A firm grasp of your current money situation is foundational to your peace of mind and financial success. One of the best ways to take control of your finances is with a cash flow statement.
Today is the second episode of my “Back to the Basics” series, which is all about being brilliant at the basics or core principles of finance. Last time, I covered the basics of the Thrift Savings Plan, and today, I’m going to talk about something equally important: cash flow management.
Understanding and managing your cash flow is a fundamental skill that will help you avoid debt, plan for emergencies, achieve financial goals, and reduce stress. You may have heard the term “cash flow” thrown around before, but what does it really mean? And how is it different from budgeting? If you’re confused or just want to strengthen your financial foundation, this one’s for you.
In this episode, I’m covering:
- What a cash flow statement is and how it works.
- The differences between cash flow and budgeting, and why both are important.
- Practical steps to create your own cash flow statement.
- Tips for managing your cash flow effectively.
- Common pitfalls to avoid and strategies to stay on track.
What is a Cash Flow Statement?
Cash flow is the movement of money in and out of your personal finances over a period of time, usually monthly. Not to be confused with a budget, cash flow shows you the actual amounts of money you have coming in, like your income, and going out, like your expenses. With cash flow, you’re tracking real events. For example, your salary gets deposited into your bank account, which is a cash inflow, and you pay your rent or mortgage, which is a cash outflow.How is Cash Flow Different Than Budgeting
Before I go more into cash flow statements, I want to touch on the difference between cash flow and budgets. A budget is a plan you create at the beginning of a period, which is also usually monthly, to determine how you’ll spend and save your money. It’s a guide that helps you allocate your income to different categories before you actually spend it. With cash flow, you track real events as they happen, while with a budget, you plan for future events like saving and spending a certain amount. For example, when budgeting, you may plan to spend $1,000 on rent, $500 on groceries, and save $500. Some key differences between a budget and a cash flow statement are their timing, purpose, and nature. Timing Cash flow tracks money as it is received and spent in the past and present. A budget plans how money should be spent and saved in the future. Purpose Cash flow helps you see the actual financial situation, showing if you’re making more than you’re spending. Budgets help you control and plan your spending and savings to ensure you can achieve your financial goals. Nature Cash flow reflects reality. It’s a record of what actually happened with your money. A budget reflects your intentions. It’s a plan for what you want to happen. To help you visualize the differences, imagine you have a bucket of water. Cash Flow measures how much water you pour into the bucket and how much water is taken out. What’s being poured in would be your paycheck, disability, or side hustle money. What’s being taken out would be your expenses like rent, food, and your cell phone bill. If you pour more water than you take out, the water level rises, and you have positive cash flow. If you take out more water than you pour in, the water level drops, and you have negative cash flow. Your budget is like a schedule that tells you how much water you should pour in and take out daily. It helps you ensure you only take out water as you planned and save some water for future use. It’s important to understand both a budget and a cash flow statement to ensure you know where your money is going and make a plan to use it wisely.Why You Should Care About Cash Flow
Back to cash flow statements and why they should be part of your money fundamentals. Understanding and managing your cash flow helps you avoid running out of money before your next payday. It also lets you plan for future expenses and save for goals like buying a car, taking that trip to Europe, or retiring early. The goal is to maintain a positive cash flow, where you make more money than you spend. Here are some key reasons why cash flow management is important for you and your family. Meeting Financial Obligations Effective cash flow management helps a family make sure they have enough money to cover essential expenses like rent or mortgage payments, utilities, groceries, and transportation. By tracking income and expenses, a family can avoid running out of money before the next paycheck arrives. Avoiding Debt When you don’t manage your cash flow well, you might end up spending more than you earn, leading to debt. Credit card debt, loans, and other financial obligations can quickly become overwhelming. Good cash flow management helps a family live within their means and avoid accumulating debt. Planning for Emergencies Life is full of unexpected events, such as medical emergencies, car repairs, or job loss. A positive cash flow allows you to build an emergency fund, providing a financial safety net. This fund can cover unexpected expenses without disrupting the your financial stability. Achieving Financial Goals Whether saving for a vacation, buying a home, or funding a child’s education, effective cash flow management helps you allocate money toward your financial goals. You can systematically save and invest by controlling your cash flow to achieve these goals over time. Reducing Stress Financial stress can seep into every part of your life: your family, work, and relationships. Constantly worrying about money and how