You Can Pay For It, But Can You Afford It?
Chip Brackley | September 29 2020
“We were always focused on our profit and loss statement. But cash flow was not a regularly discussed topic. It was as if we were driving along, watching only the speedometer, when in fact we were running out of gas.” – Michael Dell
Some people say cash is king but we say cash FLOW is king. In the quote above, tech titan Michael Dell is telling us that not keeping an eye on cash flow nearly sunk his ship. So, what can we learn from this?
From a personal finance standpoint, we can get stuck in the same trap. We tend to focus on our monthly and annual account balances (speedometer) giving little thought to our cash flow decisions (amount of gas). Seeing account balances go up gives us confidence but can lead to a false sense of how well off we are. We believe your cash flow decisions will play a far bigger role in determining your financial success than almost anything else. One of the main reasons for this is, you can control cash flow a lot better than you can control the markets and the economy which moves our account balances.
Let’s look at an example. A lake house for instance, but it can really be anything… beach house, airplane, expensive car and the list goes on.
So, you decide to buy the lake house and you look at the all-in costs at being
$4,000 per month. Based on your cash flow and income you will have no trouble paying the mortgage and extra expense, but can you “afford” it? That depends more on what you are trying to accomplish than whether you can pay for it.
If your goal is to buy a lake house than go for it! If your goal is to reach financial freedom at 58 then you may want to reconsider. There are no
independent financial decisions. That $4,000 going into the lake house is going to set you back somewhere else in your financial life. Is it worth the trade-off? Can you REALLY afford it?
DO YOU HAVE ENOUGH LIQUIDITY?
Here’s another key cash flow concept to keep in mind. You need to be liquid to own illiquid assets.
If you are going to own a lake house, a beach house, rental property, you better have enough liquidity to cover all the costs when things get tough. There are always costs that come with owning “stuff” … property taxes, upkeep, new roof and the list goes on. If you lose your job, or if the economy goes into a recession and the music stops… You need to be in a position to keep up with those costs because they don’t stop. In tough times, when you don’t want to own that property anymore… it’s likely that no one else does either.
DO YOU HAVE MARGIN?
Here’s the point. Owning a lake house can be a really good thing. It can be great for you and your family. It can be a great investment, but do you have the margin to do it? That goes for every financial decision. Margin = cash flow… Do you have enough? Don’t get caught thinking because you can pay for something today, means you can “afford it”. The only way to know whether you can “afford it”, is to know what your goals and cash flows are. Then, you can decide if the lake house fits into your plan.
Ready to see how you stack up? Get started today, by better understanding your risk tolerance level and how that fits with the investments you currently hold.
Disclaimer: Our intent in providing this material is purely for informational purposes, as of the date hereof, and may be subject to change without notice. This article does not intend to constitute accounting, legal, tax, or other professional advice. Visitors and readers should not act upon the content or information found here without first seeking appropriate advice from a trusted accountant, financial planner, lawyer or other professional.