Principles of Financial Literacy - Assignment Example

AFAS200 Principles of Financial Literacy By Students Name Course Instrucors Date Table of Contents 1.The need for budgeting and financial planning to help meet the goals and objectives 3 i.Income 3 ii.Cash flow 4 iii.Capital 5 iv.Family Security 5 v.Assets   6 2.Discussion of the different investment strategies 7 i.Investment via Mutual trust/Managed funds 7 ii.Investment in Government and Corporate bonds 8 iii.Use of gearing borrowing to invest 8 iv.Investment in Gold Bullion 9 3.The concept of risk management 10 i.Couples 1 11 ii.Couples 2 11 iii.Couples 3 12 4.Importance of superannuation 12 i. Couples 1 13 ii. Couples 2 13 iii. Couples 3 13 5.Importance of a valid will and proper estate planning 14 Advantages of a will 15 Disadvantages of a Will 15 1. The need for budgeting and financial planning to help meet the goals and objectives Budgeting and financial planning are very crucial since they help individuals in the determination of short-term and long-term financial objectives and goals as well as creating balanced plans with regards to the satisfaction of these financial obligations (Ryan, & Ryan, 2002). The following are the ways through proper budgeting and financial planning shall help the three categories of couples meet their core financial obligations and goals. In fact, the three types of couples need financial advisors to help them respond to their present and future financial plans. i. Income Indeed, it is very easy for couple 1 to manage their income more effectively since they are still young economically. The management can only be done through proper financial planning and managing of income (Ryan & Ryan, 2002). It is possible through a proper understanding of how much money they need to cater their monthly and annual liabilities which comprise of paying debts, saving with the aim of depositing an amount of money to buy a house and going for a holiday tour to Japan later this year. Moreover, they also need to plan for other expenditures for the month like tax payments, water bills, rent, electricity and transfer payments. A proper management of income shall help both couples 1 and 2 to divide their expenses into overhead and liability costs (Ryan & Ryan, 2002). The overhead costs, including paying debts, saving with the aim of depositing an amount of money to buy a house and going for a holiday tour to Japan later this year by the couples 1, and paying off a home loan, savings, paying for private school fees and saving for retirement by the couples 2. However, there is a greater risk of not meeting these financial obligations in case of failure to budget and plan according to these two categories of couples (Kotlikoff, 2016). Improper budgeting and financial management would result in overspending by the couples 3 category since they are retired and have sufficient time to spend. This is precarious because they would soon be rendered bankruptcy. In case the couples set their financial obligations right, they are more likely to properly project on their expenditures thus become responsible in their spending. This proper budgeting and financial planning shall help couples to drop lavish spending and focus on long-term saving. ii. Cash flow Couples 3 are supposed to monitor their increment in cash flows through a careful spending pattern (Kotlikoff, 2016). Also, they are supposed to spend prudently through a proper budgeting and financial plans which shall keep more of their hard-earned cash, which earned when they were still working. However, there is a great risk in case they fail to properly budget and make a comprehensive financial plan. The risk would be being in a position to pay the bills due to ending up with little cash because of over-spending (Ryan & Ryan, 2002). Failure to properly budget and do financial planning would make the couples to think that they still have a lot of money to spend than they actually have. For example, the couples 3 category is likely to record a false spending due to their old age, thus leading to a false sense of their financial capability when it comes to payments of their bills (Ryan & Ryan, 2002). Moreover, if they go on a holiday to Africa in the next 18 months and spend carelessly, they are likely to create a false sense of their cash needs which would lead to insufficiency at some point of time. iii. Capital Proper budgeting and financial planning would ensure increased cash flows for both couples 1 and 2. They shall, in turn, lead to an increase in capital for the two categories of couples which would enable them to pay for their liabilities like paying off a home loan, debts, and saving. They would also afford to pay for private school fees, saving a deposit to buy a house and going on tour holiday to Japan (Kotlikoff, 2016). Moreover, it is good for both the couples 1 and 2 to consider an option of investment since this shall enable them to enhance their overall financial welfare. However, failure to have a proper budgeting and financial planning for these couples shall result into financial incapability in future. iv. Family Security The family security assurance is part of this proper budgeting and financial planning, and it forms part of