Managing Variable Income
When we started Off the Beaten Path Financial, we did so with a vision to help forge 100 new financially free families. We have our focus on financial freedom, because we know that everyone out there has different goals, ambitions, and dreams, and financial freedom is what allows you to pursue whatever those things are for you.
Throughout my own journey towards financial freedom, I’ve determined that there are three peaks you have to summit if you’re going to achieve financial freedom (if you haven’t already, you can read more about the three peaks in this blog post). Today I want to dive further into the cash flow peak. Whether or not you’re pursuing financial freedom, having mastery over your own cash flow is essential because without it, you’re likely going backwards.
It can be substantially more difficult to master your cash flow when you have variable income. How can you make sure you have a plan to balance things out at the end of every month, when every month is slightly (or maybe majorly) different? Today we’ll walk through my primary strategies for answering that question.
The first thing you need to determine is what interval you want to create your plan for. This should be the same interval you most consistently receive income and pay expenses. For most scenarios, I recommend planning your cash flow on a monthly cycle because most people receive income at least once a month, and bills are often paid on a monthly cycle. If the majority of your income is paid less frequently than once a month, then balance your cash flow on a quarterly, semi-annual, or annual basis, inline with your income interval.
Below, I’ve broken down my recommendations for the most common pay structures.
Monthly: Paid once a month (12x per year)
This is the easiest to work with as most bills and living expenses are on a monthly interval. Add up all your monthly expenses and income, and make sure to have enough money at the beginning of each month for all of your expenses that coming month.
Monthly + Additional Variable Income
If the majority of your income is paid at least once a month but you receive additional income at other periods, then plan your cash flow around your regular monthly income and treat the additional as a "bonus" (see below for what to do with bonus income).
Semi-monthly: Paid twice a month (24x per year)
This is convenient because it is consistent, and can operate just like monthly. If you prefer though, you can break down expenses into 2 periods: 1 per paycheck
Bi-weekly: Paid every 2 weeks (26x per year)
My recommendation is to plan for bi-weekly pay on a monthly interval, because twice per year you get three paychecks in a month instead of two. Plan your cashflow just like you would for monthly pay and ignore the extra two paychecks for your cash flow planning.
On months with the extra paycheck: treat like a bonus and use inline with your goals.
Weekly: Paid every week (52x per year)
This is similar to bi-weekly but four months out of the year you get an additional paycheck. Operate just like monthly and ignore the extra four paychecks for your cash flow planning. Use the extra paychecks like a bonus.
Hourly
Hourly pay has variability because income is not consistent, and depends entirely on how much time you spend working. First, review the past 3-6 months to find your average baseline pay. You want this to be a conservative estimate such that every month you should have at least that amount. Plan your cash flow with that estimate as your monthly (or whichever interval you choose) income. Any additional income each month should be treated like a bonus.
Commissions
Commission pay can be treated similar to hourly, because just like hourly it varies based on how much and what you sell. First, establish a 3-6 month average baseline pay. Then plan your cash flow with that estimate as your income amount.
If your commissions are more irregular, then consider changing your cash flow planning from a monthly to quarterly or semi-annual period to help even out your cash flow. If your commissions are highly variable, see below.
Infrequent or Highly Variable
Get organized with your bank accounts: have one account that all of your income goes into. From that account, the only withdrawal should be a salary to pay yourself on whatever interval you prefer. That salary goes into a separate bank account which you can use for paying bills/spending money, etc.This maintains consistency with your cash flow planning and removes the income variability.
To determine an appropriate salary amount, use historic averages of your income and keep your estimate for your future income conservative. If your income account is continuing to grow faster than it needs to in order to pay your salary, then give yourself a bonus every 6 months (or whatever interval makes sense). If this is happening consistently, consider increasing your baseline salary.
Utilizing Bonus Income
Bonuses or income above your established baseline should be used to prioritize your goals:
High interest debt
Emergency savings
Savings goals (trips, house, etc)
Extra retirement contributions
General investing
Immediate purchases (fun stuff)
The goal for all of these suggestions is to establish a consistent expected income such that you can balance your cash flow and plan around it. You do this by:
Establishing an appropriate cash flow planning interval for your income and expenses (monthly, quarterly, semi-annually, annually)
Determining a consistent baseline income for that interval
Treat income above this baseline as a bonus and allocate according to your goals
Do you have a variable income structure that I didn’t cover in this blog post? Send me an email about it (ryan@obpfinancial) or book a free discovery meeting to talk in person.
