With some frequency, the topic of cash flow comes up and what strikes me each time is how often people interchange “working within their cash flow” with “working with a budget” so let’s chat.
At the core of every bit of financial planning is understanding how we spend our dollars whether they are earned income dollars, a structured payout from investments, gifts received from benevolent relatives, or something received through means best not written down. Documenting how we spending our income is just the first step of building a budget. Let’s put it this way, if you can’t identify, by category, where you spend your income down to about $25/month, you aren’t documenting your cash flow and you certainly don’t have a budget.
Misconception No. 1 – Just because you aren’t accumulating debt doesn’t mean you have a budget or even a strong understanding of your cash flow.
Exercise No. 1 – Look back over the last three months and lay out how you spent your income for that period. You can do this on a legal pad, in a spreadsheet, in a fancy app, whatever. At the very least, you should have a housing category, an auto category, something covering medical costs, a bucket for the rugrats (with fur or without) (if that applies), and the ubiquitous food category. If you need examples, let me know and I can send you some helpful tools. When you look at the totals for the month, there should be no round numbers (seriously, no one’s phone bill is an even $100 every month).
Once we have documented HOW we spend our dollars, we can then make educated decisions. Are our spending decisions mindless or mindful? Are we supporting our goals or are those categories being overwhelmed by things we hadn’t planned for? Are there areas we can easily redirect if we need a little extra to meet our goals? To begin making those “educated decisions” we need to convert our documented cash flow into a budget and here’s where the hard work comes in (no, I’ve yet to find the magical document that said life was easy and I’m a pretty well-read gal…).
For each of those categories, there is a point at which the word “No” needs to come into our vocabulary. If your car fuel “budget” is $155/month (there, now you all know what Kitty puts in her little car’s tank each month…), as you look at your month’s spending, cash flow tracking is knowing how much you spend whereas budgeting is stopping the spending at $155. Does that mean I don’t fill up at the end of the month if my tank is empty and I’ve used up my $155 – of course not. What that does mean is that next month’s spending needs to be a little more conservative so that I’m back on track and this is where better understanding cash flow helps. If I’m going to use ethanol-free fuel during the summer months (my Dad is having a heart attack right now at the thought his daughter is spending that much on a gallon of fuel…), those months are going to be more expensive than winter months so it’s back to using cheaper fuel to make sure the year balances out.
Misconception No. 2 – Working with a budget is difficult, time-consuming, a bummer (ok, that one can be a little on the nose in the beginning but it gets better, I promise!)
Exercise No. 2 – Pick a category – just one – and build a budget for that category for the next three months. Repeat as necessary until spending within your budget becomes second nature and you are meeting all your goals. If you are looking for an easy category, start with housing since most of those sub-categories are fairly fixed (your mortgage or rent is usually fixed for a 12-month period, you can put your utilities on the “budget plan” and know exactly what you are spending, etc…). If you are looking for something that provides the most flexibility so you can identify dollars to meet a goal, head over to the “Food / Dining Out / Unscheduled Eating” category. Trust me, we ALL occasionally spend mindlessly there.
Since staying within a budget often means making difficult decisions, building and using the “No” can sometimes require a little creativity and that’s where technology can be our friend. You can build artificial walls around buckets of your income to help you reinforce the boundaries you need as you get used to mentally saying no (or saying it out loud if that’s what’s needed for kids and spouses – the cat doesn’t care about your budget, the dog, maybe, the cat definitely not). Using two checking accounts, one for your fixed expenses and one for your discretionary, is a common tool. Most paychecks can be deposited into up to six locations so use the tools at hand to help you.
This weekend, take a moment to think about whether or not you are working with a true “budget” or simply a reasonably well supported cash flow. Then, take a sip of the beverage of your choice and ask yourself if that’s really working for you. You know where I am if you need me.