Before we can discuss the how's of personal finance budgeting, we need to discuss a very important preliminary step. At the core, this step is the very essence of budgeting, for the soul of budgeting is to look forward, to be agents of decision with our money, and to be proactive. So my intention in this post is to help you understand the first of two key tips that, if mastered, will create the foundation for successful personal finance budgeting.
Both of these tips revolve around two linked but distinctly separate cash flow dilemmas. I call them "The Unexpected" and "The Forgotten."
The Cash Flow Killers
"The Unexpected" includes broken furnaces, annoying cars that won't start, and a son's broken arm. These events sneak up on us because we rationalize that those kinds of things only happen to other, more careless people. Yet, if we are honest with ourselves, we know it's not a matter of if, but when Murphy's Law is going to make us its' next victim.
"The Forgotten" are large transactions—often annual expenses—that cause us to scramble on the due date to get them paid. If you've ever been guilty of robbing your savings account to pay for your anniversary or to cover income taxes, you know what I am talking about. The thing about Forgotten transactions isn't that we forget the event, after all everyone who has a kid will be reminded months in advance that a birthday is coming, it's that we forget to plan the funds for the event. And here's the most interesting thing of all: Forgotten expenses kill budgets on a more consistent basis than Unexpected expenses. Why? They are more frequent and more common, and therefore more destructive when ignored.
So what is the best way to deal with these two cash flow killers? In this case, I recommend that defense is the best offense. It's like Mr. Miyagi teaching us to parry and block by painting and sanding before we can master the secret of the crane kick.
Tip 1 – $1,000 Emergency Fund
This is our defensive strategy against The Unexpected. Without some kind of cash barrier between us and fate (for lack of a better term) we are just asking for all of our best laid plans to be foiled. I bet if you honestly look at your house and your car, you could probably list several potential issues you are crossing your fingers don't break this month. So instead of passively waiting for them to break, plan for them to break! Be defensive, be ready! There is a reason Dave Ramsey teaches and re-teaches that a $1,000 emergency fund is the first Baby Step in his system. The more I think about that, the more I recognize his wisdom and brilliance in identifying the absolute necessity of this fund.
There are two ways to fund your $1,000 backup plan. First, if you have available funds, I recommend that you allocate money today to your emergency fund. Do it right now, this instant, stop and do it before you finish reading this article! Then recognize that those funds just became sacred.
For those with available funds, this step will be more of a philosophical move than anything, but since so much depends on the right mind set, the use of the word sacred cannot be overemphasized. Those funds will only be used in emergencies. (And emergencies do not include Forgotten expenses, so the vacation fund can't come from these monies.) Do whatever you need to do to make sure the mental switch is turned on that you now have an emergency fund. Define what an emergency is to you, and don't use the money for anything else. Trust me, you will be tempted to do something else with the funds, but don't do it. Follow the adage to keep something saved for a rainy day.
What if you don't have the funds right now? In my post next week I will cover the second method for building your emergency fund, and will help you learn how to fight Forgotten expenses at the same time.
Please leave a comment if you have ever experienced the relief of having some money set aside for an emergency.