Budgeting Money and Debt: Inflow vs. Outflow

A key concept in managing your finances is inflow vs. outflow. Essentially inflow is all the money you receive or generate while outflow is all the money you spend. There is nothing subjective about these terms. Each should have a concrete and tangible number attached to it and you should know what that number is on a monthly basis and a yearly basis at the very least. The difference between the two is the amount of debt you are incurring or the amount of savings you are generating.

Take the time to calculate what these two numbers are for your financial situation. However, be aware that most people tend to overestimate, underestimate or somehow leave off entire expenses when doing this exercise. If you use faulty input you will get faulty output. Therefore, you need to be thorough when reviewing your expenses and income and take into consideration the things that often go unnoticed such as taxes, vacation money, educational needs and medical expenses. If you use a program like Quicken or Microsoft Money then you will be one step ahead of the game and should already have these numbers available without calculating them yourself.

If you want to make it a bit easier you might want to use the figures for a previous year as an estimate. This should be roughly the same. However, be sure and include any changes that you are certain about so that you get a more accurate calculation. For income be sure and include any tax refunds you may receive or any benefits that you never physically receive such as 401K investments or other types of retirement plans.

Some people also like to include such things as the increase or decrease in value of tangible assets such as a house or vacation property. This can be included but keep in mind that the liquidity of physical property is always negligible. The valuation of physical property is always a bit hazy due to the fact that the market constantly changes in most of these types of assets. Common physical assets that are often discussed as investments range from precious metals and houses all the way to baseball card collections.

Finally calculate the difference between these two numbers and see whether you are accumulating money or debt. What you are doing is taking the net income from all sources (including appreciation in value) and subtracting it from net outflow (including net depreciation). This is probably the most important number in regards to your financial portfolio.

If you are accumulating money and have excess left over then this is the amount that you should be investing. Ideally that money should be allocated to retirement savings first since that is the greatest expense most people will face in the future. If you have children then college savings would take precedence over that and you would want to save for that expense first as an alternative. If you have both of these needs taken care of then invest the remaining money so that it will begin to work for you rather than just accumulate at a nominal bank savings rate.

If on the other hand you have a negative number left over then you need to be aware that you are accumulating debt on a regular basis. This calls for emergency management. You need to immediately establish a budget you can live with and then begin following it as closely as possible. If you do not then you will continue to accumulate debt and in the end may wind up in bankruptcy court. This is not a good situation.

See earlier lessons for tips in establishing your budget.

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