Cash Flow and Budgeting

Cash Flow

Cash flow reflects all money coming in (inflows) and all money going out (outflows) over a period of time. This is often presented in a Cash Flow Statement. Income and expenses occur over different time spans such as weekly, biweekly, semimonthly, monthly, quarterly, semiannually, or annually, so the choice of time period to examine has an impact on which inflows and outflows are captured. An annual time period will give the most complete picture while a monthly time period will be the easiest to put together. A good compromise is to look at 3 months of cash flows.

Having a proper understanding of your cash flows is an essential part of financial planning. It is especially difficult to make an effective financial plan if spending and expenses are not accounted for accurately. Making a Cash Flow Statement and breaking down the outflows into categories also gives clarity about where money is being spent which allows your spending to be brought into line with what you actually value. Also, any difference between inflows and outflows should be seen as a net change in the value of the cash accounts or else something is missing.

Inflows

Inflows represent all money coming in. This includes income such as wages, business income, rental income, dividends, interest, sales of property, government benefits, and pensions. This also includes other cash inflows such as gifts, inheritances, rebates, allowances, prizes, and borrowing. An inflow includes money received that is immediately spent, such as a credit card purchase, and income that is immediately used to purchase non-cash assets, such as a 401(k) contribution.

Outflows

Outflows represent all money going out. Usually this is broken down into easily recognizable categories on a Cash Flow Statement such as rent, loan payments, utilities, taxes, insurance, clothing, groceries, gas, dining out, in addition to more general catch-all categories such as housing, transportation, food, entertainment, travel, gifts given, or simply "miscellaneous". This also includes the purchase of personal use assets, such as a home or car, or investment assets, such as retirement account contributions.

Budgeting

Budgeting is the act of aligning your spending with your goals and values. Some people have a good feel for what they are spending and are able to make adjustments without much tracking. Most people require more active management of their expenses to make meaningful changes. A small number need immediate support at the time of spending.

Collecting transaction results at the end of the month to get a retrospective report on spending with a promise to do better next month does little to change spending behavior. The longer the period of time between spending and budget feedback, the less effect it has on meeting the budget goals going forward. An app such as Monarch Money allows for real-time tracking of expenses.

For the people who need support to avoid unwanted spending, a zero-based budgeting app such as YNAB is useful. With zero-based budgeting, every dollar you have is preassigned to an expense category. When you are about to spend money, you need to debit the money in the expense category to make the purchase. If there is not enough money remaining in that expense category, you need to either choose to transfer money from another category or limit the purchase to the remaining money. This allows for your values to guide your spending decisions while staying on budget.