1.2: Individual or "Micro" Factors That Affect Financial Thinking
- Page ID
- 112038
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\(\newcommand{\avec}{\mathbf a}\) \(\newcommand{\bvec}{\mathbf b}\) \(\newcommand{\cvec}{\mathbf c}\) \(\newcommand{\dvec}{\mathbf d}\) \(\newcommand{\dtil}{\widetilde{\mathbf d}}\) \(\newcommand{\evec}{\mathbf e}\) \(\newcommand{\fvec}{\mathbf f}\) \(\newcommand{\nvec}{\mathbf n}\) \(\newcommand{\pvec}{\mathbf p}\) \(\newcommand{\qvec}{\mathbf q}\) \(\newcommand{\svec}{\mathbf s}\) \(\newcommand{\tvec}{\mathbf t}\) \(\newcommand{\uvec}{\mathbf u}\) \(\newcommand{\vvec}{\mathbf v}\) \(\newcommand{\wvec}{\mathbf w}\) \(\newcommand{\xvec}{\mathbf x}\) \(\newcommand{\yvec}{\mathbf y}\) \(\newcommand{\zvec}{\mathbf z}\) \(\newcommand{\rvec}{\mathbf r}\) \(\newcommand{\mvec}{\mathbf m}\) \(\newcommand{\zerovec}{\mathbf 0}\) \(\newcommand{\onevec}{\mathbf 1}\) \(\newcommand{\real}{\mathbb R}\) \(\newcommand{\twovec}[2]{\left[\begin{array}{r}#1 \\ #2 \end{array}\right]}\) \(\newcommand{\ctwovec}[2]{\left[\begin{array}{c}#1 \\ #2 \end{array}\right]}\) \(\newcommand{\threevec}[3]{\left[\begin{array}{r}#1 \\ #2 \\ #3 \end{array}\right]}\) \(\newcommand{\cthreevec}[3]{\left[\begin{array}{c}#1 \\ #2 \\ #3 \end{array}\right]}\) \(\newcommand{\fourvec}[4]{\left[\begin{array}{r}#1 \\ #2 \\ #3 \\ #4 \end{array}\right]}\) \(\newcommand{\cfourvec}[4]{\left[\begin{array}{c}#1 \\ #2 \\ #3 \\ #4 \end{array}\right]}\) \(\newcommand{\fivevec}[5]{\left[\begin{array}{r}#1 \\ #2 \\ #3 \\ #4 \\ #5 \\ \end{array}\right]}\) \(\newcommand{\cfivevec}[5]{\left[\begin{array}{c}#1 \\ #2 \\ #3 \\ #4 \\ #5 \\ \end{array}\right]}\) \(\newcommand{\mattwo}[4]{\left[\begin{array}{rr}#1 \amp #2 \\ #3 \amp #4 \\ \end{array}\right]}\) \(\newcommand{\laspan}[1]{\text{Span}\{#1\}}\) \(\newcommand{\bcal}{\cal B}\) \(\newcommand{\ccal}{\cal C}\) \(\newcommand{\scal}{\cal S}\) \(\newcommand{\wcal}{\cal W}\) \(\newcommand{\ecal}{\cal E}\) \(\newcommand{\coords}[2]{\left\{#1\right\}_{#2}}\) \(\newcommand{\gray}[1]{\color{gray}{#1}}\) \(\newcommand{\lgray}[1]{\color{lightgray}{#1}}\) \(\newcommand{\rank}{\operatorname{rank}}\) \(\newcommand{\row}{\text{Row}}\) \(\newcommand{\col}{\text{Col}}\) \(\renewcommand{\row}{\text{Row}}\) \(\newcommand{\nul}{\text{Nul}}\) \(\newcommand{\var}{\text{Var}}\) \(\newcommand{\corr}{\text{corr}}\) \(\newcommand{\len}[1]{\left|#1\right|}\) \(\newcommand{\bbar}{\overline{\bvec}}\) \(\newcommand{\bhat}{\widehat{\bvec}}\) \(\newcommand{\bperp}{\bvec^\perp}\) \(\newcommand{\xhat}{\widehat{\xvec}}\) \(\newcommand{\vhat}{\widehat{\vvec}}\) \(\newcommand{\uhat}{\widehat{\uvec}}\) \(\newcommand{\what}{\widehat{\wvec}}\) \(\newcommand{\Sighat}{\widehat{\Sigma}}\) \(\newcommand{\lt}{<}\) \(\newcommand{\gt}{>}\) \(\newcommand{\amp}{&}\) \(\definecolor{fillinmathshade}{gray}{0.9}\)- List individual factors that strongly influence financial thinking.
- Discuss how income, income needs, risk tolerance, and wealth are affected by individual factors.
- Explain how life stages affect financial decision-making.
- Summarize the basis of sound financial planning.
The circumstances or characteristics of your life influence your financial concerns and plans. What you want and need, and how and to what extent you protect those wants and needs, will depend on how you live now and how you hope to live in the future. Everyone is different, but ordinary life circumstances affect everyone's personal financial concerns, which in turn impact their financial planning. Factors that influence personal financial concerns include family structure, health, career choices, and age.
