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The Four Step Cash-Flow Priority Model

This two-fold financial model is designed with a conservative common-sense approach to managing cash flow priorities. For some, this may seem a little counter intuitive or even risky. I will briefly explain the four steps to better clarify how financial freedom is gained. As dollar bills come into the (income pay checks) household budget what is the most effective way to allocate those dollars in order of priority to create the greatest long-term financial benefit for you and your family?

Step 1: Create a cash cushion

Step 2: Eliminate all non-preferred debt

Step 3: Keep one-year’s salary in a liquid, safe, diversified place

Step 4: Pay off your house but keep the cash

Step 1:

Cash Cushion-Having cash available for those “life happens” situations. You don’t have to have a huge reserve, but a 2-3 PITI monthly cushion is sufficient ($4000-$6000). Self employed individuals should consider establishing a larger reserve for those unpredictable irregular months.

Keep yourself disciplined and make being disciplined a habit. Do not spend your reserve in things that you don’t need that you won’t use.

Step 2:

Get Debt Free - eliminate all non-favorable debt. Always remember that there is good debt and there is bad debt. Bad debt such as credit cards, auto loans, installment loans are bad because they are not tax deductible and they take up money that can otherwise go towards other more profitable avenues.

Proven techniques are available to control debt such as the Ufirst concept, debt-consolidation, or the snowball technique. These techniques can be used to eliminate debt in an accelerated rate, but at the end of the day what matters most is the control you have over your money and the discipline you have in your spending habits.

Step 3:

“One year’s salary saved.” May seem like a lot of money and it just may be, but when achieved this is considered true liquidity. This money is to be used for two primary reasons – good and bad. An example of good is for investment opportunities and for a business. Most investment opportunities when presented require an upfront capital /cash advance. An example of bad is situations that involve medical emergencies, job layoffs, and/or economic downturns.

Step 4:

Pay Off Your House – Money must first be distributed into creating a cushion then paying off debt. After your bad debt is paid off you then create true liquidity and finally paying of your house. There are many aspects of equity management to consider before eliminating the good debt. A mortgage is one of your biggest tax deductions so think twice before eliminating it too soon. Conserve equity not consume it. Does it make sense to refinance and not cash out equity if you don’t have other debts or lack of reserves?