Some people choose to delay having a family as it will allow them the freedom travel and experience the world, other delay having a family to focus on their careers however for many the choice to delay starting a family is an economic one. Most people want to have some sense of financial security before they look to add the stresses that providing for a young family can bring.
For the couples I meet who are in their late 20’s and early 30’s to be able to start a family without having to worry about money is often their most important goal.
In this article I will look at an example of an average young couple I might meet and what I would be addressing when planning their financial futures.
The Financial Advice Journey
To determine the best steps to take moving forward, the financial advice process begins by getting a thorough understanding of your financial and lifestyle goals as well as everything else that is important to you. Once we have identified what you are working towards we then need to look at where you currently are and based on you existing arrangements what does you future look like. This analysis it allows us to highlight any areas of concern as well as identify the strategies that can be used to improve your financial position and help you achieve your goals.
John Doe is 30 and recently got married to Jane who is 26.
They earn the average full time wage for a male and female in SA of $76,596, and $67,860 pa respectively.
After both working full time since they were 21 they have just purchased their first home for $750,000 having saved up $203,287 to cover a 20% deposit and purchasing costs of $43,287. After the deposit and costs, they were left with a $10,000 cash buffer that they like to have set aside for any unexpected expenses.
Following working hard over the past several years to save enough to purchase their house the Doe’s have loosened their spending habits and by living more extravagantly they presently spend everything they earn.
Now that they have settled into their own home they have started thinking about starting a family. When discussing amongst themselves they have determined they would like to have two children, with the first planned in 2 years and the second two years later.Jane is entitled to 12 weeks of maternity leave from her employer and would then receive an additional 6 weeks paid parental leave at the minimum wage.
After the birth of their first child Jane would like to take a year off to spend at home with the baby after which she would then look to return to work 3 days per week
While working they would rely on child care to take care of their children where the daily cost could be up to $120 per day less a 50% rebate of up to a maximum $7500 pa per child.
After the birth of their second child Jane would only take the maternity leave and return after 18 weeks
They both would like Jane to be able to work part time (3 days per week) until their youngest starts primary school after which she would return to full time employment
They plan on sending their children to a public primary school which would cost them an estimate $500 pa per child in today’s terms. They would however like to be able to send their children to a private secondary school and having looked at some of the local school could expect to pay $15,000 pa per child in today’s terms.
In addition to these specific costs they expect that their cost of living would increase by $100 per week per child in today's terms.
Alternatives to consider
Based on this financial modelling, where they look to maintain their existing standard of living while starting a family it is clear they will have significant cash flow shortfalls until Jane would return to full time employment. They will also have a shortfall while they send the children to private secondary school. To meet their goal of removing the financial stress during this time period they need to find a way to eliminate these shortfalls.
I have considered three alternatives:
Draw down from savings or an investment portfolio to fund the deficit
Revise their budget and cut their cost of living
Take on additional debt
Strategy 1: Drawing down on an investment portfolio or savings.
The value of the investment required will vary depending on the expected returns of the portfolio. As the Doe’s would be expecting to draw down on the investment portfolio over the next two to nine years they have to capacity to hold some growth assets but would be expected to hold a larger share of defensive assets.
to be conservative I have assumed a rate of return of 2% above inflation.
To be able to maintain their current standard of living through drawing down from a diversified investment portfolio they would need $331,500.
For very few people this would be a viable strategy
Strategy 2: Reducing their budget
As the Doe’s have two years before they plan on having their first child they have the ability to reduce their current budgeted cost of living and accumulate sufficient funds in their cash reserve so that it is possible to not run out of money during the time Jane is only working part time
Based on a thorough analysis of their finances and budget if they reduce their cost of living to $44,600 (excluding debt repayment, planned child care costs and the planned increase in cost of living of $5,200 pa per child) they will not run out of funds. They will however completely draw down on their savings including their $10,000 cash reserve, to avoid this they would be required to cut their cost of living by an additional $1,500 to $43,100 until Jane returns to work.
Whether this is feasible will ultimately be determined by them, if it is not than we have to look to the last strategy.
Strategy 3: Draw down on debt to fund the shortfall
Where you have not accumulated sufficient funds to maintain your current standard of living without a budget cut and it is not feasible to reduce your budget the final option you have is to rely on debt to fund this period of time.
This should be avoided where possible but it is another option available.
If John and Jane were to draw down on debt to fund this period without any budget cut, they would reach 60 years of age with a mortgage balance still in excess of $500,000.
What ultimately would be the best course of action may come down to a combination of these strategies. In any case where the main objective is to remove the financial stress that can occur when starting a family the first step is getting a complete understanding of where you are and what your financial position will look like over this timeframe. With a complete understanding your can determine what is getting in your way and what steps you can take to improve your future. If you have any questions about your own financial planning please contact Hart Wealth Management for a personalised conversation.