Family Structure
Partners and dependents affect your financial planning as you seek to provide for them, such as paying for children's education. Parents typically want to protect or improve the quality of life for their children and may choose to limit their fulfillment to achieve that end.
Providing for others increases your need for income. Being responsible for others also affects your attitude toward and tolerance of risk. Typically, the willingness and ability to assume risk diminishes with fewer dependents, and a desire for more financial protection grows. People often seek protection for their income or assets past their lifetimes to ensure the continued well-being of partners and dependents. Life insurance that names a spouse or dependents as beneficiaries is a good example.
Health
Your health is another key factor that influences your expected income needs and risk tolerance, and therefore your financial planning. Personal financial planning should include protection against the risks of chronic illness, accidents, or long-term disability, as well as provisions for short-term events, such as pregnancy and childbirth. If health issues limit your earnings or ability to work, or significantly increase your expenditures, your income needs may also increase. The need to protect yourself against further limitations or increased costs may also increase. At the same time, your risk tolerance may decrease, which can further impact your financial decisions.
Career Choice
Your career choices affect your financial planning. Careers have different hours, pay, benefits, risk factors, and advancement patterns over time. Your financial planning will need to reflect these realities. Table 1.2.1 displays 2023 data from the U.S. Bureau of Labor Statistics Occupational Outlook Handbook (www.bls.gov/ooh/most-new-jobs.htm), and compares the median salaries of several careers.
| Profession | 2023 Median Salary |
|---|---|
| Financial managers | $ 156,100 |
| Lawyers | $ 145,760 |
| Software developers | $ 132,270 |
| Management analysts | $ 99,410 |
| Accountants and auditors | $ 79,880 |
| Market research analysts and marketing specialists | $ 74,680 |
| Construction laborers | $ 45,300 |
| Medical assistants | $ 42,000 |
| Stock and order fillers | $ 36,390 |
| Cooks, restaurant | $ 35,780 |
| Home health and personal care aides | $ 33,530 |
Most people begin their independent financial lives by selling their labor to earn an income through work. Over time, they may choose to change careers, develop additional sources of income, transition between employment and self-employment, become unemployed, or re-employed. Along with career choices, these changes affect personal financial management and planning.
Age
Needs, desires, values, and priorities change over a lifetime, and financial concerns change accordingly. Ideally, personal finance is a process of management and planning that anticipates or keeps abreast with changes. Although everyone is different, some financial concerns are common to most adults in various stages of life. Analysis of life stages is part of financial planning.
As income, spending, and asset base grow, the ability to assume risk grows, but the willingness to do so typically decreases. Now you have things that need protection: dependents and assets. As you age, you realize that you require more protection. You may want to stop working one day, or you may suffer a decline in health. As an older adult, you may want to establish alternative sources of income, such as a retirement fund, to serve as insurance against the loss of employment or income. Table 1.2.2 suggests the effects of life stages on financial decision making.
| Young Adulthood | Middle Adulthood | Older Adulthood | Retirement | |
|---|---|---|---|---|
| Source of Income | Wages | Wages/ Investment | Wages/ Investment | Investment |
| Asset Base | None | Accumulating | Growing | Using up |
| Expenses | Low | Growing | Growing | Low |
| Risk: Ability | Low | Higher | Higher | High |
| Risk: Willingness | High | Lower | Lower | Low |
Early and middle adulthood are periods of building: building a family, advancing a career, increasing earned income, and accumulating assets. Spending needs to grow, but so do investments and alternative sources of income.
Later adulthood is a period of spending down one's assets. There is less reliance on earned income and more on the accumulated wealth of assets and investments. You are likely to be without dependents, as your children have grown up or your parents have passed on, and so without the responsibility of providing for them, your expenses are lower. You are likely to have more leisure time, especially after retirement.
Effective financial planning primarily depends on being aware of how current and future life stages may impact your financial decisions.
- Personal circumstances that influence financial thinking include family structure, health, career choice, and age.
- Family structure and health affect income needs and risk tolerance.
- Career choice has a significant impact on income and wealth, as well as asset accumulation.
- Age and stage of life affect sources of income, asset accumulation, spending needs, and risk tolerance.
- Sound personal financial planning is based on a thorough understanding of your personal circumstances and goals.
- Create a personal financial journal to keep a written record of observations and insights about your financial thinking and behavior. Review How Journaling for Personal Finance Can Help You Manage Money (www.journling.com/journaling-for-personal-finance/). You may be surprised at what you discover. As you read, consider how the information in this text relates specifically to your observations and insights. After reading this chapter, for example, identify and describe your current life stage. How does your current age or life stage affect your financial thinking and behavior? To what extent and in what ways does your financial thinking anticipate your next stage of life? What financial goals are you aware of that you have set? How are your current experiences informing your financial planning for the future?
- Continue your personal financial journal by describing how other micro factors, such as your present family structure, health, career choices, and other individual factors, affect your financial planning.
- Consider the age range for your stage of life and read What To Know About Life Cycle Financial Planning (www.asset-map.com/blog/life-cycle-financial-planning). According to the articles on this page, what should be your top priorities in financial planning right now? Read the articles on the next life stage. How are your financial planning priorities likely to change?