If your income bounces up and down from month to month, you need a plan to manage cash flow.
For any worker, getting rich is a lofty goal. For someone with a fluctuating income, such as a salesperson on commission or a seasonal employee, it’s considerably more difficult. In fact, just paying the bills can be quite a challenge when your income varies widely from month to month.
What is cash flow?
Even if your annual income is quite high, you may find that some months you just don’t have enough money in the bank to cover basic expenses (let alone have some fun). That’s not an income problem, that’s a cash flow problem. Cash flow refers to how money flows into and out of your possession over time. Businesses use a special report, imaginatively called a “cash flow report,” to track their cash flow and identify any issues. You can do something similar just by creating a monthly household budget.
But I hate budgeting!
Yes, creating a budget is a hassle and keeping it up-to-date is an even bigger hassle. However, if you suffer from unreliable income, a budget is the single most helpful tool you can use to resolve your cash flow issues. A simple budget consists of a list of your basic monthly income and expenses. You can list just the expenses that show up every month, like utilities and loan payments; however, spending at least a few weeks tracking every single penny you spend can be a real eye-opener. Once you’ve got at least three months’ worth of budgets written up, the real fun can begin.
Smoothing out the cash flow bumps
If you’ve got at least a three month sample to work with, you can get a pretty good idea of what your basic monthly expenditures are and therefore how much income you need each month to cover the bare minimum. Engrave this number into your mind, because it’s the key to getting rid of those desperately broke months. From this day forward, for any month during which you make more money than that minimum monthly expense number plus a small extra amount for discretionary expenses, you’ll put all the extra money in a special savings account. That account is your cash flow management account, and you’ll tap into it during the months when your income is less than your basic expenses.
How it works
Let’s say that you do a few months of budgeting and discover that your basic monthly expenses add up to $4,000 per month. Your annual income of $80,000 per year is more than enough to cover this monthly minimum, but because your income is erratic you often have short months. So take that $4,000 minimum and add a little extra for unexpected expenses and the occasional fun purchase — we’ll make this bonus amount 10% of the monthly minimum, or $400, since your annual income is generous enough to easily allow it. In total, $4,400 is the amount that you’ll budget each month for expenses. If during the next month you bring in $6,000 in income, immediately take $1,600 of that and stick it in the cash flow savings account. That way, if you only make $3,800 in the next month, you can take the extra $600 you need out of the savings account.
Over time, your cash flow management account will likely grow in size — especially since having that cash available will help you keep your debt to a minimum and thereby avoid high interest payments. Once you have six months’ to a year worth of basic expenses saved in your cash flow account, consider moving the excess to other types of accounts that will bring you higher returns. The first priority would be a retirement savings account, such as an IRA or 401(k). If you max out your contribution limit to these accounts, a standard brokerage account would be another option. Stocks, while volatile, produce a superb long-term return. As a result, your money can make you even more money while it sits in these accounts. Before you know it, you’ll be rich beyond your wildest dreams.