“Life is the sum of all your choices.” – Albert Camus, philosopher, author, and journalist.
This is the third of a four-part series on Financial Success Through Policy Based Decision Making. The first two parts answered “WHAT is policy-based decision making?” and “WHY use policy-based decision making?” This article will dive into the details of HOW to draft policies, and an upcoming article will talk about WHEN & WHERE policies are best used for financial success.
A decision implies the end of deliberation and the beginning of action. The history of decision making is not a continuous path toward perfect rational choices. We as humans have limitations that reduce our ability to make optimal choices. Complex circumstances, limited time, and inadequate data impact our decision-making process. Policy-based decision making will dramatically improve the control you have over your own personal financial success.
For a policy to be effective it must meet two somewhat divergent criteria. First, the policy must be specific enough that the correct course of action is always clear. At the same time the policy must be flexible enough to apply even when unexpected circumstances arise. A well-designed policy will have clear, specific actions that move toward one’s goals. The specific actions may depend on the circumstances, while the policy itself remains in place as long as the goals remain.
The first order of business is to determine your values. Values will not change. A great way to determine your values is by creating a list of every value that describes your feelings or behaviors. Then refine your list while considering people you admire and experiences you have had. Think about times when you were happy, proud, or felt fulfilled. Next group or categorize your values and identify themes. Then you can identify the values that are most important to you.
Next, based on your values establish your goals. Goals may change as life unfolds. Thinking about your most important values, ask yourself what you want to achieve in a year, in 5 years, in 10 years, in your lifetime. Then be specific with what needs to happen financially to achieve those goals.
The third step is to prioritize your goals. Start with your list and rank each goal, weighing the opportunity cost of choosing one over another. Some goals can be achieved in the future, while any delay may negatively impact others. One other consideration is the tax impact of each goal. Increasing 401k contributions can decrease your current tax liability. One way to assist in prioritizing is using Eisenhower’s Box. Eisenhower’s Box has 4 quadrants. The upper two are items that have significant importance, while the bottom two are more of a want than a need. The left-hand quadrants (both upper and lower) have a time constraint while the right-hand quadrants are not as time sensitive.
Here is an example of the above steps. You determine that one of your values is your children having the opportunity to pursue higher education. You then determine that you have a goal of supporting your children in pursuit of higher education by funding 50% of their college expenses. In prioritizing your goals, you determine that funding 50% of your child’s college expenses is secondary to securing your retirement but of higher priority than buying a boat. Therefore, your policy might be that after maximizing your employer retirement plan contributions, at least 50% of all future raises will be contributed to a 529 College Savings Plan.
As revealed in the example above, a well-crafted policy can help with prioritizing goals and take the temptation and guess work out of what to do when new money shows up. It’s a great way to turbo charge your financial plan while aligning your financial resources with your values and goals.
