Define a Cash Budget
- Your cash budgeting plan should begin with goal setting. Common financial goals include saving money for a first-time home purchase, four-year tuition bill and a comfortable retirement. List out your financial goals according to total costs and time frame. Perhaps you wish to save $25,000 for a mortgage down payment within the next two years. Be advised that your financial goals may never materialize without a thorough cash budget.
- Review your recent pay stubs and banking statements to calculate your free monthly cash flow. Cash flow is the amount of money that is left over each month after paying your bills and expenses. With a free cash flow figure, you can pull up an online financial calculator to determine whether your financial goals are realistic. The financial calculator helps you to toggle through free cash flow amounts, expected returns and the time frame required to build a lump sum of cash in the future. At this point, you may discover that your financial goals are not realistic. To improve your free cash flow, you must reduce your standard of living and differentiate between committed and discretionary expenses.
- Committed expenses are necessary for survival. You may first categorize your committed expenses into housing costs. Housing costs often include rent or mortgage payments alongside electricity, heating, water and repair expenses. In addition to housing costs, other committed expenses could be categorized as transportation to and from work, groceries and your telephone bill. Minimum payments on credit cards, student loans and car notes may also be described as committed expenses. Missed debt payments can result in loan default, repossession and bankruptcy.
- Discretionary expenses are associated with consumer items. Consumer expenses rarely add value to your bottom line and are not necessary living expenses. Designer clothes, fine dining, cable television and vacation packages are examples of discretionary items that can be cut from your budget in order to immediately improve free cash flow.
- As part of your budget, it is important for you to make aggressive payments on your credit card debt, which will translate into future cost savings on interest expenses. From there, you can work to build six months worth of committed expenses in cash reserves, while also taking out insurance policies on your health and life. Cash reserves and insurance make up the foundation of your investment plan, because they provide funds for day-to-day expenses and relief amid emergency situations. Lastly, you can put money into a diversified portfolio of stocks and bonds to build wealth over the long term.
