Paying bills is a fact of life. We all have them, and we’re required to pay them. Otherwise, after a few months of not paying them, you’ll probably find yourself sitting in a cold, dark house with no electricity, no water, and probably not have a house/apartment to sit in much longer.
Therefore, keeping track of how much money you’re paying out versus how much money you’re bringing in is crucial. If handled poorly, you might find yourself spending more money than you’re making, resulting in an in-the-red monthly budget. On a long enough time line, if you repeatedly spend more than you make, you will eventually exhaust your cash reserves (e.g. emergency fund) and will need to seek alternative sources of funding (hitting up family for loans, living off of credit cards, etc.).
In financial lingo, this method of knowing how much you make versus how much you spend is referred to as cash flow.
So if you have ever paid an overdraft fee on a debit card, bounced a check, or couldn’t sleep at night because don’t know if you’ll have enough money left over at the end of the month to pay your bills, it’s definitely a personal finance equation you should learn ASAP.
Mathematically, the cash flow equation couldn’t be simpler:
Incoming Income = Primary Salary + Secondary Salary + Passive Income + Interest Payments + Stock/Bond Dividends. Any other sources of income should be included in this sum.
Outgoing Expenses = Mortgage/Rent + Car Payments + Insurance + Utilities + Food Expenses + Gas. Any other outgoing expenses should be included in this sum.
Obviously, you will need to spend a few minutes gathering all of your financial data, but it’s definitely worth the time investment. Once you do, list all income in one column and all expenses in a second column. Once you have everything in place, calculate the total funds for each column.
Then, simply subtract your total monthly expenses from your total monthly income.
As you can see in this example, this person would be cash flow positive since their incoming funds is greater than their outgoing expenses.
If you’re fortunate enough to be in the black (cash flow positive), then you’re going to need to put this money to work somehow, somewhere.
I would suggest you take a look at the following in descending order:
Please note, each person’s situation will vary. So if you have a big ticket item that you’re saving up for (car, medical expenses, credit card debt repayment, etc.), then you would might want to focus more on building savings and aggressively paying down debt instead of investing.
If you’re cash flow negative, you need to right the ship as quickly as possible. After all, if you’re spending more money than your making, you can only keep your head above water for so long until someone bails you out… or you sink.
I would suggest you consider the following long term fixes:
I hope that gives you some insight into where you stand. Either way, regardless of whether you’re cash flow positive or cash flow negative, chances are fairly high you’ll improve your situation by simply knowing this most basic of personal finance metrics. If you’re in the red, you’ll want to right the ship. If you’re in the black, you’ll want to cut costs and/or boost your income.
As always, if you have questions or need assistance in calculating your cash flow statement, just leave a comment or use the contact me page and we’ll get you on the right track.