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The first step in any journey is getting a thorough understanding of where you are right now so that you can plot a course to your ultimate destination. Personal finance is no different in that we need to first assess our current financial situation, good or bad, and create a plan to get us from here to financial independence. You need to get all of your financial transactions in one place.
That plan may eventually involve a lot of moving parts but it all hinges on having a solid understanding of your personal income statement and balance sheet. The balance sheet is a snapshot of your assets, liabilities, and net worth for a given date and the income statement is a summary of your incomes and expenses (kind of a statement of cash flows).
Wait… I want to start at the beginning.
Link to the previous step – Intro to the Personal Finance Flow Chart
Transactions and balances
Quick, no cheating…
- Do you know what your financial net worth is?
- What is your total monthly expense budget?
- How much do you spend on dining out a month?
Three for three on finance?
Excellent, that is a good start. You can put your balance sheet and income statement away now since I’m pretty sure you went to get them. Other people might mock your level of preparedness but since I’m a fellow personal finance nerd, this is a safe space. Feel free to keep reading or jump ahead to the next step.
If you don’t know the answers to these questions don’t worry. It is probably more normal in today’s society to not know these answers than to be the type of person who could rattle them off the top of their head. The point of this exercise is to get you to a place where you will not only know these answers but be confident in them.
Step 1 is the simplest of the process ahead but might be the most tedious, so I’m warning you now. Don’t get too discouraged though since this isn’t something you’ll have to regularly do and definitely not on this scale.
Personal Finance homework?
Wait… come back. I promise it isn’t that bad. You just need to download some things from the internet, something we are all good at. We’ve been preparing for this moment for years. Personal finance only seems hard.
Do you have a list of all financial transactions you’ve made over the last 90 days and your current account balances? This includes your checking account, savings account, credit card, home equity line of credit, or anything else you had money paid into our out in that time period. You can do the last month but it really is best to get a couple of months to see the trends and get a more accurate sense of your incomes and expenses without the normal fluctuations.
If you already have that list, try to get 90 more days if possible. The more you have the better it can be to see the overall situation and get a better idea of where your situation is trending. The more data, the better I always say.
If you don’t have that list, like I imagine most people wouldn’t, you need to log into all of your financial accounts ad start downloading those now. Given an option, get the files in either Microsoft Excel (xlsx) or text (csv) formats since those will be the easiest to work with.
Personal Financial Statements
All of my fellow business majors and MBA friends will already know what the above financial statements are and how they can be used here. Well, I hope they would. For everyone else, if you are already concerned with the business terminology and afraid you are in over your head don’t worry. These concepts really aren’t as complicated as people assume and you are probably already familiar with them without realizing it.
Balance Sheet? I’m not sure I have that…
The main screen you see when logging into your bank account is functionally a balance sheet separated by assets (checking, savings, and other deposit accounts) and liabilities (mortgage, auto loan, and personal loans). The transaction summary your credit card company sends you monthly is functionally a statement of cash flows where they show your starting balance, all your financial transactions for the month, and ending at the current balance.
If you’ve ever tried out online budgeting software like Mint, you’ve seen an income statement since their monthly budget page is basically an income statement and budget variance. My point is that these concepts are not as foreign to the average person as one might assume and even if they are still a little fuzzy, hopefully, I’ll be able to explain them enough for our uses in this blog.
Knowledge is power
Peter Drucker, the founder of modern management theory and practice, noted “If you can’t measure it, you can’t improve it.” He was specifically referring to the management of a business but it applies to all aspects of life. This quote really speaks to me as a self-professed “data nerd” who has spreadsheets on everything in my life from expenses, assets, weight loss tracking, running distances, Disney restaurants we’ve eaten at, power usage at our house, stock market trends, and more recently COVID-19 spread.
I want to measure everything: sometimes for fun, sometimes to keep track of things, and sometimes to monitor changes or improvement. It probably drives my wife up the wall and I’ve definitely received sideways glances from coworkers when I’ve been specific on the percent of Disney restaurants we’ve dined at. Their loss, haha.
Half full or half empty? Depends…
If you never measure a thing, how can you know if you are making progress on it one way or another? The glass half full or half empty thought experiment would be a lot easier to determine if someone had tracked the contents of the cup over time to see if it was decreasing or increasing in volume. Similarly, those pursuing weight loss would have a hard time gauging progress if they never stepped on a scale regularly. Like your weight, which is what you weigh whether you measure it or not, your finances are an important measure in your life whether you know the balances or not. Something as important as your finances needs to be measured and tracked if you want to achieve financial independence.
No judgment, I promise
Important to note before we start the data collection is that we aren’t going to be making any judgments at this point. We are just pulling in all the account balances and financial transactions so we can start organizing our current situation. It is imperative that we include everything even if it is a one-time expense or embarrassing or something you would like to pretend doesn’t exist for whatever reason. Personal finance feels very private and talking about it is often taboo but you need to get past that if you want to move forward.
You are currently the only one seeing this and avoiding the situation to make yourself feel better isn’t helpful in the long run. If that is the case, forgive yourself for the mistakes of the past that got you here and commit to a plan that moves you forward toward your goals. We are just measuring what your situation is right now, not what it will eventually be hopefully.
Get those financial transactions
Create a list of every financial account you currently have. Savings, checking, CDs, mortgage, car loans, other loans, credit cards, 401k, IRAs, investments, cash, and any other type you own. Once you have that list, log in to each of them and get the balance and the list of financial transactions, where applicable, for at least the prior 90 days (longer if possible). Save these files to a dedicated folder on your computer.
Open and fix transaction amount column
Open the files (usually excel or csv files) that can be opened in Microsoft Excel or Google Sheets (free). Before we can start organizing the transaction files, we need to make sure that all incomes are positive numbers and expenses are negative numbers. Adjust the numbers in the files accordingly or when we combine them with your other accounts the summaries might not make sense if incomes/expenses aren’t properly summed.
The simplest method is to create a new column next to the transaction amount where you multiple the transaction amount by negative one. This simple step is important since not every financial institution exports the amounts the same way and you want all expenses to be negative and incomes to be positive.
Combine the finance files
Next, we need to combine all of the financial transactions into one file. This sounds easy and it should be but every bank or credit card company feels the need to include or exclude their own mix of data in the transaction lists. The formats inevitably will not line up between files and that is not only fine, it is expected really.
For that reason, it might make sense to start the final list in a new file. Do your best to merge the transaction lists but know that in the end we really only need the date, transaction description, and amount to do our first analysis. Feel free to ignore the other fields if you want when copying the data over for now. You can always go back and add in more fields of data later. This tab in the spreadsheet will be our transaction list.
What about the account balances?
Put all the current account balances in another tab. If you can get the month-end balances for those accounts for the prior three months (or more) that would be great as well to get a more complete picture of your finances.
Try to organize them by type of account to make the next steps easier. Group all of the savings accounts, the loan & credit card accounts, the investment accounts, and all others together. It doesn’t matter if they are at different companies.
Save that file.
You know what? Save a copy of that file too. We are going to be going through that file a lot in the next few steps and its nice to have a back up in case we need it.
Once you have that file all set up we can move on to the next step in this personal finance choose your own adventure.
Link to the next step – Your Balance Sheet
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