In Part One of our series, we walked through an exercise to get you thinking about how much you spend. By comparing your take-home pay to your spending, you arrive at your savings. This savings could be measured by a combination of:
- How much did your cash balances grow (checking and savings accounts)?
- How much did you deposit to your investment (brokerage) accounts?
- Did you pay off a debt with excess cash (or make extra debt payments)?
Any of these could count as savings. Of course, contributions to your 401k are savings; but in this exercise, we were thinking about spending/saving from your cash flow (based on take-home pay after your 401k).
After doing this exercise, some clients realize: I didn’t save enough/much/anything outside of my 401k. What that means is that they are spending a high percentage (or all) of their take-home pay. This can be an uncomfortable realization.
When clients realize they are spending more than they intend to, a common reaction is “last year was a ‘weird year’ thus, I was unable to save.”
“Weird years” seem to be the norm – and, that’s important to consider when thinking about planning your cash flow. This year, you might have to replace an air-conditioning unit at your home. Next year, you might be due for a car replacement. The following year might be your 20th anniversary that merits a special trip. Tuition payments, home renovations, medical bills, and other unexpected expenses seem more persistent than our “mental budget” might reflect.
It’s interesting – after helping clients plan and review cash flows for many years, we see a great degree of consistency from year-to-year in terms of how much a particular client spends. In other words, if “Client A” spent $120,000 last year then there’s a high likelihood that same client will spend around $120,000 this year. As outlined above, exactly what the client spends the money on (car, tuition, AC, etc.) changes from year to year but, we find that total spending tends to be pretty consistent.
Of course, ‘weird years’ really do exist. We all run into emergencies, unexpected expenses and things that even the best planning might not could have accounted for. Yet, we challenge clients when they too quickly attribute a lack of savings to it being ‘a weird year.’ Instead, we try to help them think through how much is consistently being spent and saved on an annual basis.
In our next and final installment in this series we will discuss two different approaches to the dreaded word…. “Budgeting.”