In Personal Finance as in business, the only thing that really matters is how much cash flow is coming in.
“Cashflow is king” and there are no two ways about it.
Understanding cash flow – the money you bring in against the money that goes out – is the key to becoming wealthy.
Having more money coming in than going out and investing the difference is a great way to become very wealthy over time.
This sounds simple but many people don’t abide by this simple rule. One of the reasons is that they don’t truly appreciate the power of positive cash flow and wonders it can do to your net worth.
I for one started to understand the power of cash flow once I realised that money can make more money. By being smart with your money, investing instead of spending, your money can work hard for you and send back more money to your bank account. Once you understand this concept, you will realise the that more money you have, the more you’ll want to use it to make even more money.
In a world where wealth is perceived by how many possessions you have, investing money and increasing your cash flow requires a different way of thinking.
Most people today are focused on consumption. They earn money to simply buy a newer car, move into a bigger house, go clothes shopping, buy status symbols or spend money on invincible items. If you want to truly be successful with your finances, you need to live by a different set of rules.
You need to learn about investing, compounding and increasing your net worth.
The golden rule in personal finance is :
Spend less than you earn and invest the difference.
- Maximise your income – Although money in itself is not the most important thing in the world, generally the more money you bring in, the better. The more cash you bring in, the more easily you’ll meet your needs and the easier it will be to focus on the other things that are important in life.
It is very common to find people that want to follow their passion or don’t want to spend 6 years in school or 60 hours at the office or whatever. These people will probably max out at a comfortable life. But if you want a truly luxurious life, you need to be out there chasing high-paying careers and negotiating your salary which many people are afraid of doing these days.
- Diversify your income sources – You don’t really want 100% of your income coming only from one source. If that source gets cut off, it means that you have no income coming in. Take someone whose only source of income is from a job. If they get made redundant, it means that they have no income coming in. In order to reduce the risk of your income, you need to get a second source of income. This I can be starting your own part-time business, selling your skills online using websites like fiverr.com or simply getting passive income.
Diversifying your income stream has a two-fold effect. First, you are not so reliant on one source of income thus reducing your risk. Secondly, there is more money coming into your bank account thus making you wealthier over time; provided you do the right things.
- Don’t purchase depreciating assets – It’s a sure way to get poor. Depreciating assets are those items that go down in value every year. New cars, expensive clothes, the latest gadgets…the list could be endless. Unlike buying income-generating assets (see below), depreciating assets are a big drain on your cash flow and a big hindrance to you getting rich.
One of the biggest reasons middle-class people stay where they are and don’t move up the class ladder is because they are obsessed with buying assets that put a drain on their cash flow – new cars, bigger houses, expensive vacations e.t.c. They want to be perceived as being rich and so buy these ‘status symbols’ to show off their wealth.
But what they don’t know is that millionaires often shun these types of items and that is why they are millionaires. Just look at the article I wrote on Adam Khoo. Dr Thoamas Stanley wrote a brilliant book called The Millionaire Next Door. In it, he gave factual evidence that millionaires became millionaires because they were economical in their purchases and avoided overpaying for depreciating assets. If you aspire to become a millionaire, the book is certainly worth a read as it will change your perception of millionaires.
- Don’t Spend money on invisible items – The term invisible spending refers to the small and ‘almost invisible’ amounts people spend on a regular basis without paying too much attention. This includes items such as coffees, shop-bought lunches, impulse treats like sweets and chocolates and post-work drinks.
A recent study by Aviva states that the typical UK adult spends an average of £18.23 a week on invisible items.
Whilst this may not sound like a lot, it sure does add up.
Over a year, the total invisible spend is £947.96 and over a working lifetime – between ages 18 and 68 – this could stack up to a staggering total of £47,398 per person before any potential inflationary increases are taken into account.
When you put it that way, the amount lost over your working life is huge! But here is the real kicker – if you had stuck that paltry some of £18.23 a week into a low-cost plain vanilla index fund such as the SP500, generating the historical average of 8%, you would end up with £523,572.
Yes, that is over half a million pounds!
- Buy Income-generating assets – If you are like me, it means that you are only able to work for 10-12 hours per day before your brain and body refuse to be productive. Even though we would like to earn more money, we are totally out of resources to do so. I’ve personally experienced this in every job and side hustle I’ve ever had: I can only work so many shifts in a given week, book so many tutoring sessions in one week, serve so many tables as a waiter. There are limits to my energy and time.
This is why I love passive, cash-flowing assets as they eliminate the limits of time and energy. My passive income right now purely comes from dividend-paying stocks.
This money appears in my account whether I bust my butt for a 12hr workday, or lay around binge-watching TV.
It’s my favourite type of income. Income for doing absolutely nothing!
This is why I am aiming to diversify my passive income so that I am able to obtain money from different sources without putting in much effort.