Designing a Purpose-Driven Cash Flow

Most of us are familiar with the basic concept of cash flow; it encompasses what comes in and what goes out each month. Obviously, those whose “inflow” is greater than their “outflow” have achieved an all-important first step toward building wealth: spending less than you earn.

But for those who intend to build real wealth over time, the cash flow strategy shouldn’t stop there. Purpose-driven financial planning takes it several steps farther. Strategic cash-flow design incorporates a broad, forward-looking perspective focused on long-range goals, values, and lifestyle expectations. In fact, when coupled with financial planning best practices, strategic cash-flow management can be a primary tool to ensure financial wellness, both now and in the future.

The Magic of Compounding, Growth, and Time

The first principle that intentional wealth-builders must master is the time value of money. Time, of course, is the one essential resource that can neither be bought nor sold. We all have the same amount of it, but how we employ the time we have, especially where our finances are concerned, makes all the difference.

And this is where strategy enters the cash-flow process. The more of your available cash flow that can be directed toward resources that can increase in value over time, the greater the opportunity for building meaningful wealth. This is a lesson that the affluent have learned very well, and for high-income budgeting to succeed in wealth accumulation, it is a must. Too many high earners are distracted by the appearance of wealth—expensive vehicles, high-end apparel and accessories, lavish vacations—to the point that they limit their ability to accumulate real wealth. Spending too much on the appearance rather than building the real thing is called lifestyle inflation, and far too many young, successful professional fall prey to it.

Rather than creating the appearance of wealth, intentional wealth-builders deploy their cash flow to take advantage of compounding and growth over time. For example, instead of keeping excessively high balances in low- or no-interest liquid accounts, they systematically allocate funds to accounts and investments that can grow at a rate that outpaces inflation. To understand the impact of this strategy, consider a 30-year-old professional earning $200,000 per year who puts 8% of her monthly income (about $1,300) into an investment account. Assuming that the account manages a rate of growth equal to the average increase in the stock market since 1975 (about 10%), by the time she is 60, she will have approximately $2.6 million; enough to provide her with a monthly income of $22,800 for the following 30 years. Bear in mind, of course, that past performance of the financial markets is no guarantee of future results. Further, this example does not include the impact of taxation, but if our investor had access to a tax-favored plan like a 401(k), she would be able to shield her savings from taxation until she was ready to begin withdrawals in retirement.

Tax Efficiency and Strategic Cashflow Management

Of course, taxes will have a direct effect on wealth-building outcomes, which means that proper tax planning is another core strategy of those who are building intentional wealth. Strategic cashflow management, then, should include allocating as much as possible to tax-advantaged accounts like IRAs, 401(k)s, and 403(b)s. It should also consider strategic placement of assets to maximize tax efficiency. For example, high-income individuals might elect to hold tax-free investments (municipal bonds and bond funds) and other more tax-efficient assets (stocks generating qualified dividends or focused on long-term capital gains), in a taxable brokerage account, while placing income-generating and high-growth holdings in tax-advantaged accounts to shield them from taxation until funds are withdrawn.  

Tax-efficient cashflow management also involves strategically timing the receipt of income for maximum tax advantage. For example, a professional who anticipates being in a lower tax bracket in retirement may wish to defer income, either by holding income-generating assets in a tax-favored account or taking advantage of a deferred-compensation plan that may be available through an employer.

Goal-Oriented Cashflow Strategy

Taking a strategic view of cashflow can enable the successful professional or entrepreneur to direct resources to the places where they can best support long-term goals and values, whether those include a secure retirement lifestyle, philanthropic efforts, eliminating debt, or funding education for children. A fiduciary financial advisor can be a valuable resource in designing, maintaining, and making adaptations to a strategic cashflow management strategy. At GEM Asset Management, we work with successful individuals to help them develop strategies for cashflow management and other important financial goals. Why not find out how we can help you?

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