By Ben Thorson
As the ground layer of the financial planning pyramid, cash management is the foundation of your financial plan. If you can’t manage what comes in and out every month, then your financial plan won’t have the stability required to be able to focus on the other layers of the pyramid.
For those in “accumulation mode” (meaning you are adding to your investment portfolio), our team creates a cash flow summary as part of our annual review. This document serves two purposes:
1. Identify an individual’s (or family’s) current capacity to save.
A savings rate is every dollar added to the portfolio divided by total gross (pre-tax) income. When benchmarking our high accumulator clients (relationships with annual income of over $235,000) under the age of 50, their average savings rate is 22.0%. Our team has discovered through this exercise that a savings rate of over 20% aligns nicely with reaching financial independence in your 50s – and being able to replicate income needed to maintain your lifestyle when you are no longer working.
2. Identify the amount of income (from the portfolio) to be replicated when you are no longer working.
In this annual cash flow review, our team starts with your total income and backs out all behaviors that do not need to be replicated in retirement, including:
- Additions to the investment portfolio—in retirement, you will no longer be saving dollars; instead, you’ll be spending dollars—that’s the reason we save, right?
- Federal, state, and payroll taxes—our team understands that you don’t have access to all the dollars you earn. We take out taxes since these dollars are not being used to maintain your lifestyle, and our planning work automatically factors in the taxes you will still pay during retirement.
- Any additional expenses such as debt, one-offs (home projects, vehicle purchases, etc.), or child(ren) expenses—our team associates financial independence with being debt free and having the children self-sustained.
Backing out these behaviors allows our team to identify the basic living expense spending number that will need to be replicated in retirement. Our team isn’t concerned with whether this number is $3,000 or $20,000 per month—we track behavior to answer the question: “Am I on track?”
It is your job as the CEO of your financial plan to lay out the vision and goals, while our team serves as your CFO to help you chart the course to reach those goals financially—managing your monthly cash flow is the best way to get started!