If you’re a personal finance nerd like I am, you shouldn’t worry about your spending, but odds are you do. But how can this be? Aren’t you supposed to be more on top of finances than most? Isn’t this ‘your thing?’
Don’t worry, it’s not your fault.
The anxiety you’re feeling comes from a lack of quality information.
Most budget software can display your spending information in a number of different ways, but even after poring through all the reporting, you still find yourself asking “What does this actually mean?”
To illustrate, consider a typical American family that just experienced a minor fender bender two months ago.
They pull a spending report from their budget software for last month and immediately see a scary picture: a super negative cash flow amount.
Now, they’re not completely surprised by this grim picture. They knew that their spending last month was going to be irregular because of all the atypical spending associated with the accident.
The problem is that they can’t easily distinguish between spending related to their lifestyle and savings goals and spending related to the accident.
Interpretation
Your ability to interpret and react to your finances depends on how well you describe them.
This is where budget apps fall short. While they offer multiple ways to slice and dice your spending, they don’t have a way to directly isolate and highlight worrisome spending.
That’s where the Standard Budget Category Groups come in. They were specifically designed for this task.
By organizing your budget with these groups, not only will you be able to completely describe your spending activity, but perhaps more importantly, you’ll know how to feel about it.
As a reminder, these are the standard budget category groups:
Everyday Spending: common monthly and weekly expenses
Debts: debt payments
Scheduled Expenses: future expenses you save for in advance
Rainy day Funds: potential expenses you pay for now
Aspirational Spending: optional expenses you’re excited to make
Emergency Reserves: savings you only access after a loss of income
The first three groups are an accurate measure of how much your life costs for the month in which they occurred. I like to think of these as your “Lifestyle groups.”
The Rainy Day and Aspirational groups by contrast are time-shifted. They hold budget categories that act like mini savings accounts that you allocate a portion of your income to each month.
Once you move money into these categories, you part with it. That money is no longer yours. It’s destined for the bank account of some person or company that is yet to be determined, and you’re just holding onto it until you find out who.
Unlike the Lifestyle groups, money spent from the Rainy Day or Aspirational groups is not representative of how you lived life during a particular month.
In the case of Rainy Day funds, you’re finally ‘settling up’ with bills you knew would eventually come. With Aspirational Spending, you’re finally ‘cashing in’ on the investment you’ve been building for months.
You should feel good about the spending tied to these groups.
Your friend, the Cash Flow Profile
Let’s revisit our typical family now. Here’s the same cash flow chart from before, but this time broken out into the Standard Budget Category Groups. I call this view of monthly spending the family’s Cash Flow Profile.
Right away we can easily see that the majority of spending came from Rainy Day funds. 60% in fact. How’s that for reducing anxiety!
Not only does the family instantly know that $14k of their spending was totally fine, but they should be patting themselves on the back for being ready for the storm when it came.
By comparing the Lifestyle categories (Everyday, Debts, and Scheduled) to their historical averages (a task that budgeting apps are great for), the family would quickly see that spending levels here were slightly elevated, but nothing to be too concerned about.
This month had a lot of noise in it, but nothing to lose sleep over. The Cash Flow Profile made it clear that despite the big expense, they’re still maintaining an even keel.
4 Steps to harnessing the Cash Flow Profile
Reviewing your Cash Flow Profile is easy once you set up the Standard Budget Category Groups:
Start (or re-start) using a budget - I love and use YNAB
Organize your budget categories into the Standard Budget Category Groups
Use your budgeting software to review last month’s spending with these groups
Take note of how much spending ‘belongs’ to last month (ie Lifestyle) and how much was time shifted (ie Rainy Day & Aspirational)
Celebrate any responsible spending and revisit whether you need to start saving again.
The car replacement example was based on an event that happened in my real life. A completely unremarkable and routine trip to the grocery store resulted in a total distortion of my financial picture.
Luckily no one was hurt, and thanks to the Cash Flow Profile my wife and I didn’t have to worry about the financial implications. We had funded our auto insurance deductible (Rainy Day expense) the year before and insurance took care of the rest.
Getting to this point took years of making mistakes, getting caught off guard, and ultimately worrying about the wrong things.
The Standard Budget Category Groups and Cash Flow Profile are what came from all that lived experience. Start using them today and start sleeping better at night.
Thank you for explaining this Jon. I normally don't understand (or get bored by) talk about personal finances, and I'm most definitely not a personal finance nerd, but after reading this essay, I'm thinking of becoming one!