Increasing household net income

Think of your household as a for-profit entity. Now, try to consider what that entity’s income statement might look like. You can calculate your “net income” during any given time period by finding the difference between revenues (i.e., the income you generate by selling your labor to your employer) and expenses (i.e., the ongoing costs of running your household). Every household has operating expenses, which may include things like rent/mortgage, insurance, equipment and supplies, member benefits (the perks that keep your members happy and motivated to continue to prioritize the wellbeing of the household), etc. As with any profit-generating enterprise, one way to maximize net income is to make management decisions that minimize household operating expenses without decreasing revenues. Any increase in net income will cause an increase in retained earnings and contribute to the growth of equity—this is how wealth is built. As a manager of your household, having the ability to make informed financial decisions is indispensable. For this reason, budgeting must become the cornerstone of your approach to wealth-building.

What is a budget?

A budget is a reasonable estimate of expected revenues and expenses over a defined period of time in the future. For financial independence to become reality, there must be a positive difference between these two numbers.

Household Net Income = Revenues – Expenses

Why should I have a budget?

Budgeting is an essential enabling capability in the journey to FI, but building a budget can be a daunting prospect because it requires you to make several important decisions about your vision for your future. But with self-determination also comes incredible freedom! You can choose to give more generously when you are confident that you are meeting your goals. Budgeting can also be used as a tool to improve communication and increase transparency in your household by setting clear boundaries with respect to spending, saving, and debt repayment. Also, as a practical matter, every family should have an emergency fund in which it maintains at least six—but, ideally, twelve—months’ expenses in easily-accessible cash savings. Having a firm grasp on your monthly operating costs allows you to more accurately predict the total needed.

Why is budgeting so hard? 

Tracking money is easy, but behavioral changes are hard. For anyone who has lived through a period of financial insecurity, budgeting can trigger painful memories of going without. Often, our spending behaviors feed our (often much-deserved) pride in our achievements. Saying “no” to yourself or your loved-ones when it comes to unnecessary spending can trigger feelings of deprivation and paradoxical sense of lost control. I urge you to remember that budgeting is truly about ensuring that your financial habits are an accurate reflection of your personal values. Budgeting should absolutely make space for reality and joy. 

Budgeting is power

The simple decision to start is a declaration of power. Behavioral change will likely be uncomfortable, especially when it requires coordination within a household. However, the only way to build wealth and reach FI is by prioritizing the growth of your retained earnings. Stay tuned for the next post, How to Make a Budget that Works for You.