to cover expenses can lead to unnecessary tension and anxiety. Proper cash flow management provides peace of mind, knowing that your finances are under control and you have a plan in place. Building Wealth Managing cash flow allows you to identify opportunities to save and invest money. Over time, these savings and investments can grow, helping you and your family build wealth and secure a comfortable future. Effective cash flow management ensures that you aren’t just living paycheck to paycheck but that you’re also able to set aside money for the long-term financial health of your future self. Improving Financial Literacy Regularly tracking income and expenses helps you better understand your financial situation. This increased financial awareness or mindfulness can lead to smarter, more informed spending decisions and good lifelong financial habits.Creating a Cash Flow Statement
A cash flow statement is just like a diary. It’s a weekly or monthly record of your financial transactions and observations. Your cash flow statement helps you track your money so you can see where it’s coming from and where it’s going. The steps to create one are: 1. List Your Income Write down all sources of income. This could be your paycheck, side hustles, retirement, or disability. Or if you’re lucky enough to have a rich relative who sends you money regularly, write that down, too. 2. List Your Expenses Write down all your expenses. You don’t have to, but breaking them into categories like fixed expenses (rent, car payment) and variable expenses (groceries, entertainment) can be helpful, especially if you need to reduce expenses. 3. Calculate the Difference To calculate the difference, you subtract your total expenses from your total income. That number is a moment of truth. If it’s positive, you have free cash flow each month to put towards investments, savings, or paying down debt. If it’s negative, it’s not the end of the world. You just have some work to do to get it in the positive. Either way, calculating the difference gives you a clear picture of your cash flow. Here’s an example of what those steps would look like. Let’s say you earn $3,000 monthly from your paycheck and a little money from a side hustle. Your expenses are $2,200, which includes rent, food, and other essentials. That leaves you with $800 in positive cash flow. You can save, invest, or use this money for something fun. But let’s say your expenses were $3,300 per month. Then, you would need to reduce your spending by at least $300 because you have negative cash flow. That means you are spending more than you make and then some.Tips for Managing Your Cash Flow
You can do some things to help with your cash flow management. Here they are: Track Your Spending You need a place where you can track your spending, like an app or a notebook. Recording every dollar you spend helps you identify where you might be overspending. Create a Budget I know I talked about a budget earlier, but as a reminder, creating a budget helps you plan for the future of your money. Decide how much you’ll spend in each category and stick to it. Build an Emergency Fund Set aside some money each month into a savings account. Aim for three to six months’ worth of your expenses. This will be your safety net for when unexpected expenses pop up… cause they will. Reduce Unnecessary Expenses If you’re overspending or trying to reach a financial goal, look for ways to cut back. Maybe it’s eating out less or canceling subscriptions you don’t use. Increase Your Income Sometimes, your paycheck isn’t enough to cover your expenses or to reach your financial goals. Consider picking up a side job or other ways to earn extra money. You could also sell things you own that you don’t want or need. Or ask for a promotion or raise.Common Cash Flow Pitfalls and How to Avoid Them
Even if you have a solid plan, it’s easy to make mistakes. We all do. Here are some ways you can get off course and how to avoid them. Impulse Buying Before purchasing, ask yourself if it’s a need or a want. Wait 24 hours before buying non-essential items. Not Adjusting Your Budget Life changes, and so should your budget. Review it regularly and make adjustments as needed. Neglecting Savings Pay yourself first. Treat your savings like any other bill that needs to be paid. Ignoring Small Expenses Little things add up quickly. Be mindful of small, frequent purchases like coffee or fast food, and especially be careful of small purchases on Amazon.Recapping Cash Flow Management
Now for the wrap-up. Cash flow management is a fundamental skill that everyone can benefit from. By understanding where your money is going and making a plan, you can take control of your finances, reduce stress, and achieve your financial goals. If you want to explore cash flow and budgeting more deeply, I have some articles that I’ll link to in the show notes. I’ll also link to part one of my Back-to-Basics series. If you want a topic covered in the series, message me on X or any of the @ItsMILMO social media accounts with your idea. I’d love to hear it. Thank you to Navy Federal for providing support to the MILMO Show. You can also head over to milmo.co to get all of the resources and links from this episode, and while you’re there, be sure to sign up for the MILMO Memo newsletter to get all my updates. If you found this show helpful, please subscribe and share, please and thank you! I appreciate you listening. I’ll talk to you next week. Related episode: Budgeting and Money Management BasicsManaging Cash Flow Resources
- Back to Basics Series Part 1- Thrift Savings Plan Basics for Service Members
- How to Create the Best Budget in the Military
- How to Cancel Unwanted Subscriptions
