When I'm working with couples, I almost always hear a comment from one party: "We need a budget.“
This usually stems from wanting to start a savings account to put money away for a large purchase, vacation, investment account, or an emergency fund.
The good news is, we generally already know how to save money—in the form of contributing to a 401(k) through our employers. We are conditioned to do this, which is great, but saving outside of a retirement fund should also become a habit just like a payroll deduction of a 401(k) contribution. Automatic, out of sight, out of mind, and before you know it, you’ve got a nice tidy amount saved.
Easier said than done, right?
Putting together a budget can certainly feel overwhelming. There are budgeting apps and so much noisy advice out there about tracking every little thing you spend. While that is a great way to get a handle on what your spending has been in the past, it does not help you identify things that are coming up in the future.
This could be at the heart of why you might feel like your savings goal is just not working like it's supposed to. Enter: Budget Forecasting.
Budget Forecasting is a way to look at income that is coming in and how expenses line up going forward. I suggest looking at it one month at a time.
This is a simple forecast showing the day of the month with the second column listing income, the third for expenses, and the fourth is a brief description of those expenses. The last column gives you some insight on what to expect the bank balance to look like throughout the month. Using a sheet like this helps you quickly see the impact of what’s happening throughout the month.
For example, let's say you get paid twice a month on the 1st and the 15th and your take-home pay is $2,790 each time. Let’s also say your spouse earns $2,670 biweekly.
The house payment is due on the first of the month and you have some other common expenses such as car payments, insurance, kids’ activities, and utilities. In this example this couple should have about $200 left over. However, this is actually not capturing all of your spending.
Many people end up using a credit card for the rest of their monthly expenses such as gas, groceries, happy hour, etc. to accumulate miles or earn points. The key point is that the bill for the credit card always comes due at the end of the month.
We can also see this client is trying to build their savings. They are adding $250 per month to a savings account. We can also see that they are short after the car insurance comes out.
When this happens, it can feel like you don’t have any money because . . . you don’t. You are basically reversing your savings, which starts a cycle of feeling like you can’t ever save anything because you’re constantly reversing the progress you’ve made.
Additionally, later in the month the numbers look great, which means this couple could get caught in a trap of spending more than they should because of this false sense of security and inflated looking numbers.
Suddenly it looks like you have a bunch of money! So, you start to make other purchasing decisions, like getting new snow tires, painting the guest room, or finally upgrading your Keurig. Or, your spouse, who is not looking at the numbers, does not think there is a problem because it looks like they have the money. And they decide to pay that $1,000 deposit for the kids’ braces.
When that credit card expense comes out, and IF it is higher than you expected, it’s really going to impact your ability to pay off the card in full. At which point you start to accumulate a balance that leads to paying higher interest rates and taking away from your goal of building up a cash savings reserve. Not to mention feeling the burden of carrying that debt around until it is paid off in full.
As you can see, Budget Forecasting is a great way to see the general trend of cash flow and the immediate impact of spending changes in the future, allowing you to identify where you can improve and adjust. It is also a great way to see how much you are able to start saving outside of a retirement account.
Cash flow and building cash reserves and investments inside and outside of your 401(k) plan is just one part of what I help clients do when we are working in a financial planning relationship. If you are interested in working on building your net worth, give me a call.