What is cash flow and why do you need to know about it?
People often think of their income and expenses in terms of what they receive and pay out each month, without thinking about the larger financial picture. While you may have money coming in and out each month, if you're not taking a close look at your cash flow, you could be in for a rude awakening should something unexpected happen.
In this article, we'll examine what cash flow is in relation to personal finance and why it's important to understand it.
What is cash flow?
Cash flow is simply the movement of money. There are two kinds: business cash flow, which is the movement of money in a business or company, and personal cash flow, which deals with personal finances.
What is personal cash flow?
Personal cash flow is the money that comes into your household from all sources, including salaries, commissions, allowance, dividends, and interest earnings. It also includes money that goes out of your household to cover expenses, such as transportation fees, movie tickets, food expenses, utility bills, and luxury items.
What are the types of cash flow?
There are two types of cash flow: positive and negative. Positive cash flow means a person or a business has more money coming in than going out. In business, this can happen when you make sales enough to cover your operating expenses while still having money left over. Negative cash flow is the opposite. It's when more money leaves than comes.
Having positive cash flow means you earn more money than you spend, which leads to being liquid, or having cash in reserve. For instance, in cases of emergency, you have enough cash to fund an unexpected illness in the family without having to worry about where to get the money.
It’s important to note that a positive cash flow by itself is not automatically a good thing. It can also mean that you are not utilizing your cash. For example, instead of investing it so your money grows, it just sits idly in a bank account.
What are the benefits of understanding cash flow?
Cash flow affects every aspect of your life and business. Knowing what your cash flow is will guide you in your decisions. Here are the ways understanding cash flow can benefit you:
Helps you make better financial decisions
Understanding cash flow makes you more mindful about your spending. If you’re not paying attention, it's easy to use up your hard-earned cash on things that you don't really need. But understanding where your money goes can help you make better decisions about how to spend it. You can do this by creating a personal cash flow budget. This can help you to avoid overspending and keep your finances healthy.
Helps you weather tough times
In tough economic times, it's more important than ever to understand your cash flow. That way, you can make adjustments to ensure that your money keeps coming in, even when the economy is struggling. By knowing where your money is coming from you can focus your energy on the things that make you money. Similarly, by knowing where your money is going, you can cut back on expenses and keep your cash flow positive.
Helps you plan for the future
Understanding cash flow is important if you want to get ahead financially. By tracking how much money is coming in and going out, you can make better decisions about where to invest.
For example, if you know that you have a large amount of money coming in every month that you don’t really utilize, you can opt to invest it in a long-term goal like buying a house or saving for retirement. On the other hand, if you know that your income isn’t consistent, you might want to put more money into savings so that you have a cushion in case of lean months. By understanding your personal cash flow, you can make smarter decisions about your finances and build a solid foundation for your future.
How do I determine my cash flow?
A good way to keep track of your cash flow is to use a personal cash flow statement. This is a document that shows how much money is coming in and going out of your house over a period of time. You can use a cash flow statement to track your progress and make sure that you're generating more positive cash flow than negative.
What do I need to create a personal cash flow statement?
In order to create a personal cash flow statement, you’ll need a complete list of all your income sources regardless of the type of income, as well as all your expenses. You can find this information by looking at your bank statements, credit card statements, and other financial records. Once you have this information, subtract your total expenses from your total income. This will give you your net cash flow for the period.
In summary
If your net cash flow is positive, that means you have extra money that you can use to save or invest. If your net cash flow is negative, that means you have more money going out than coming in. This is not a sustainable situation, and you’ll need to find ways to reduce your expenses or increase your income. You may want to look into increasing your sources of income or experiment with different budgeting methods such as the 50-30-20 budget plan.
Knowing how much money you have isn’t enough to give you a good financial picture. You need to keep track of your personal cash flow as well. Managing your personal cash flow is key to staying out of debt and achieving financial stability. You need to track where every peso goes and make a budget based on this information to guide you towards living within your means. For more tips and advice on handling your money better, Metrobank has a collection of Money Basics resources available to help you get your finances in order. Start making better financial decisions by tracking your cash flow!