the financial process. Having proper long-term saving plans can help to provide couples 1 with a peace of mind as well as their future family members. For example, in the case of couples 1 and 2 buy the house properties they are saving for, they need to record such payments in their budgets as an expense (Kotlikoff, 2016). However, they are very careful not to forget including such expenditure on their monthly and annual spending since it is likely to roll on their balances. The house property is an investment, and proper planning would help in considering their personal circumstances, financial objectives and risk tolerance (Ryan, & Ryan, 2002). This would provide an appropriate guide in assisting the couples in choosing good investment plans which are likely to suit their future financial needs. Also, proper budgeting and financial planning would help couples 3 in creating a decent saving which can help in dragging them out of problems in the future during the times of economic hardship. This economic assurance can be undertaken through an adequate insurance cover to replace any financial loss that they are likely to incur in the future. Proper budgeting and financial planning would also help couples 3 in having a better financial understanding of the economy, thus helping them to start a sinking fund for their grandchildren in good time (Ryan & Ryan, 2002). This would, in turn, give them the whole approach of their budget thus enhancing their control over their financial lifestyle (Kotlikoff, 2016). Nonetheless, failure to undertake the proper measures would result in reckless spending which might not be suitable for these couples in the future. Besides, poor budgeting and financial planning would result in misplaced expenditure where the couples spend their savings on unnecessary items. v. Assets   The most sustainable form of economic development is the acquisition of assets even though it sometimes comes with liabilities attached to it. Therefore, it is imperative to determine the real value of the property to help the couples avoid unnecessary spending. However, the knowledge of settling the liabilities like of the one of couples 1 is good since it helps in building strategies of relieving economic burdens in the future (Kotlikoff, 2016). To develop a proper budgeting and financial planning means creating a master budget report that would help the couples in analyzing every aspect of their expenditure. It is good to begin the whole process by first projecting the overall yearly incomes as well as the expected expenses. Also, this is very important in regulating expenditure and income. Couples 1 needs to create a cash flow statement which shows the time they are likely to expect cash in and out of their savings. Another important factor to consider is creating overhead budgets since this shall help the couples in digging into their financial plans deeper. Savings is also a very crucial aspect of proper budgeting and financial planning because they help in future in case of any emergency that requires financial attention. However, failure to undertake proper investment evaluation and asset acquisition would put couples 1 in a great economic jeopardy in future. 2. Discussion of the different investment strategies i. Investment via Mutual trust/Managed funds Couples 1 and 2 needs to consider investing in a mutual fund since this can enable them to get exposed to several foreign long-term investment plans and other niche economic sectors. These niche and foreign investment opportunities they would not be able to access without mutual trust or managed funds (Bodie, 2013). However, the disadvantage of such mutual trust or managed funds is that they are likely to be time consuming and risky. Nevertheless, they are preferable because of having efficient managers who can negotiate better deals, influence and look for good opportunities on behalf of the investor. This can, in turn, result in a huge return on investment thus becomes lucrative for the couples to consider investing in. For example, there is nearly over 5000 mutual trust or managed funds available to British investors regarding stocks and bonds which are listed internationally. Therefore, it is advisable even for couples 3 categories to consider this form of investment to start a sinking fund for their grandchildren (Bodie, 2013). In fact, just investing in one mutual trust or managed fund would mean that the couples have actually invested in an average of nearly 50 assets which can offer the couples and this would, in turn, offer them instant diversity thus reducing economic volatility to them. Nevertheless, the couples need to make two major decisions which include the place they would wish to invest in, global economic mutual trust or managed funds and the way the mutual trust or managed funds are open for free investment options. ii. Investment in Government and Corporate bonds Investing in the government and corporate bonds is crucial and its good for both couples 1 and 2 to consider since they are still young economically and have sufficient time to invest. Also, the fixed income market always has massive inflows, and this would push down the yields as well as push bond prices (Bodie, 2013). This