Variable income forces planning and budgeting that most young adults never do, which can lead to better long-term financial results

We can clearly see at this point the personal financial toll from COVID-19. The pandemic has forced many people to scramble to protect their short-term financial stability. And job losses, furloughs, and salary cuts continue to thwart those efforts. In the months ahead, these disruptions may introduce a new financial challenge for many workers: variable income.

For certain professions and industries, variable income is a feature, not a new dynamic. In high-cost cities like Washington, D.C., for example, young adults who work in the gig economy may hold multiple jobs with fluctuating take-home pay. Entrepreneurs may draw income from their companies in fits and starts, based on business growth and personal financial circumstances. Athletes and teachers, meanwhile, may only receive a consistent, fixed income during certain parts of the year.

The Advantages of Variable Income

If variable income becomes even more common, many Millennials will feel lost about what to do. They’ll struggle to create a system that provides certainty and stability during their lowest income-generating months. A high percentage of this group may conclude that variable income is a problem they must escape as soon as possible. This thinking, while certainly understandable, shortchanges the benefits that variable income can offer. 

From the outset, managing variable income demands effort and prioritizing. And it requires a certain level of ongoing discipline and organization. Anyone who is willing to navigate this dynamic, though, may like the outcome. In fact, they ultimately may be better off than if she or he received a more consistent salary. Variable income forces higher-level financial planning that most people never get around to. Young adults who can make this situation work for their lives may achieve their financial goals faster than a peer with a more “typical” salary structure.

The Similarities with Any Budgeting Process

Like any budget system, how you handle variable income depends in part on your personality. And a few common budgeting guidelines are just as applicable in this situation. For example, your best source for actionable information likely will come from tracking expenses. (Personally, I rely on You Need a Budget and Tiller Money for this task). A variable income doesn’t actually require you to stick to a specific dollar amount in every budget category. Rather, can you answer spending questions like the following?

• What are your absolutely essential expenses each month, such as rent and utilities? This answer should include any contributions you need to make to savings to accomplish big goals, including buying a house.

• What do you expect to spend on irregular expenses this year? This would include lump-sum payments that you’re not able to pay on a monthly basis, like taxes. You’ll also want to factor in the estimated cost of special occasions, such as a bachelorette party.

• How does your discretionary spending (everything other than those unavoidable expenses) compare to your average monthly income? How much do you rely on a credit card to fund your lifestyle?

Short-Term Sacrifice Instead of Constant Frugality

Try to spend some focused time with the charts and graphs that show what your spending looks like over time. In doing so, you’ll empower yourself to create a spending plan that doesn’t exceed your income. Just as importantly, your spending plan will support and encourage the things you value in life. 

The biggest hurdle often comes next, though. An effective system for managing variable income may need to start with short-term sacrifice. Your primary bank account needs to contain enough money to cover essential monthly expenses and still offer a cash reserve. Plus, automated fund transfers will play a key role in the variable income process. Automation, after all, takes the burden of consistency and discipline off your shoulders. You also will want extra cash available for this purpose, primarily to avoid overdraft fees and other budget chaos.

The Variable Income Budgeting Process

From this point, the actual variable income strategy begins to take shape. First, direct any wages you receive to a high-yield savings account. This account holds no other purpose for you; it’s your vault. You won’t want to set up any bill payments, Venmo transfers, or Amazon purchases for this account. Instead, you’ll want to automate monthly transfers from this account to three other bank accounts (or sub-accounts) that you hold. Together, they will help you to satisfy your financial obligations and pursue your financial goals.

The Long-Term Account

The first account transfer covers what you may have heard described as “paying yourself first.” Of course, the rent that you pay and food you buy support you and your daily living. But this account is about making money available for who you want to become and the life you want to create. There’s no single correct amount to transfer here. Rather, start with an amount that feels sustainable, based on how much room you’ve had in your budget previously. The financial objective for this account is to increase the contribution incrementally over time. Your variable income may actually make this task easier. Once you have a system in place, any remaining income in your high-yield savings “vault” becomes unplanned savings that you also can move here.

The Paycheck Account

The second account transfer is a fixed biweekly or monthly payment. Congratulations — you’ve just created a paycheck for yourself! Each month, you will use this money for your living expenses. You’ll base the specific amount on the spending analysis that you completed initially (and continue to track over time). This account covers two types of spending. First, you can use the money in here for those essential expenses that you absolutely must pay each month. And second, you can include an allotment for your discretionary expenses, such as a fun date night. Give yourself permission to be generous (within the confines of your current income) in how you calculate the amount for this purpose. Spending the money you earn shouldn’t feel stressful or induce guilt.

The Lump-Sum Account

The third account transfer also covers expenses, but expenses of a different type. The money directed here will create a reserve to handle large, irregular expenses that periodically arise during the year. The calculations for this account rely on both past payments and your expectations for future payments. 

Credit card and bank statements can remind you of lump-sum payments from last year that you couldn’t pay incrementally. Taxes often fall into this category. You also may have had large insurance or education bills that you had to pay at irregular intervals. Your personal calendar, meanwhile, can show you upcoming events, such as a vacation, that may require a sizable deposit in advance.

Once you have calculated a total amount, divide that number by 12 months. The result will determine how much you transfer into this lump-sum account each month. Then, when those large bills do come due, you have money to transfer into your checking account to make the payment.

Variable Income Empowers Your Budgeting Efforts

Budgeting requires time, energy, and practice. And even if you’re willing to commit yourself, most people don’t particularly enjoy the task. Yet, budgeting makes our financial goals possible. Retirement savings, college, and homeownership all seem to get more attention. But you’ll have a much harder time achieving these goals without support from your budget.

Variable income adds a new, often unwelcome, wrinkle to the mix. Especially if sporadic payments are new for you, you may resent this scenario and look forward to the mainstream alternative. Viewed differently, though, variable income empowers your budgeting process. You need to take control, so you actually do. Most people never reach that point with their personal finances, which stymies their progress throughout adulthood. If you can embrace the challenges that variable income throws at you, you’re likely on a faster track to using your money how you really want.

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About Kevin Mahoney, CFP®

Kevin Mahoney, CFP® is the founder & CEO of Illumint, an independent firm in Washington, DC that offers financial planning for Millennial parents. He specializes in navigating the new financial decisions that arise during our 30s and early 40s, such as repaying student loans, buying a house, saving for college, & investing for the future. In addition, Kevin also leads a financial wellness benefits program for Millennial employees around the country, including group speaking engagements.