As financial planners, you understand that the key to financial success is adopting a cash flow plan that will guide your clients’ financial decisions on a day to day basis. In addition, when your clients understand how money flows in and out of their lives, they will feel relief from financial stress and gain a greater sense of control over their financial lives.
Nonetheless, traditional budgeting methods often lead to a sense of frustration. Here are a a few of the reasons your clients resist tracking their cash flow:
- They lack the skills required to set up a budget and to monitor their progress
- They equate budgeting with the need for more self-discipline and sacrifice
- They get discouraged by the level of detail required and the need to track every expenditure
- They want to simplify their lives, including their finances, and not take on tasks that feel time consuming and burdensome
An alternative approach to money management—“bucket budgeting”—is getting a lot of media attention these days. Anna Prior of the Wall Street Journal wrote, “While different names exist for this type of budget and many financial planners have their own take on this style, the bucket image is integral to First Step Cash Management™, a budgeting tool developed by Marty Kurtz, Matt Sivertsen, and Eric Kies at The Planning Center, a financial planning firm in Moline, Illinois.” This user friendly system has proven to be an effective way to help clients manage expenditures, reduce debt, and increase savings (www.firststepcashmanagement.com).
With the First Step Cash Management system, income flows into three accounts or “buckets.” Each of the three buckets holds a specific type of money and each type of money has a specific use or purpose. While the uses are all different, all three buckets are interrelated.
The Static Account™ bucket holds money that has been spent, or has been agreed to be spent, at some point in the past. These are our regular monthly expenses such the mortgage, utilities, insurance, home equity loans, student loans, and auto loans. Money is also allocated to this bucket to pay down credit card balances.
In contrast, the Control Account™ bucket contains money that will be spent within the next seven days. Control expenditures include things such as groceries, gas, entertainment, and eating out. Lastly, the Dynamic Account™ bucket stores money that will be spent in the future for goals such as retirement and education funding, vacations, gifts, and special purchases like furniture and appliances.
Once this cash flow system is set up and tweaked based on individual priorities and circumstances, the system goes into auto pilot and detailed tracking of expenditures is not required. The result is a simple decision framework that brings clarity and purpose to personal finances.
In a very real sense, I believe that the “bucket budget” process supports the main premise of Nudge: Improving Decisions about Health, Wealth, and Happiness—a book written by behavior economist Richard Thayler and Cass Sunstein. They claim that only 5% of the population is completely rational in their decision making and the remaining 95% needs help in sorting through all the pros and cons of the options they have.
As a result, these authors build a strong case for the importance of giving folks a “nudge in the right direction.” They believe that it is the responsibility of those in advisory positions “to design decision making paths” that will help individuals make choices and take actions that are in their own best interests.
And that, I believe, is exactly what a “bucket budget” can do for your clients—provide a simple framework for understanding their financial lives and for making financial decisions, on a daily basis, that are in alignment with their values and priorities and will put them on the path for achieving their goals.