would mean that investing in the government bond would be very profitable after some time. Comparing the return on investment between the government bonds and corporate bonds the government bonds have higher returns. Therefore, it is advisable for the couples to consider investing in the government bonds. However, there are some risks which are associated with government bonds in case they default. The corporate bonds can be related to two risks which include defaults and rise in interest rates. In the case of these risks occurring, the couples who have invested in the two bonds would potentially suffer a substantial capital loss (Bodie, 2013). Nevertheless, the government bonds are likely to suffer most in the case of interest rates hiking as compared to the corporate bonds which are less sensitive to such impacts. Therefore, it is advisable for the couples to use many parameters before deciding where to invest and those parameters include the risk profile, the investment duration and whether they require an income or not. iii. Use of gearing borrowing to invest It is sometimes good to use the existing investments for a personal security since it is a simple tool which can help a person to build his/her wealth. Also, regular gearing when combined with a regular investment plan would greatly help couples 2 due to the advantages of saving it usually comes with. Gearing borrowing to invest is also very simple and automatic approach to drip-feeding money to invest. Therefore, Couples 2 can take the advantages of dollar cost moderation like buying more during the off peaks in the market and also minimizing buying during peaks in the market (Bodie, 2013). Gearing borrowing to invest always comes with some benefits which include gearing of personal savings to build wealth as fast as possible, enables an investor to invest more money for potentially higher returns on investment and to improve risks management through the diversification of investments. Also, regular gearing can result into allowing the couples 2 to invest more money more frequently, and they can also double the amount of money that they invest monthly and provide them with automatic and simple techniques towards achieving their financial goals. However, gearing borrowing to invest would result in some risks like in the case of falling in the value of the investments which is likely to occur though the loan balance always remains (Bodie, 2013). Moreover, the interest cost can sometimes override the investment returns which in turn can cause adverse impacts on their cash flow. Also, in the case where margin loan is used, the margin call is likely to occur, thus the investor needs to add additional money to the investment or sell the investment. iv. Investment in Gold Bullion Gold Bullion investment is a very smart type of investment which would be suitable and of great benefit to Couples 1 and 2 since they are still ambitious and look for a narrow spread in their daily spending. In fact, Investment in Gold Bullion can be of great importance to them as a component of their portfolios by investing since they are looking a high liquidity, portability, and security with regards to future economic uncertainties (Bodie, 2013). Also, Gold bullion can coin value with regards to the prices and the small premium, thus helps to cover coinage as well as distributing costs. The Gold bullion is usually minted in weights of 1/10, 1/4, 1/2 and 1 ounce with the aim of fitting different kinds of budgets. These smaller premiums are usually affordable to young investors like couples 1 and 2. Investing in Gold Bullion ideas can be got from the major daily newspaper and the regularly tracked in top economic information which includes the McAlvany (Bodie, 2013). Nonetheless, the couples have a variety of bullion from where they can choose from. The ICA always advises such investors to take invest in some specific Gold bullion because such bullion are most widely traded and accepted globally. However, Investment in Gold Bullion is a long-term type of investment, though it is not the best way for storing funds in the short-term basis. Besides, buying a physical piece of gold would mean a person is buying it from a dealer, and this is likely to cost an investor a higher amount of money than the market price (Bodie, 2013). The same process of using dealers would follow in case a person wants to sell the piece of gold meaning the investor shall sell it at a slightly lower price as compared to the Gold market prices. All these happen because the dealer must charge the buyer commission when buying or selling the piece of gold. 3. The concept of risk management The concept of financial risk management is vital because investors are usually exposed to several financial risks. The risk that investors like the three categories of couples are likely to encounter include financial loss in the stock markets, fire destroying their housing properties and potential loss due to damage of the vehicles or health (McNeil, Frey, & Embrechts, 2015). The financial uncertainties due to the above events would result into depleting of investor economic resources in case they fail to consider risks management approaches. Also, these uncertainties are