During the economic downturn in 2008, one of my longtime clients reached out to me to schedule an emergency financial review meeting. His employer just announced all employees would be taking a temporary 10% pay cut so they didn’t have to lay anyone off. My client was concerned and wanted a plan on how he was going to make it through.
We updated his Balance Sheet and then looked at their cash flow. Since they were saving 20% of their gross income, I recommended they temporarily dial back one of their cash flows into long-term wealth building so they could pay their bills and not miss a beat.
“Wait, that’s it?” he asked.
“That’s it. The 20% wealth building cash flow can double as slack in your budget during times like these. In addition, you’ve got 3-6 months of cash reserves for emergencies as a backstop.” I replied.
“While the 10% cut in pay is certainly less than ideal, you aren’t in danger of having to make any big changes to your lifestyle. Let’s meet again in six-months to see how things are going and to see if you are in a position to allocate money back towards wealth building.”
The stress he and his wife carried into the room had dissipated and it was replaced with enthusiasm.
“Maybe we can figure out how to shift some things around such that we don’t have to cut savings by half. Maybe we can cut savings by less”, his wife said.
Through their creativity and sacrifice, the client ended up only dialing their savings back by 5% and found ways to make up the other 5%. They felt empowered and were happy that they didn’t feel stressed due to money.
About 18-months later when the economy improved, salaries went back to normal and they were able to save 20% again. As an unexpected added bonus, the additional slack they uncovered went to fund a household project they were putting off.
It started with a budget.
I’ve written about traditional budgets before and I’m not a big fan of them. Traditional budgets tend to require a lot of detail work and tracking. They can be helpful for diagnosing a cash flow problem, but can be challenging to use for day-to-day management.
For many clients, what I have found works well is to keep the cash flow discussion at a high level.
Consider these three cash flow categories:
-> 20% for Wealth Building (specifically retirement)
-> 35% for Taxes* (this may vary, depending on your income)
-> 45% for Lifestyle Expenses
Using the above percentages, I want to help the client get budgeting down to ONE NUMBER. This is how I do it.
Multiply gross household income by the Lifestyle Expense target of 45% and then divide the result by 12 to get it down to a monthly number. Then, further simplify by subtracting your largest monthly expense (usually housing: mortgage(s) or rent).
Once you subtract your monthly housing expense you will be left with ONE NUMBER.
Work towards living life inside of that One Number. That one number is intended to cover everything else: food, clothing, vacations, utilities, cars, etc.
The 20% to Wealth Building is the goal you’re working towards and the One Number is what you manage to each month.
“Well John, I can’t pay all my bills with that One Number. Now what?”
If above the math doesn’t work for you, then make a family game out of it. “In the next 36 months, we’ll get to a place where we can pay all our bills on the ONE NUMBER.”
There are only two knobs that you can turn. You can decrease spending or you can increase income. There are likely things you can cut, but the real long-term answer is to grow your income. Keep all other percentages and variables constant. Don’t increase your spending. Increase your income and make that the long-term solution.
You can either continue down the path of least resistance, the path you have already been traveling, or you can choose the road less traveled. The path of least resistance will probably result in getting the same outcomes you’ve always received and the stress that can often accompany it.
But, if you want something different to happen, if you want to change the direction of your long-term finances you’re going to have to do something different. Make a new choice, and pursue a new outcome.
Click HERE to send us a note to request a FREE TOOL that will allow you to create your own One Number Budget.
Click HERE to schedule a no-cost, no obligation consultation to review your cash flow and to see what might be possible using the One Number Budget.
Thank you for reading.