Taking your Financial Inventory – The Personal P&L Statement and Balance Sheet

Two important documents, the Profit and Loss Statement and the Balance Sheet, are used to analyze and evaluate the financial condition of a company. The P&L Statement captures revenues and expenses over a period of time, while the Balance Sheet is a snapshot in time of assets and liabilities. These documents are effective tools to use when selecting stocks, but are invaluable if you apply them to your own personal finances. You can use a shoebox, a Hello Kitty Notebook, or the latest mobile App to assemble the information needed for these documents. You are only a true investor when you build or adopt processes in your own way. I think of the P&L as a running river, and the Balance Sheet as the reservoir where the assets collect over time for later use. The reservoir only fills when you have positive cash flow (you consistently spend less than you earn).

Down the road, you will have sufficient assets to generate the cash flow you will need during retirement to replace the earned income you no longer have. In other words, you will slowly release the assets from the reservoir to meet your cash flow needs. As you can see, both tools are important and interact with each other. You are better served by focusing on keeping a clean balance sheet than you are by worrying about what your credit score is, although the banks and lenders would have you think otherwise! A good rule of thumb is to only borrow money to buy assets that will appreciate in value, such as real property or business interests, and never borrow for depreciating items such as vehicles or other consumables. By living within your means and not using credit, you can slowly use positive cash flow to build a rock solid balance sheet.  Managing expenses can become even more important during the retirement years, so learning the skill early can be a significant advantage.

The Personal Profit and Loss Statement can be downloaded here:

If you review the income and expense categories, you should be able to assemble what your monthly budget looks like. For income and expenses that occur quarterly or even annually, you can add a pro-rated monthly amount or just track them separately.

Wages, Salaries
Investment Income
Rental Income
Business Income &   Royalties
Social Security
Home Mortgage or Rent
Property Tax
Maintenance and POA Dues
Utilities Electric & Gas
Water & Sewer
Food Groceries
Health Insurance
Family Children, Parents
Transportation Auto, etc
Charitable Giving Donations, Tithing
Debt Loan Payments
Entertainment Cable & Computer
Hobbies & Travel
Clothing Apparel
Savings Retirement
Miscellaneous Household

The Personal Balance Sheet can be downloaded here:

If you collect all of your current asset and loan statements, you should easily be able to complete a current balance sheet. Hopefully you have a heavy asset side and a light liability side, but if not, take heart, with incremental changes you can improve your future situation dramatically.

Cash Checking
Money Market
Certificates of Deposit
Investments Mutual Funds
Individual Securities
Private Placements
Company ESOP Shares
Vested Pension Assets
Real Estate Primary Residence
Secondary Home
Investment Property
Business Interests Private Company   Ownership
Insurance Life Insurance Cash Values
Personal Property Antiques/Collectibles
Other Receivable Loans
Mortgage Primary Residence
Second Home
Investment Property
Debt on Depreciating   Assets Auto Loans
Revolving Debt (Credit   Cards)
Other Personal Loans
Miscellaneous Student Loans
Business Loans

If you have amassed debt, line up the loans based on the interest rates, highest to lowest. Try to negotiate lower rates if possible or combine balances at the lowest possible rates. Implement a personal spending freeze except for absolute essentials (and redefine what really is essential). Funnel as much money towards the highest interest rate loan, and work from there to pay off everything as quickly as possible. If you have a setback and go on a frivolous spending spree, that is ok, pick yourself up, dust yourself off and start back at it. Even if you are in a situation where you have debt to pay off and little or no savings, I encourage everyone to start a Roth IRA and save at least $25/month. If you are fortunate to be offered a retirement plan at work, enroll and begin contributing there, especially if there is the possibility that your employer will provide a matching contribution.

Important Note Regarding Retirement Distribution:

Distribution planning can be stressful and even well-prepared and budget conscious retirees fear outliving their assets.  With pension and social security income streams essentially fixed, it can be difficult to keep up with inflation.  A detailed plan, including estimates for longevity based on family health history and projections for any potential large one-off expenses, can go a long way in helping retirees be better prepared.  Deferring distributions and allowing retirement assets to “percolate” during the first several years of retirement can create a powerful advantage down the road.  Some retirees are fortunate to have low expenses and no need to tap into assets while some can get by using just the income generated by their portfolios.  Income from different types of trusts may be sufficient for a lifetime while leaving assets to family members or favorite charitable organization.  Others will need to draw from principal, and at that point it becomes critical to pare out budget expenses into essential and discretionary items.  Consider keeping at least 12-36 months of expenses liquid so you are not forced to sell portfolio positions during downturns.  Some retirees find it helpful to create different baskets of funds designated for specific uses.  Tax planning is also an important consideration, so partner with your CPA and investment advisor to determine ordering of how you source funds from tax-deferred accounts including IRA’s and Roth IRA’s, and any old annuities you may hold.

With so many factors beyond the control of the individual investor, my philosophy is to guide people to focus on those areas that they can control, such as minimizing expenses, saving during younger years and avoiding debt throughout your lifetime. Do not always be a squirrel, however, because enjoying time with friends and family and exploring all this wonderful world has to offer is priceless. Strive for proper balance, and “invest right, live right!”

© 2011 Pawleys Investment Advisors, LLC. All rights reserved.

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