likely to ruin the life of an investor as well as wrecking his financial plans. Nevertheless, managing such financial risks would help the couples to mitigate the potential financial risks and also ensure that their investments are made free from unavoidable events like the ones mentioned above. Therefore, the following recommendations would best help the three categories of couples in ensuring that their savings are protected. i. Couples 1 The couples need to transfer the risks which are likely to come up due to their saving to buy a house property to the financial institutions like banks through taking a loan. This can be done through the insurance institutions (McNeil, Frey, & Embrechts, 2015). Moreover, it can be good if the couples introduce security measures of eliminating risk which they are likely to encounter by changing their investment strategies. The couples need to know that risk management is not a one-off exercise, thus they need to continually review and monitor their risk management techniques to be successful. In fact, regular review and monitoring of risk management techniques ensure that the possible risks are accurately identified promptly and dealt with according. ii. Couples 2 These couples need to formalize some risk policies to set out their business techniques with regard to risk management. In addition, if the couples can go an extra mile and assign some of their financial responsibilities to an expert who can effectively choose a good investment plan on their behalf, then they are likely to minimize the risks that they would encounter (McNeil, Frey, & Embrechts, 2015). If possible, they are supposed to get committed to the risk management approaches at professional levels. In addition, the couples need to have a comprehensive and solid risk management plan. The risk management plans depends on the couple's needs. iii. Couples 3 These couples are saving for their grandchildren, therefore, it is very important if they can transfer the risk to an insurance company by buying a saving plan to them. An insurance contract is basically meant for transfer of risks from an investor to the insurance company. For example, in case they own a home they might experience a big risk of fire, theft and other damages in case they fail to insure it (McNeil, Frey, & Embrechts, 2015). Therefore, it is advisable if they can buy an insurance policy which shall enable them to transfer the risk the insurance company. Moreover, the couples can also put some measures in place to check if at all the risk management strategies are working as well as monitoring their investment or a regular basis to deal and identify other risks. 4. Importance of superannuation Human beings are naturally poor savers because saving for retirement is not always a priority for the majority of employees. This is the reason why superannuation scheme is very important for the couples 1 and 2 who are still employed. The individual employees can contribute to their superannuation fund more seriously as compared to personal savings. This is a greater strategy which the couples can use to ramp the retirement savings (Bui et al., 2016). The superannuation fund is very useful by helping individuals to put money aside in the form of a pension plan to the retirees like couples 3 to continue enjoying life. In fact, without the superannuation fund, the Australian government would be facing lot difficulties in providing the retirees with pension cash transfers. However, the cash transfers of the Age pension are little and are not able to sufficiently help the retirees as compared to the superannuation funds (Bui et al., 2016). Thus, this is the reason why the superannuation fund is very important for the couples 1, 2 and 3. Therefore, with the increasing numbers of retirees, it is important for the couples to stop relying on the social security and other self-funding for the retirement ages. i. Couples 1 Since the couple 1 is at the initial stages of their career, it is paramount for them to consider the superannuation fund saving because this shall help them after retiring. A superannuation fund is critical since it is employee money, which they are saving through making a little monthly contribution (Bui et al., 2016). Therefore, it is important for these couples to make a regular superannuation contribution during their working periods since this money shall help them in future. ii. Couples 2 In case these couples retire, their superannuation fund would cease to diminish and therefore, they are advised to consider making superannuation contributions. It is not good for them to underestimate the superannuation contribution like other Australians since this money shall help them after retirement (Bui et al., 2016). Moreover, the way they are paying for the retirement saving plans, it is good for the couples to subscribe the superannuation fund rather than subscribing to the Age Pension plans. The superannuation fund can also be very suitable to be used as an income stream. iii. Couples 3 These couples might have used the superannuation fund as their retirement fund scheme. Therefore, the advice they need is on the way they can use the money wisely to benefit them. This kind of pension scheme is