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You may not be surprised to learn that financial stress is the second leading cause of relationship stress in the United States. That’s why it is increasingly important for each of us to understand our family financial roles. Accepting responsibility for these roles and recognizing our unique contributions to overall family financial satisfaction is what cash flow analysis is all about.
Unfortunately for their families’ financial stress level, many attorneys base their cash flow analysis on how much they earn. By emphasizing the breadwinner role, they neglect the others. In time, this oversight can disrupt the family and even lead to divorce. In my experience as a fee-only financial planner, this mistake is the single most correctable one.
Apply The Business Model To Family Life
Think of your family as you do your business. In corporate finance and most law firms, the business cash flow is monitored by two very different departments.
• Accounts receivable focuses on business income from all sources. Its goal is to gather as much income from as many sources as fast as possible each month. Most of this income is then sent to accounts payable.
• Accounts payable pays all of the bills and invoices received by the company. While focused on revenue collection and prompt payment, the accounts payable department also stresses accuracy and keeping as much of the money it receives as long as possible. Any money left over at the end of the month is transferred to the business treasurer/chief financial officer who then uses it to further the long-term goals of the business.
These roles need to be filled in family life as well. Just keep in mind that these roles are not static as they are in your business, but can and will shift back and forth during what I call the family financial life cycle.
More Than One Of You Can Serve As The Accounts Receivable Department
The person who fills the role of family accounts receivable has two jobs:
• To generate income for the family. One or more people in the family may play this role at the same time. Most of our attorney clients serve as the “main breadwinner” in this category.
• To track the gross income from all sources, both active (earned income) and passive sources (investment and rental income).
It’s Best To Choose One Person To Serve As The Accounts Payable Department
The person who fills the role of family accounts payable has a huge impact on a family’s financial health and plays a key role in implementing long-term investing goals. There are three components to this role:
• Making Payments
Paying all of the bills and invoices received by the family in a timely manner so as to preserve the family’s credit worthiness. Managed effectively, this role can save the family thousands of dollars over many years in several ways. Families with high credit ratings, for example, can borrow money at lower interest rates.
• Making Monthly Spending Decisions
Carefully evaluating and then cost-effectively executing spending decisions for basic monthly expenses. The person assuming this role maintains a balance between current spending and long-term savings goals.
• Tracking Expenses and Taxes
Tracking all of the monthly, quarterly, and annual expenses by itemized category so that they can be compared to spending goals. Families often underestimate the importance of this role, but keeping good, consistent records can save thousands of dollars in taxes. Remember: You can’t deduct a tax deductible expense if you don’t remember paying it.
(We most often recommend Intuit’s Quicken software for our attorney clients because it’s easy to use, and contains both reporting features and built-in tax categories.)
Each Family Needs Two Family Treasurers
In family finance, both partners need to fulfill the strategic role of family treasurer so that they can collaborate on developing a family spending plan together. This plan addresses the larger financial picture and takes into account both cash flow and expenditures. By developing the plan together, both partners see that their respective needs will be met as resources allow, which allows them to stay focused on their family’s financial goals. They also share accountability and responsibility for its implementation and neither feels a need to sabotage it.
The person responsible for family accounts payable tracks the spending plan.
Create An Annual Family Spending Plan
When it comes to spending money, we take either an active or a passive approach. Creating a budget involves actively deciding on our expenditures. However, the term “budget” has acquired such negative, austere connotations that it has all but lost its usefulness as a financial planning tool. I prefer to call it a “spending plan,” which I define as a proactive “map” indicating how we want to spend money so that all of our financial goals, both short and longer-term, are met.
An annual spending plan is broken down by month. Each month’s report includes three parts:
1. Income (current monthly income such as salary, as well as annual income such as bonuses).
2. Current monthly expenses.
3. Monthly savings goals to fund short, intermediate, and long-term capital needs, each of which will be defined below.
Determine Your Short Term Capital Needs (12 Months)
This refers to a family’s cash needs over a 12-month period that are not monthly or quarterly. I’m referring to non-linear expenses such as annual payments due on loans, college tuition expenses, major decorating projects, home improvement/repairs, and upcoming vacation costs. Partners need to total these expenses and agree on a plan to pay them down each month. Some attorneys use bonus monies for these capital expenses; however, bonuses are variable and relying on them for capital expenses can create an unstable spending plan.
Determine Your Intermediate Term Capital Needs By Distinguishing What You Need From What You Want (12-60 Months)
Expenses in this category often include down payments—for new vehicles; country club memberships; second (or third) homes; children’s first homes; investment property; future college education costs (for children or a spouse returning to college); capital to start a side business; and healthcare costs for aging parents, to name a few.
It’s sometimes helpful to divide this category into “absolute” and “aspirational” needs. We’ve found that the more specific people are about what they need, and the more precisely they can put price-tags on these items, the better they are able to determine their priorities, control their spending, and save for the future. Given enough planning, most families can achieve their realistic goals.
Determine Your Long-Term Capital Needs (5+ Years)
For most attorneys, retirement planning is the primary long-term capital need. Because it’s the most distant, it requires the most advanced planning. It’s also the area that is often the least understood.
A partner in a major national law firm recently told me, “Rob, I have not balanced my checkbook in 2 years and I have no idea how much, or if, I am saving enough for retirement.” Most attorneys are surprised to learn how much money they will need to save in order to retire with even 75% of the standard of living to which they are accustomed. A very rough rule of thumb is that you will need 20-25 times the amount of gross income (before tax) that you want to spend when you’re retired. That means for each $100,000 in retirement income, you will need $2,000,000-$2,500,000 in investment assets. Given a high enough savings rate and enough time, you can achieve this goal. (We will discuss investment savings in a future article.)
The Goal Is To Gain Control Of Your Finances
The ability of families to determine roles and follow through on implementing responsibilities is key to emotionally healthy relationships that are financially stable. After conducting literally thousands of cash flow meetings, I have found that those who stop at simply understanding financial roles miss the power that can be achieved through implementing a plan. Implementing a comprehensive family financial spending plan enables each of us to gain power over our money and changes the family financial dynamic for the better.
