Basic Financial Documents
I was going to start some postings on basic finance documents and ratios, for a FIRE reader to use to start tracking their performance and see how they are doing over time. The key with all of these is that they are “snapshots” in time, which give you a single image. You have to rack them, over time, to see how you are doing.
Comparing yourself to others is madness (and is the heart of the “keeping up with the Joneses” spending which has caused so many issues in the current culture.
Instead, track yourself, and see yourself improving. By doing that, you can see your improvement over time. That should provide motivation enough to keep moving forward.
- Assets: Items you own. Don’t get too complicated here, because you will have to maintain it regularly. Keep it as simple as possible
- Liquid assets (cash, checking, savings, money market)
- Investments (stocks, bonds, real estate, etc.)
- Personal assets (home, cars, property, etc.) – be very realistic here. They aren’t very liquid, so difficult to generate cash from them
- Liabilities: Debts or amounts that you owe
- Short-term: pay off in next 12 months (credit card, utility bills, etc.)
- Long-term: payoff that requires more than 12 months (auto loans, mortgages, student loans, etc.)
- Net worth:
Net Worth = Assets – Liabilities
Here is a sample Net worth Statement (not mine)
|Money Market Accounts||$7,000|
|Certificates of Deposit||$6,000|
|Total financial Assets||$22,200|
|Total personal assets||$198,100|
|Retirement Plans (401K, IRA)||$90,000|
|Life Insurance Cash Values||$0|
|total short-term debt||($2,500)|
|Total Long-term debt||($94,000)|
The Net Worth is a snapshot in a period of time (I take mine on Jan 1 of each year). You should track it at regular intervals. Your Goal is to increase your net worth to achieve a desired degree of financial security, and to eventually be able Financially Independent.
Cash Flow Statement
The Balance Sheet lists values for a single point in time. Your Cash Flow statement will show activity over a period of time, like a year. It has two sections – sources of income and expenses. Sources include any activity that produces cash for you to spend. Expenses list your expenditures (mortgage/rent, food, auto loan, insurance, etc.)
It’s helpful to divide the expenses into two categories – fixed and variable. Fixed are often non-negotiable (mortgage, insurance, etc.) while variable expenses are often under your control (dining out, vacations, etc.). Note that developing the cash flow statement can be difficult for many, as tracking your expenses at first seems to be a monumental task. Start with a shorter time frame (a month, or a week) and build from there.
- Income: Includes all sources of cash
- Investment income
- Cash gifts received
- Payroll deductions (taxes, health insurance, Social Security, 401K, etc.)
- Fixed Expenses (mortgage payments, loan payments, utility bills, property taxes, etc.)
- Variable Expenses (Food, dining out, clothing, gifts, etc.)
- Cash Flow
Cash Flow = Income – Expenses
Here is a sample Cash Flow Statement (not mine)
|CASH FLOW STATEMENT|
|Sources of Cash|
|Federal Income Tax||($14,000)|
|Social Security Tax||($5,775)|
|State Income tax||($3,500)|
|Medical Insurance Premium||($2,400)|
|Total Payroll Deductions||($33,175)|
|Total Fixed Expenses||($28,400)|
|Total Variable Expenses||($15,400)|
|Total Sources of Cash||$79,100|
Again, keep your cash flow records as simple as possible. Excessively detailed records require more maintenance, increasing the chance that you will get tired of updating the information. It is better to have a simple statement that you update regularly than a complicated tracking system.
Your first cash flow statement is often the most difficult to develop. As you do more, you will find it easier because you have a starting point to go off of.
Understanding your cash income and your expenses is a critical step to taking control of your finances. From here, you can make plans, determine tradeoffs, and make educated guesses on where to add and where to cut back. This will enable you to focus your expenditures toward your financial priorities.