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Personal Cash Flow and Debt Service Analysis |
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Personal Finance
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Written by Jeff Tintle, Sr.
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Entrepreneurs - - - listen up. If you plan on launching a business in the near or distant future this applies to you. Understanding personal cash flow and debt service is relevant to you. Over the past several months we have been hearing a lot about home foreclosures, personal bankruptcies and a host of other personal credit problems. There is no shortage of opinions on who is to blame for this problem. Just like any other difficult situation there is not one, clear-cut answer. Put simply, there are a lot of people and organizations with “dirty hands” as it relates to this credit debacle. I don’t know if there is a lot to be gained in debating who the dirtiest scoundrels are in this. I’d rather spend time on rectifying the situation or avoiding it the next time. With that stated I offer the following thoughts on personal cash flow and debt service analysis. Let’s start with a few definitions:
- Personal Cash Flow: All the money you (&/or your significant other) have coming in and going out. In short, your revenue and expenses for a given period of time.
- Debt Service Analysis: The mathematical calculation between your revenue and your expenses, including debt.
Any time you go to a financial institution to borrow money this calculation is performed. It might not be like the one I have outlined below however it is calculated in some manner. For many years, a “prudent Lender” would not loan you money if they believed you do not have the financial means to repay the loan. It would be irresponsible for them to do this. As borrowers, we also have the responsibility to do our own personal cash flow and debt service analysis to see if it passes the “straight face test”. How many times have you or someone you know state the financial institution was willing to give you a lot more than you know you could afford to pay back? Accepting what any financial institution tells you as the absolute truth on matters like this is not prudent. I urge you to sit down and make the calculations yourself. If you do not have the desire or ability I encourage you to find someone that does.
To assist you on this front I’ve compiled a simplistic, sample Excel spreadsheet to utilize (Budget & Cash Flow). You may have more or less categories than this so modify it accordingly. It might be time consuming and for some a bit painful and sobering. If you are struggling with your budget and question your cash flow I suggest you take the time to complete this. If you don't and then later have a problem add yourself to the list of people to blame for a poor credit decision.
This cash flow and debt service analysis IS DIFFERENT than the average financial institutions. Most financial institutions are not as granular in budgeting for living expenses. They aggregate your debt, allot a certain percentage for living expenses and calculate ratios and percentages. The vast majority of financial institutions also look at your credit score which is a complex algorithm that predicts your ability to repay the loan based on your historical payment performance and other criteria. These things are not bad however over time “some” financial institutions have become too optimistic with their ratios and allowances for living expenses. In addition, historical payment performance is not always an accurate performance indicator, especially during challenging times.
My goal here is not to bash banks and other Lending institutions. I worked for and served commercial and community banks for the majority of my career. I consider the vast majority of banks to be good and decent organizations. They are much needed and we cannot do without them! What I am saying is we as individuals have a responsibility to create our own cash flow statement, budget and debt service analysis.
With all this stated I offer the following thoughts. While I am an optimist I am also a realist. The sun will not always shine and things will not always go our way. Plan and budget for the unexpected before you make a loan decision. I guarantee one thing. You will sleep better at night and enjoy the daylight hours a whole lot more too. While the government and financial institutions have a responsibility to conduct themselves in a responsible manner we as individuals do too. Financial responsibility starts with the individual borrower. It’s not just the other guy’s job. Exercise your knowledge and responsibility!
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Jeff Tintle, Sr. |
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