Back to Basics - Cash Flow
Cash flow planning is foundational to financial planning, yet often overlooked. I’ve found that people take many approaches when it comes to planning their cash flow, often based on personality and/or stage of life. However, a key aspect to a successful financial plan is living within your means and saving for future purchases and goals. Every financial plan requires an understanding of current and future income and expenses, and subtle variances can make a big difference.
To illustrate how important it is to use accurate expense numbers in a financial plan, I built a financial plan that is able to support $8,000/month in assumed initial living expenses in retirement with a 90% chance of success (based on historical modeling). If I leave everything the same but change the living expenses to $9,000/month (let’s assume the individuals spend more than they realize and weren’t accurate in their assumptions), the chance of success falls to 62%. The point is, understanding how much you spend is critical to planning properly and meeting your goals.
I’ve seen that different personalities and stages of life lead to handling cash flow planning differently. Below are a few examples of what I’ve seen:
Plan/Track Everything – This is the method that most people think of when it comes to using a traditional budget or spending plan. I believe everyone can benefit from this approach as it creates awareness of your situation and purposeful decisions. This approach is especially helpful when your cash flow is tight or when going through an adjustment period such as income changes due to marriage, divorce, job changes, etc. Many tools are available, and I encourage people to use what works best for them. Apps such as Mint, YNAB, Goodbudget, and EveryDollar are just some examples of tools to help with this type of cash flow planning.
Priorities First and Live on the Rest – With this method, you prioritize what is important to you such as charitable giving and saving for the future, and then live on the remainder. An example would be a 10/15/75 plan where you give 10% of your income, save 15% of your income, and live on the remaining 75%. Of course, it is still a good idea to budget out the 75% that is used for living expenses to ensure you’re living within your means. In this method, tracking everything closely isn’t as common, which is okay assuming your spending doesn’t exceed the 75% you’ve allotted to be spent.
Cruise Control – I most commonly see people in “cruise control” regarding their expenses after many years of settling into a lifestyle that they can afford and when all of their financial objectives have been met or are on track to be met. Many people who have arrived at this point have done so by being intentional in their early years and developing good financial habits. In many cases, as their income has increased, their spending hasn’t done so to the same extent. Often individuals in this camp have found contentment with their lifestyle rather than continuing to chase the next level.
I should note that another method is actually having no method at all, and at the same time not being on track to meet, or even identify any financial goals. This is somewhat the opposite of cruise control, rather reckless driving. That is not a recipe for success and if you’re in that boat I suggest making efforts to plan your finances, your future self will thank you.
You may have found that you identify with one of the methods above and have likely drifted into different categories or used a combination of these methods. I encourage people, regardless of their current stage, to periodically review their spending to ensure it is purposeful and to have a sense of control over their finances. A tell-tale sign of needing to prioritize a spending plan is if you find your savings dropping (outside of its planned intention) or accumulating debt. In those cases, reviewing your income and expenses, and making major adjustments may be needed.
To reiterate, success comes from living within your means and saving enough to meet your future objectives (which can often change and should be revisited periodically).
If you need to revisit your financial plan or spending plan, or need one to begin with, please feel free to contact me. You can always reach me at advisor@blakegallion.com
