Cash-flow planning goes beyond budgeting, providing more in-depth answers about how and why people spend.Tatiana_Stulbo/iStockPhoto / Getty Images
Many advisors and financial planners prepare budget sheets to keep clients on track with their finances, but even these plans can still result in a shortfall sometimes.
That’s because some clients tend to guesstimate their discretionary spending on the budget sheet, an amount that often turns out to be much lower than the reality.
“They may know the amount of their mortgage but not their groceries, because there’s too many transactions,” says Stephanie Holmes-Winton, founder and chief executive officer of CacheFlo Inc. in Dartmouth, N.S.
She says cash-flow planning goes beyond budgeting, providing more in-depth answers about how and why people spend, and creating an action plan to address those issues.
“Budgeting tends to be about what you’re going to cut, and it tends to be a lot of categories to manage,” she says. “Cash-flow planning is an entirely behavioural-based approach.”
The bucket list
Her cash-flow planning approach separates expenses into three distinct buckets.
“Committed expenses” include the fixed bills that don’t change in a given month, such as a client’s mortgage or rent, car payments, child care and utilities.
“These are non-emotional, most are fixed or predictable expenses,” she explains.
“Spendables” is the next bucket. Ms. Holmes-Winton advises clients to set up a separate, no-fee account for this purpose.
The spendable account goes toward a combination of “need and want” items, she says, from groceries to children’s extracurriculars. The cost is more likely to vary each month, which is why these items are not in the committed category.
Jacky Ip, founder and financial planner at InGauged Financial in Vancouver, calls these expenses “emotional purchases” – the things that bring clients the most joy.
“That’s the area where clients overspend when they don’t have a system to manage it,” he says.
Rather than chastising clients about their discretionary purchases, Mr. Ip works with clients to establish an amount they can spend safely each week while still meeting their other financial goals.
“It’s a system that will encourage and remind them in the moment not to overspend,” he says.
Generally, he allocates 20 to 25 per cent of a client’s take-home income toward spendables. A predetermined amount is transferred automatically into this separate account each week.
He finds clients are more likely to stay on budget if they work within shorter parameters. For this account, Mr. Ip says the rules are simple: if there’s money in the account, they can purchase; if not, no spending.
“The goal is not to spend every dollar, every week because there’s always someone’s birthday, anniversary, winter break, spring break, summer break that are just around the corner,” he says.
One caveat with spendable accounts: Ms. Holmes-Winton advises clients to use a debit card, not a credit card.
“They’re also encouraged to set up a separate spendable bank account that doesn’t have overdraft,” she says.
She knows this limitation can be a sticking point for some clients who value travel perks and cash-back offered with many credit cards. But she points to a Credit Counselling Society study that found the average person with a loyalty points credit card spends 15 per cent more on their purchases.
As a way to bridge the gap, she advises clients to run their committed purchases through their loyalty points credit card. “They can also arrange to have their credit card pay itself off automatically,” she says.
Once spending is targeted in the spendable and committed categories, whatever is left goes in the third bucket, for goals or “money found,” Ms. Holmes-Winton says.
That’s money for short- or long-term goals such as retirement, purchasing a car, or a house down payment.
Ms. Holmes-Winton has found that using the bucket system creates more funds to put into the goals category, as clients have more of a handle on how they’re spending.
“An account structure makes it easier for them to stick to the plan,” she says.