit report by simply requesting it and paying a small fee. Under the provisions of the Fair Credit Reporting Act, if credit has been denied, based on the information contained in a credit report, the consumer has a right to a copy of that report (at no charge). If errors or incomplete information is found, the credit bureau must investigate the items in question and provide a written report of the outcome to the consumer. If the information is erroneous, it must be corrected, and a free corrected credit report furnished to the consumer. If the information does not result in a change to the report the consumer has the right to file a statement concerning the disputed information which must be furnished along with the credit report to any future inquiry.

Borrowing Through Consumer Loans

Consumer Loans (long term liabilities) are commonly used to finance purchases of goods and services which are too expensive to be purchased with available cash flow or open credit (such as autos, appliances, education, etc.). These loans differ somewhat from open credit borrowing. They may be structured as a single payment loan or an installment loan. These loans may be secured or unsecured.

• Single payment loans are made for a specific period of time, at the end of which, the entire principal and all accrued interest is due. These loans are usually secured and carry a loan term of one year or less.
• Installment loans are repaid in a series of payments (usually monthly) over time and are much more common than single-payment loans. They may be secured or unsecured and usually have loan terms of 6 months to 10 years.

Consumer loans may have fixed rates or variable rates, and can be obtained from a number of different sources to include commercial banks, finance companies, credit unions, or even individuals. Financing methods differ.

• On single payment loans, interest calculations may be made using simple interest or the discount method. The discount method will result in a higher APR, and is thus, less favorable for the Consumer.
• On installment loans, the simple interest method or the "add-on" method may be used. The "add-on" method is much more costly.
  

Home Ownership is part of the "American Dream". According to the US Department of Commerce, 65.9% of all households in the United States live in owner-occupied housing. The "average" American home in 1998 was cost $127,400, and had three bedrooms and two bathrooms.

Advantages of Home Ownership

• Payments generally remain level (if fixed rate mortgage); and therefore this expense can be anticipated and budgeted and will not increase over time.
• Home Ownership builds "equity" over time.
• Real Estate appreciation has historically kept pace with inflation; thereby creating an inflation "hedge" for the Homeowner.
• Home Ownership allows the consumer to design or change space and amenities to more closely meet the needs and tastes of his/her particular family situation.
• Interest payments and taxes on a primary residence are generally deductible for federal income tax purposes. This can reduce the "after-tax" cost of Home Ownership.
• Home Ownership provides a psychological incentive to maintain and enhance the asset.

Disadvantages of Home Ownership

• Initial (down payment and closing costs) and ongoing (principal and interest, taxes and insurance) costs may be greater than renting.
• Homeownership requires responsibility for ongoing maintenance and repairs to the home.
• Homeownership limits the ability to move on short notice. The home must be sold.
• Market Value of home can decline if neighborhood values decline over time.

The Process of Purchasing a Home

If the decision is made to purchase a home, there are many financial factors to the considered.

• What price range is affordable? In determining how much house you can afford, there are several things to consider including the down payment, closing costs, the monthly mortgage payment, homeowners’ insurance, mortgage insurance (if required), property taxes, homeowners’ fees (if applicable) and maintenance.

1. Monthly house payment including "PITI" (principal, interest, taxes and insurance) should not exceed 25% to 28% of purchasers’ gross monthly income.
2. Monthly house payment (PITI) plus monthly payments for all other debts should not exceed 33% to 38% of purchasers’ gross income.

Of course, the calculation of the mortgage payment will be based on the amount borrowed, the rate of interest being charged and the term (length) of the loan. See Mortgage Payment Tables

What kind of mortgage should be considered?

Some of the more common types of loans available for owner-occupied residences are as follows:

Fixed Rate Mortgage (FRM) – Interest rate and therefore principal and interest payment are fixed for life of loan. This offers stability of payment. These rates may be higher than variable rate loans, and are rarely assumable. Most common loan terms are 15 and 30 years. Payments are higher on 15-year loans, but interest rates are generally lower, and they result in a significant reduction of finance charge during life of loan. This type of loan is best for those who plan to remain in this residence on a long-term basis and for those Borrowers on a fixed income.

Adjustable Rate Mortgage (ARM) – Interest rate changes during life of loan, which results in payment changes. Rate changes are usually tied to a specific index (such as 6-month Treasury) plus a margin, as specified by the lender. Beginning interest rates are lower for these loans, but due to potential increases over the life of the loan, total payments may be considerably higher than with fixed rate loans. Most plans have annual or lifetime caps over which the payment cannot increase. This type loan is most advantageous for short anticipated periods of ownership (1 or 2 years).

Balloon Mortgage – A balloon mortgage involves a single very large principal payment due at some future date (i.e. five years). Interest is usually payable during the term on a monthly basis. There is frequently no equity built up (other than increase in value) until loan is completely paid off. These loans can be risky, due to the necessity to pay in full or refinance at the end of the term (at which time affordable financing may not be available)

Renegotiable Rate Mortgage (RRM) – Interest rate and monthly payments remain level for a period of time (usually several years) and then change, based on then-current interest rate environment. These offer more stability than the ARM, but not as much as the Fixed Rate Mortgage.

