LO 3.1.2: Construct a cash flow statement that is consistent with sound personal accounting standards.

Question 1

Cash Flow Statement

Answer 1

• AKA. statement of cash flows
• Focuses/identifies flow of cash into and out of financial accounts
• Cash receipts and disbursements over a specific period of time — monthly, quarterly, and often over a year.
• Reveals a client’s pattern of spending, saving, and investing: cash flow positive first
• Examples:
• • Stmt of Financial Position is akin to a snapshot, a Cash Flow Stmt is akin to a movie.
• • Compare to income stmt for a business owner
• • Primary focus: cash flow must be positive to achieve other goals.

Question 2

Income Statement

Answer 2

• Not the same as a cash flow statement
• Often used in business context
• Focuses on a company’s financial performance
• Revenue is recognized as income, but not immediately a cash flow
• Seldom used in personal financial planning context, except where personally owned businesses are involved

Question 3

Inflows

Answer 3

Money coming in that they can spend; include

* gross salaries and wages, 
* interest and dividend income, 
* rental income, 
* tax refunds, and 
* other amounts received by clients.

Question 4

Outflows

Answer 4

Our expenses for that particular client; outflows should be divided into

* Savings and investments
* Fixed outflows
* Variable outflows

Question 5

Fixed outflows

Answer 5

Are relatively predictable and reoccurring expenses over time

• Things that we have very little control over
• Expenses we know when due and how much
• Examples on p. 90:
  
  • Mortgage pmt
  • Auto loan payments
  • Insurance premiums

Question 6

Variable outflows

Answer 6

Expenses which the client has degree of control

• Some variation around their occurrence and amount
• Examples on p. 90 / see Figure 3.2 on p. 91:
  
  • Food expenses
  • Clothing expenses
  • Utility expenses
• FICA are sometimes listed as variable outflows on cash flow statements — rationale: ability to affect income taxes through investment options and income planning.

Question 7

Statement of Cash Flow Analysis

Answer 7

• 1) Can determine whether clients are living within financial means (client should not have expenses that exceed their income; at least not on a regular basis).
• 2) Clients consistently experiencing a cash deficit at the end of the period may be good candidates for budgeting.
• • e.g. You take savings to pay off debt; improves your cash flow; affects statement of financial position, and increases cash flow (but may not affect net worth).
• • Cash Flow Formula
• ** Inflows - Outflows = Net Cash Flow
• ** If net cash flow is Positive = surplus
• ** If net cash flow is Negative = deficit

Question 8

What kind of outflow is a credit card purchase

Answer 8

When an individual purchases an item on a credit card, no cash outflow has occurred

• It is not until pmt made to the credit card co. or individual store that cash is disbursed
• Additional liability develops, affects the stmt of financial position
• Credit card charges should be in their own category on the cash flow stmt
• Adding a line item to outflows to measure payments made to reduce credit card balances

Question 9

What expense subcategories head the list of outflows

Answer 9

Savings an investments should always head the list of outflows

• This helps the pay yourself first (or save and invest) theory to be reinforced with clients [can be taken into account on a pro forma cash flow statement]
• • A) Savings and Investments
• • B) Fixed
• • C) Variable
• • D) Taxes (see p. 91-92)
• • Total outflows = A+B+C+D

Question 10

What is a pro forma cash flow statement

Answer 10

A projection of cash flows

• A planning tool that projects the anticipated inflows and outflows for a future period
• Can be prepared on a monthly, quarterly, or yearly basis
• Projections based on
• • established patterns of inflows and outflows
• • client’s goals for the designated period
• • effects of either implementing or not implementing the recommended financial plan

Question 11

How do we resolve conflicting demands on cash flows

Answer 11

Identify cash flow demands in conflict and evaluate options/strategies.

• Your responsibility is to identify funding alternatives that exist and should be explored.
• Provide guidance to your clients, who ultimately must make the best informed decision for themselves.