Not too many people consciously think about their style of money management. For most people, day to day “money management” just happens without any real purpose or planning.
Unfortunately, it is a proven fact that in the absence of ‘purpose’, people will almost always drift towards the negative mindsets and habits held by mainstream society. This is particularly true of the way we manage money and our finances…
In this article, I will talk about the three broad styles of money management, two of these styles “just happen”; the third requires a conscious decision to be proactive regardless of how much you earn.
Hand to Mouth Money Managers.
Hand to mouth living is the most basic form of “pay cheque to pay cheque” living. Not surprisingly, “Hand to Mouth” managers are often (but not always) lower income earners and staying on top of the bills is not always easy. This is the group of people who would most benefit from a budget, yet do not want to be “constrained” by one. They prefer instead to have the freedom to spend as and when funds are available.
Hand to Mouth managers do not appreciate the power of small amounts of money saved and invested regularly; subsequently they do not see the point in saving even when funds are available to be saved.
Fortunately, Hand to Mouth spenders recognise the limitations of their income and don’t tend to accumulate debt; they spend up to what they earn but not beyond.
Hand to Debt Money Managers
Hand to Debt living is the predominant form of money management in middle class Australia today. It is particularly prevalent amongst Generation X and Y who have little or no fear of debt and are under heavy pressure to “keep up with the Joneses”.
Hand to Debt living is where debt is used to purchase a lifestyle that could not otherwise be afforded. This style of manager uses debt to buy the nice house, new car, new furniture, and so on. From an outsider’s perspective, they look wealthy but on closer inspection their reality is quite different. Their debt repayments absorb most of their income and like the Hand to Mouth managers, they spend everything they earn and rarely have more than a couple of month’s income in reserve.
This style of financial management creates a negative cash flow spiral. When a person takes on debt to purchase lifestyle items such as cars, furniture, and holidays, they are compromising their future cash flow. If a person hasn’t been able to save and purchase the item with cash in the first place, then adding debt repayments plus interest to the expense list is only going to make saving for future expenses even harder.
The proportion of money that these managers spend on interest repayments is frightening. Despite earning very good incomes, they will have little to show for it in the years ahead.
Hand to Asset Money Managers
Hand to asset living is used by proactive money managers who understand the value of money. They also understand there will always be more ‘stuff’ to spend their money on than there is money available to spend.
Hand to asset money managers make a conscious decision to consistently spend less than they earn. The money they save is channelled into buying income producing assets such as shares, positively geared property, term deposits, and so on.
These income producing assets increase the household income which in turn increases the household’s savings capacity each month. The result of this is a positive cash flow spiral that results in greater and greater income every year.
This positive cash flow spiral is the direct opposite of what happens to Hand to Debt money managers where debt repayments take away from future cash flow rather than adding to it.
Taking a long term perspective, this type of money manager will typically be able to replace their ‘earned income’ inside 20 years with investment income. They are better positioned to find work they enjoy rather than being trapped in a meaningless job they hate because of the salary.
It is easy when you sit back and look at these three styles of management objectively to identify which one makes the most sense from a financial perspective. Regardless of how much we earn and which style of management we find ourselves in right now, we do have a choice as to which style of manager we want to be going forward.