Growing Equity Mortgage (GEM) – Interest rate is fixed, but monthly payments change according to agreed-upon schedule. For example, they may be lower in early years, and then increase, under the assumption that the Buyer’s income will also be increasing over that period of time. As with the other types of changeable payment loans, this type mortgage provides less stability than a fixed rate loan.

Wraparound Mortgage – Seller assists with financing by maintaining initial low-rate loan. Buyer makes payments to Seller who pays existing lender. These payments include the original loan payment, plus an equity- portion, which is kept by the Seller. Although this type financing can result in lower financing costs for the Purchaser, many lenders prohibit this type of transaction.

Rent with Option to Buy – Renter pays option fee for right to purchase property at some future time for some specified price. Rent may or may not apply to sales price. The advantages for the Buyer are the ability to lock in the purchase price and "buy" time to accumulate down payment. The advantage to the Seller is that there is rental income during the option period, and if the Buyer fails to complete the transaction, the option fee will be forfeited.

Reverse Mortgage – Borrower owns residence free and clear, but needs to create an income stream. Lender funds lump sum or monthly payments to Borrower, using the property as collateral. Generally, no loan payments are due until the death of the Borrower. These are most frequently used as a source of income during retirement, as an alternative to having to sell the residence to generate needed income.

Identifying Financing Costs / Down Payment and Loan Closing Costs

Lenders generally require that the Homebuyer pay for a percentage of the purchase with his/her own assets. This is the down payment. It can range from 5% of the purchase price to 25%, depending on the lender; the type loan applied for; and the characteristics of the property and buyer. The amount the lender will finance is the"loan to value ratio". Generally if there is a loan to value ratio in excess of 80%, the lender will require "mortgage insurance" which protects the lender against default. This may cost the Borrower from one half a percent to one percent (of the purchase price) at closing, with an additional one-quarter percent included with monthly payments.

The Purchase will also have to pay certain "closing costs" or fees in order to obtain his/her loan. Typical fees can run from 3% to 6% of the purchase price. These fees include such items as the credit report, appraisal on subject property, recording fees, intangible tax (in some states), abstract/title fees, attorney fees, loan processing fees, survey, termite inspection, tax service, etc.

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When to Refinance Your Existing Mortgage

In some instances of declining interest rates, it can be of advantage to the homeowner to refinance the existing mortgage. A general rule of thumb is that it may be worth consideration if there is a difference of at least 2 percentage points between the old rate and the new rate. There are, of course, several considerations:

• Closing Costs – The new loan may trigger significant new closing costs (3% to 6% of amount refinanced); or the existing loan may contain a pre-payment penalty in the event of early pay-off.
• Anticipated Length of Ownership – The effect of closing costs can be spread across the anticipated period of future ownership. For example, if the Homeowner only anticipates remaining in the home for one more year, it would not make sense to incur closing costs of 3% or more in order to save 2% for just one year. However, if the 3% closing costs were spread over an anticipated 10-year stay, the resulting savings of 2% per year would be worth it.
• Tax Impact of New Loan Terms – Lower interest payments would impact a high tax-bracket Borrower more than a Low-Tax-Bracket Borrower. The net after-tax cost must be considered.

$ ____________ Minus $ ____________ = $ ______________

Old Payment New Payment Monthly Savings

$ _____________ Divided By $ ______________ = $ ____________

Closing Costs Monthly Savings Number of Months

Determining how to finance an auto involves various factors. Terms of financing for loans and for leases vary greatly among. lenders and leasing companies, and should be carefully compared.

Purchase Considerations

• A purchase requires the use of cash or the use of a loan.
• If loan is used, monthly payments are made
• Down payment or trade-in is usually required.
• Purchaser owns auto with lien held by lender until loan is repaid.
• Owner is free to sell vehicle at any time subject to repayment of loan.

Lease Considerations

• Consumer pays for right to use vehicle during period of lease.
• Down payment or trade-in is usually required.
• Payments are based on estimated depreciation of auto during lease term. (These are generally less than loan payments on comparable vehicle.)
• Leasing company retains ownership, although consumer may have right to purchase vehicle at end of lease.
• Mileage during lease is usually limited (10,000 to 15,000 miles per year.) Additional charges are assessed at the end of the lease if this mileage limit is exceeded.
• Additional charges may also apply for excess wear and tear on vehicle at end of lease.
• With a "closed-end" lease the consumer has no risk of resale value of vehicle at end of lease; with an "open-end" lease, the consumer may be held responsible if resale value is less than anticipated.
• Additional fees may apply for early lease termination.

Personal Financial Statement (Balance Sheet)

The importance of understanding your financial situation both for the short term and the long term cannot be overstated. Knowing "where you stand" is essential for investing, insuring, and preparing for the future in terms of retirement planning and planning for your heirs. The following table is not all inclusive and mixes current assets and liabilities with future assets and liabilities. Nonetheless, it does provide some structure for your financial planning and your should make an effort to fill it out. Revise the form as required to meet your special needs.