We’ve had some great budgeting discussions with some our clients recently. If you work with us, you know we regularly update cash flow statements. Knowing your “burn rate”, as we like to call it, is critical to the success of your financial plan. As part of our process, we discuss general categories of expenses, planned large expenditures or vacations for the year, and match up your expenses against income.
If income exceeds expected expenditures and the personal financial statement shows steady increases in equity, then things are on the right track. Alternatively, if no gap or a deficit exists between income and expenses, and savings have receded or debt has increased; corrective action is needed.
There are two options for solving a bad cash flow scenario, and the best option depends on the situation. For younger couples with newly established spending patterns and possibly limited income; a deep dive into the family expenses may be beneficial. I believe the easiest and most effective way to find where money is going is to track all expenditures for 30 days. Every day for a month, you write down every single thing purchased. At the end of the month, add your purchases up into simple categories. You will be surprised, and in some cases shocked by what you discover. For most people this simple 30 day process provides sufficient feedback for a new spending mindset, and superfluous purchases will be curtailed going forward; thus bringing cash flow more in line.
For more established families with high incomes, budgeting is generally not the answer and can be a frustrating evolution of minimal benefit. The spending patterns, for the most part, are what they are for high income earners. Fortunately in most cases, family income is sufficient to support those spending patterns. Where things get wonky, is when we identify additional retirement savings needs, or other important long term financial goals to be funded.
I have found, from years of working with high income earners, the best way reduce spending is to automate savings. We carefully review your cash flow and help you decide on a safe amount of money to automatically set aside in savings or investments.
In discussing cash flow with one of my best friends once he stated a truth we should all accept: “Consider money deposited in the checking account as already gone.” Very few people can effectively save money in their checking account, so trying leads to frustration.
Instead, redirecting a reasonable amount of money towards another account or investment seems to work in most cases. Adjustments in spending will happen of their own accord to find equilibrium in the checking account (heck, that’s how the spending patterns were established in the first place, right?).
Automatic saving works and it’s vitally important to your financial well being. Watchstanders in the military famously describe their job as “months of boredom punctuated by moments of extreme terror”. Similarly, there are critical events in all our lives that come around irregularly and often times unexpected. Our ability to save beyond our monthly needs creates the resources and defines our ability to deal with future events.