This week I caught up with Zoe Lamont, one of the brains and inspiring energy forces behind the 10thousandgirl campaign. We were having a coffee and chatting, among other things, about goal setting and the complexity and challenge that can occur with putting a dollar amount around your goals.
We both agreed that going through this process can either be a supporting influence or could cause you to realise that your goals may not be as realistic as you first thought! For example, saving $100,000 for a house deposit might be a little unrealistic in a two-year timeframe, depending on your income level, however extending this out to five years might be more achievable.
Once you have set your SMART goals (the ones that are Specific, Measurable, Actionable, Realistic, with Timeframes) the next phase is doing some financial planning to work out how to achieve your goals and if your goals and determine if those timeframes are realistic.
Shorter-term calculations can be pretty easy. For example if you wanted to save $5,000 in 12 months time, you can divide the $5,000 by 12 to work out what you need to set aside each month to achieve your goal.
Medium and longer terms goals might be a little harder as rates or return and other elements come into play.
I have put together a couple of calculations you can use as tools to see how much you need to set aside and what the effect of different rates of return can have on the outcomes.
Some points to note are that this is not an exact science. It can be a helpful way to cross check that your goals are on track and achievable and also a great negotiation tool if you need to review the timeframes on your goals.
If your goal isn’t achievable in your initial timeframe, don’t loose hope. Instead be inspired that you now have a more realistic timeframe on your goals and more clarity on what is required to achieve your outcome.
Tool 1: The Rule of 72
This is a financial rule of thumb that is used to estimate the number of years an amount will take to double assuming a specific rate of return. This formula dates back to an early Mathematician Luca Pacioli (1445–1514). Roughly translated from Wikipedia: “In wanting to know for any percentage, in how many years the capital will be doubled, you bring to mind the rule of 72, which you always divide by the interest, and the result is in how many years it will be doubled.”
For Example: When the interest is 6% per year, dividing 72 by 6 gives you 12. This means at a 6% rate of return, the capital will double every 12 years. So if you had $1,000 in a cash account earning 6%, without adding any further capital it would take 12 years for this to become $2,000.
Check out the full list of returns here.
Here is an exercise for you to work with some of your own goals or plans for life.
Determine your goal and when you want it _____ number of years. = $______________ lump sum required.
What rate of return do you need to achieve your goals? Is it realistic?
Your Starting Lump Sum $___________
Your Goal Lump Sum $__________
When do you want it? ____________ (A) # of years.
Number of times your money has to double? ___________ (B)
Number of years to double? ________ (C) = (A/B)
Expected Rate of Return ______________% (72/C )
When you look at the rate of return you need on your capital does it feel realistic? Does it seem too risky? Do you feel comfortable with that rate of return?
The Rule of 72 is all about having a lump sum but what if you have a regular savings plan for each payday or each year?
Tool 2: Regular savings calculator
ASIC’s www.fido.gov.au has some great online savings calculators but if you wanted to play around with the figures yourself, the table below makes the calculation a little easier. It assumes some different rates of return, time frames and takes into account inflation (or the annual increase in the cost of living):
| Years to Goal | Assumed Rate of Return (after inflation) | ||||||
| 2% | 4% | 6% | 8% | 10% | 12% | 14% | |
| 5 | 5.31 | 5.63 | 5.98 | 6.30 | 6.72 | 7.12 | 7.54 |
| 10 | 11.17 | 12.49 | 13.97 | 15.65 | 17.53 | 19.65 | 22.04 |
| 15 | 17.64 | 20.82 | 24.67 | 29.32 | 34.95 | 41.75 | 49.98 |
| 20 | 24.78 | 30.97 | 38.99 | 49.42 | 63.00 | 80.70 | 103.77 |
| 25 | 32.67 | 43.31 | 58.16 | 78.95 | 108.18 | 149.33 | 207.33 |
| 30 | 41.38 | 58.33 | 83.80 | 122.35 | 180.94 | 270.29 | 406.74 |
| 35 | 50.99 | 76.60 | 118.12 | 186.10 | 298.13 | 483.46 | 790.67 |
| 40 | 61.61 | 98.83 | 164.05 | 279.78 | 486.85 | 859.14 | 1529.91 |
This table was adapted from Barbara Smith & Dr Ed Koken’s “Superannuation in a nutshell”.
Look at the first column to determine the number of years to your goal. Example: achieve financial freedom in 20 years.
Now look along that column to determine your expected rate of return, for 8% per annum the figure is 49.42.
Take your required capital amount and divide it by this number. $1,000,000 / 49.42 = $23,573.79 per annum. This is the annual investment amount you need to put aside to achieve the outcome at an 8% return. You can then turn it into a weekly, fortnightly or monthly amount as needed.
Try this for yourself with one of your goals; it could be buying a house in 5 years and needing a certain deposit, or saving enough money to set up your own business, or even the goal of financial freedom depending on your needs.
Your capital requirement = $_______________________ (A)
Estimate of years to reach your goal = ___________________ (B)
Estimated rate of return from your fund = ____________ (C)
Factor from table above = _________________________ (D)
Required amount to save each year = (A) / (D)= ________________
If you need assistance in exploring these further talk to a professional but most importantly, start your journey to creating wealth with understanding.
The information provided on this article is of a general nature only. It has been prepared without taking into account your objectives, financial situation or needs. Before acting on this information you should consider its appropriateness having regard to your own objectives, financial situation and needs.