As an accountant, two of the most frequent questions I hear is: “How should I spend my money?”, or “How much of what I earn, should I put aside for tax?”. These are vital questions because getting it right means you’ll never have to worry about money again.
The answer lies in adopting a clear plan and running your personal finances with the same discipline and strategy you apply to your business. Let’s break it down.
The Foundation of Financial Success
To manage your money effectively, focus on these three guiding principles:
- Be Disciplined – Stick to your plan, no matter what.
- Spend Wisely – Prioritize needs over wants and make every penny count.
- Create Wealth – Invest in your future to ensure long-term financial security.
The Entrepreneur’s Cash Waterfall
Here’s a practical framework for how to manage your personal finances, especially if you draw your income from your business. It involves setting up five separate bank accounts and waterfalling your cash every time you’re paid.
1. Allocate 25-35% to Personal Taxes
Immediately set aside 30-35% of your income in a separate account to cover your Income Tax. This ensures you’re prepared when your Self-Assessment bill comes due and avoids unwelcome surprises.
The table below sets out the effective tax rate of a simple remuneration package of directors salary and dividends.
You may wonder why we recommend putting aside 30-35% for taxes, when your effective tax rate may be lower – say 26% for those taking home £120k a year.
Yep, you guessed it! It’s to cover those pesky payments on account where you have to pay next years tax in advance on top on the balancing payment for last year in arrears.
Once you have paid your tax bill, you can waterfall any excess cash into any or all of your other pots!!
| Directors Salary | Dividends | Annual Take Home Pay | Tax Due 23/24 | Effective Tax Rate |
| £12,570 | £7,430 | £20,000 | £563 | 2.8% |
| £12,570 | £17,430 | £30,000 | £1,438 | 4.8% |
| £12,570 | £27,430 | £40,000 | £2,313 | 5.8% |
| £12,570 | £37,430 | £50,000 | £3,188 | 6.4% |
| £12,570 | £47,430 | £60,000 | £6,495 | 10.8% |
| £12,570 | £57,430 | £70,000 | £9,870 | 14.1% |
| £12,570 | £67,430 | £80,000 | £13,245 | 16.6% |
| £12,570 | £77,430 | £90,000 | £16,620 | 18.5% |
| £12,570 | £87,430 | £100,000 | £19,995 | 20.0% |
| £12,570 | £97,430 | £110,000 | £25,620 | 23.3% |
| £12,570 | £107,430 | £120,000 | £31,245 | 26.0% |
| £12,570 | £137,430 | £150,000 | £43,919 | 29.3% |
| £12,570 | £187,430 | £200,000 | £65,594 | 32.8% |
| £12,570 | £237,430 | £250,000 | £83,269 | 33.3% |
For a more bespoke plan, work with your accountant to calculate your personal cash waterfall.
2. Save 10% for Emergencies
Build up an emergency fund equal to 3-6 months of living expenses. This safety net will protect you against unexpected challenges, like fluctuating income or unexpected personal expenses.
3. Invest 10% to Grow Wealth
Set aside 10% of your income in an investment account. This money should work for you, whether through stocks, property, or other opportunities, to secure your future financial freedom.
4. Cover Living Expenses with 40%
Allocate 40% of your income to your essential living expenses. This includes rent or mortgage payments, utilities, food, bills, car expenses and other necessities. If you’re spending more than 40%, it’s a sign to reassess and cut back.
5. Keep 5-15% for Fun
Yes, fun is important! Allocate 5-10% of your income to activities and hobbies that bring you joy. Whether it’s dining out, a gym membership, or a weekend getaway, having a dedicated “fun pot” allows you to enjoy yourself guilt-free.
What If Living Expenses Exceed 40%?
If your essential living expenses currently take up more than 40% of your income, start small:
- Save 1% for emergencies.
- Invest 1% to grow wealth.
- Set aside 1% for fun.
Gradually increase these percentages as you grow your income or reduce your expenses. Small steps now can make a significant difference later.
Discipline Creates Wealth
Spending everything you earn might feel satisfying in the moment, but it won’t build wealth or secure your future. Remember:
- Be disciplined in following your plan.
- Spend wisely to prioritize what matters most.
- Create wealth by saving and investing strategically.
Your financial health isn’t just about the money you earn—it’s about how you manage it.
Need Help Making This Happen?
If you’re ready to take control of your finances but need guidance, let’s work together. Book a call today, and I’ll help you create a personalized plan to ensure financial freedom and peace of mind.
By following this approach, you’ll not only protect your future but also enjoy the financial freedom to live life on your terms.
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