a long-term investment, and the couples need to use it for other investment purposes instead of just spending it carelessly (Bui et al., 2016). The couples might have made enough savings since a person cannot withdraw before retirement age. In addition, in case the couples 3 have not reached the age of 60, they are advised to continue with the superannuation contributions. This is very useful in case they still have some savings to use apart from the superannuation fund. 5. Importance of a valid will and proper estate planning Even though the majority of people normally do not like thinking about death, but the reality is that death is a reality, and that is the reason why it is very important to decide on how the children shall divide the property after the demise (Holland, 2016). Moreover, it is good to find out the best way of giving the family instructions based on legal as well as medical preferences, and in the case of failure to do this, some problems are likely to come up in case the person dies. Therefore, a will is paramount for all the couples in the case study since it shall provide them with an effective platform for sharing of their assets in case any one of them dies. This is where a will comes in to help the family members after the person has died. A will becomes very useful after the death of a parent (Holland, 2016). It covers the diseased assets and provides proper guidelines on the way they are supposed to be shared by the beneficiaries of the deceased. Among the contents of the will include the person who will take care of the children, the kind of trust the person would like to give the trustee and the amount of money the person would to donate to charities after his/her death. In addition, it is good to incorporate the powers of attorney as well by appointing someone to represent the powers of attorney. This person shall be in charge of giving the legal authority of looking after the affairs of the deceased on his/her behalf. However, the powers of attorney always depend on the state or the region where the disease originates from (Holland, 2016). These powers can refer to financial powers or can as well include a wider guardianship powers. Nevertheless, the person needs to check with his/her local public trustee. The will document typically depend on the person's situation and responsibilities the person is happy to entrust to other people. The person is advised to seek legal advice in case he/she is not sure. Below are the benefits and disadvantages of a will. Advantages of a will Indeed, leaving a will behind offers a number of benefits since it allows the testator or deceased to protect his/her financial privacy through completely keeping out probating (Arai, 2015). A will is part of the public records thus no one can interfere with its content, therefore, it is the most primary approach of planning for an estate. It is very simple to establish. Thus, a testator can draft it based on his/her own interest without the use of much money. In addition, a will offers individuals several flexibilities especially to the couples, their children, and relatives after the death of the testators (Keppler, Zagorina, & Prinzivalli, 2013). Couples are also able to use a will to provide financial rights as well as granting rights to the love ones. This means a will gives the testator an opportunity to plan for his/her personal matters like the funeral arrangements, the way the children shall leave and their care. Disadvantages of a Will The federal estate is likely to suffer a lot of tax liabilities due to its flexibility of a will. Moreover, the beneficiaries of a will are also likely to face a lot of income taxes as well as inheritance taxes (Keppler, Zagorina, & Prinzivalli, 2013). This, however, would depend on the residential state laws, though the inheritance which is got by the beneficiaries can only be subjected to the income taxes for that financial year. Also, another disadvantage is that probate is not able to extend the protection against some forms of fraud and misappropriation of estate properties since they will always become a public record after being filed (Arai, 2015). This publication of the will gives the public an opportunity of reviewing and accessing it during and after probate. Bibliography Arai, M., 2015. Continuing Power of Attorney and Trusts. J. Int'l Aging L. & Pol'y, 8, p.149. Bodie, Z., 2013. Investments. McGraw-Hill. Bui, Y.H., Bui, Y.H., Sarath, D., Sarath, D., D. Ahmed, A. & D. Ahmed, A., 2016. Efficiency of Australian superannuation funds: a comparative assessment. Journal of Economic Studies, 43(6), pp.1022-1038. Holland, C., 2016. The Art of Business Succession: Who will fill your shoes? John Wiley & Sons. Keppler, C.B., Zagorina, S. & Prinzivalli, J., 2013. Estate Planning for the Transsexual Client. GPSolo, 30, p.70. Kotlikoff, L.J., 2016. Essays on saving, bequests, altruism, and life-cycle planning. MIT Press. McNeil, A.J., Frey, R. and Embrechts, P., 2015. Quantitative risk management: Concepts, techniques and tools. Princeton university press. Ryan, P.A. and Ryan, G.P., 2002. Capital budgeting practices of the Fortune 1000: how have things changed?. Journal of business and Management, 8(4), p.355. Read More