The IRS-imposed limits on tax-deferred retirement plan contributions may not be enough to enable you to reach your retirement
savings needs, and additional savings may be required to enable you to support your desired lifestyle. A comprehensive financial
plan is essential to attaining this goal, and cash flow planning and analysis are key to making such a plan work.
Julia F. Connell
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People sometimes confuse cash flow analysis with budgeting. Although they often have the same ends—achieving a particular
financial goal—they are not the same thing. Budget implies keeping various spending categories within pre-specified levels,
whereas cash flow analysis is a detailed delineation of household expenditures and income, usually done on a monthly basis.
CASH INFLOWS AND OUTFLOWS
Categories and sources of cash inflows might include salary, bonuses, investment income, self-employment income, royalties,
and child support. Knowing the various categories, and how much comes from each, can help you plan for a change in financial
circumstance. Such information also is useful in tax planning. For example, there may be years when it would be better from a tax standpoint
to defer a bonus into the following year.
Similarly, it is essential to identify categories of cash outflows. These categories might include debt service, living expenses,
itemized deductions, insurance expenses, retirement contributions, savings/investments, taxes, etc., as well as the detailed
expenses within each category.
DISTINGUISHING BETWEEN OUTFLOW AND EXPENSES
Identifying outflows in this manner helps distinguish between household expenses and outflows. Taxes, retirement contributions,
and savings/investments are considered cash outflows rather than household expenses.
A cash flow analysis, in short, separates household expenses from other outflows. Performing this kind of anlysis is helpful
to the process of planning discretionary spending and forecasting retirement spending needs.
In the absence of a concrete financial plan, the excess cash inflows that are not needed to support necessary expenses—mortgage,
utilities, food, insurance premiums, taxes, etc.—can be spent on vacations, recreation, clothes, and luxury items. On the
other hand, implementing a comprehensive financial plan quantifies long-term goals so that you can determine the levels of
savings required to support such goals, including and, most commonly, college savings and retirement savings.
IDENTIFYING SAVINGS REQUIREMENTS
The financial planning process helps identify the annual savings requirements for each goal, and a thorough cash flow analysis
will identify the availability of sufficient cash surpluses to support these savings requirements so that you have adequate
funds available to reach these milestones.
Families often believe that they don't have enough money left over at the end of the day to contribute to college or retirement
savings accounts. A detailed cash flow analysis will help you find areas where you might reallocate spending to reach these
and other long-term goals.
AVOID COMPROMISING FUTURE GOALS
Further, you can covert any cash that might be available beyond what you need to support long-term goals to discretionary
spending items that can enhance your current lifestyle, knowing that in doing so you aren't compromising future goals.
If you are able to identify and quantify your lifestyle goals, then you can allocate the cash resources toward them so that,
if properly managed over time, you attain your goals—and peace of mind.
The author is chief financial officer and senior wealth advisor with Hoxton Financial in Winchester, Virginia. The ideas expressed
in this column are hers alone and do not represent the views of Medical Economics. If you have a comment or a topic you would like to see covered here, please email medec@advanstar.com
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