Financial Diligence and Waves

At the beginning of the summer I was swimming in the ocean behind a Mexican Resort. The water was as warm as a bath tub and I made my way out to the point where water was up to my waist. This is one of my favorite pass times at the beach, hopping waves. The waves in Mexico were decently choppy, enough to knock you on your feet if you were not paying attention. Being an avid swimmer and frequent beach goer I watched each wave come in and jumped over them as they arrived.

Meanwhile, I watched other swimmers conduct the cardinal sin at the beach. They turned their back on the ocean. The occasional larger waves struck them from behind catching them unaware and knocking them to the ground. This situation reminded me of a similar scenario in finance. Some people watch their finances and understand them. Others get surprised by each of life’s waves and do worse. That inspired this post, which is all about being diligent about understanding and controlling your finances.

Not Watching Life’s Waves

Recently I was helping a relative review their finances to determine if they were ready for retirement. As we walked through her finances I was disturbed to learn she had no idea how much she spent on a monthly basis. That simple question took 20 minutes to answer. I reviewed this person’s checkbook afterward and she was off by a factor of nearly 33 percent! To this observation the family member related that she had never had to watch their expenses so she had no idea.

Keep in mind this person is nearing retirement age. She has survived 45 years in the working world without understanding her expenses. It was such a weird concept for me as someone who struggle to not check weekly or even daily. It also means there are probably a million places she can cut expenses, but because she has no idea where she is at, she has her back to the waves, she has no inkling of places to adjust. I immediately requested she begin to document her expenses.

Not Aware of the Life Guards

But the discussion continued to get worse. I eventually had to reschedule the entire review. Why? Because she had no idea how many assets she had. The websites where the assets were held was locked for maintenance and she had to wait to reset her social security account password. She could not give me an accurate ball park of the number. As such for retirement purposes I could not weigh assets to costs. Not the end of the world for my review, as I have plans to go back in a few weeks. The bigger concern is in case of a large expenditure like a new roof, car, etc she has no idea whether those are affordable.

In the case of an emergency there is no telling if it will wipe her out or be a speed bump. Her back is to the waves. Just like at the ocean, a large wave could overwhelm her cash flow or assets and leave her in trouble. I of course asked her to document all of her assets and income over the next few days so she would be ready for the next review.

Most People Are Not Watching for the Financial Waves

I wish I could say this is a rare situation. Numerous studies find a mismatch in peoples’ understanding of their financial position. For example “a majority (57 percent) said they are not financially prepared for the unexpected” while simultaneously “only half of Americans (51 percent) said their households are financially secure.” We will ignore why so many feel like they are not prepared for the unexpected. Feeling financially secure at the same time as not being prepared indicates they are not watching for those waves. Simply put, if you are not prepared for the waves then you should not feel secure, because it is obvious they will come. This increases the likelihood they will get knocked over by those surprise financial situations just as those tourists not watching the ocean waves.

Review your Situation Regularly

The solution here is obvious. You should be regularly and diligently reviewing your finances. You should also review any potential upcoming financial issues, waves, on the horizon. The decision on frequency should be based on how variable your situation is. It also depends on how much work you have done to optimize it to date.

If you are self employed with variable pay checks and just starting out then a monthly review is probably a must. If you have never reviewed your costs and reduced them, then a monthly review is also likely necessary. If your expenses are locked in and your income comes from w2’s in a stable job then perhaps closer to yearly would work fine. I would recommend against extending beyond a year for the simple reality that laws and inflation tend to change with a yearly cadence. We review our finances in summary monthly. In depth we review about once a year. We fit the mold of w2 with locked in expenses.

Detailed Review or Summary

The level of detail you go into with any review will also vary based on the same circumstance. We do not use an explicit budget most of the time, instead targeting a dollar value.  However I have been optimizing for years. You probably want to try a budget at first to see where you are at. We still do a yearly more in-depth check for opportunities and would recommend you do so as well to check for opportunities.

Review the Situation, Develop a Plan, Improve your Financial Position, Lessons Learned

In the case of the person I was reviewing it appears likely she will be saved by a pension and social security. Now that we are unearthing spending and assets she might also be able to reduce spending. We will slowly turn the direction around so she can watch the waves and work to mitigate their size. I’m not sure she could survive retirement without this review. In retirement she can no longer blindly count on pay to inflate to offset lifestyle inflation. Sadly pensions are largely going the way of the dinosaurs. As such your likelihood of being saved by one is probably gone.

You cannot afford to ignore your finances. You also must focus at least some attention on iterative improvements to your financial position. That process starts with first doing your diligence to both understand your position today and the waves on the horizon. Take some time today to review your expenses, income, and assets. Once that is complete you can develop a plan. Then act to improve your financial position. Finally, observe the Outcomes and input back into step one. Prepare for the waves ahead by understanding where your stand and what is coming. Doing so will eventually make jumping them become easier.

When was the last time you reviewed your finances? Are you aware of your expense, income, and assets? How frequently do you check?