Wednesday WTF: August 16, 2017
Budgeting and Paying Yourself First
Welcome back to Wednesday WTF, my weekly rant about things that waste your time and money. You are in the middle of Budget Week here at Budget Boss as this week has been all about budgeting and how it can help you. I hope most of you are still here 3 days into the week as I will admit budgeting makes some people cringe. The thought of restricting one’s money even makes me a little sad. I speak of budgeting more metaphorically than physically. I do believe everyone needs to limit their variable expenses. We live in a consumer society that praises spending more than saving. That’s where I think budgeting comes into play. It shows you what you are wasting your hard earned money on. I myself don’t budget as hardcore as you may think. The reason for that is because I have gotten my spending down to a level I can control easily. Another reason why strict budgeting is not something I do regularly is that I subscribe to the “Pay Yourself First” method. What this implies is that I take care of all my obligations first and then spend what’s left. In this post, I will explain how budgeting and the “Pay Yourself First” method go hand in hand.
1) Utilize Your break even number
In yesterday’s post, I spoke about your break even number and how important it is to your financial plan. Your break even number is the number you must earn each month just to pay for the essentials like housing, transportation, utilities, and food. Whatever you have left over after your break even number is what you have for the rest of your spending including luxuries, wants and of course saving. The number that is left over should be as big as you can make it. This might mean paying off debt or cutting fixed expenses. Things like reducing housing or transportation costs really add up. For most people, however, it is impossible to lower this number. Your rent/mortgage and auto costs are what they are. How you can increase this number then falls on you making more money. The reason this is important is that this “extra” money is the money you will use to pay yourself first. The system is: pay the bills, pay your savings and then blow the rest. Once you handle the first two it doesn’t matter if you blow every extra cent because you have taken care of your future needs. That is true only if you don’t put yourself into debt while blowing the rest of your money. It should be everyone’s goal to make the difference between your take home pay and your break even number as big as possible. When you do that then you can save as much money as possible.
2) Reduce crap expenditures
This is where the real discipline comes into play. You have paid all your necessary bills and also put money away for savings. For some people this can only become possible if they reign down their spending habits. Crap expenditures include everything from alcohol, restaurants, shopping sprees, starbucks and many other things we waste money on. No matter what system of budgeting you prescribe to, you will have to trim down some spending. The reason is simple. If you pay yourself first you will only have a finite amount of money left over and there is no point in paying your savings first if it requires you to rack up debt on the back end. If you can’t even come up with money to save then you must dig a little deeper to find the root of the problem and more than likely it is you wasting money on crap. The reason why pay yourself first works so well is because it gives you an “allowance” once all your obligations are accomplished. It only works if you have the discipline to reduce spending after you have paid yourself however. Take a moment to break out the VISA bill and your bank statement to see where you are wasting money and try to cut it back the next month. If you go to Starbucks every day, cut it to every other day the next month. Cut it to once a week the month after. Soon you will be able to cut it completely until you will be angered anytime you stop for $6 coffee. The same is true for anything else in your budget that you can get rid of like take out, nights out, booze, unused memberships, and crappy cell phone add-on junk. Over time your mindset will be so fine tuned that you won’t waste a dime on crap every again. You have to start from somewhere so start now.
3) Create goals and pay yourself first accordingly
Paying Yourself First is all about accomplishing savings goals. When you know your break even number and what is left over you can then reduce variable spending. This becomes important because varying levels of savings are needed. Often times you have many goals including saving for a home or a car, going on vacations and of course saving for retirement. Finding a dedicated amount you can put into savings comes from the budget and pay yourself first method. Here is an example:
30-year old Candace makes $3,500 take home every month and has determined she can save $800 every month.
She allocates:
$400 monthly into a TFSA for saving for a home
$200 monthly into an RRSP for retirement savings
$100 monthly into a savings account for an annual vacation
$100 monthly into a savings account for emergency savings
= $800 annually for short and long term savings
Candace is aggressively saving 23% of her income towards her goals. She focuses every month on reducing variable spending and not using credit for her monthly expenses. Her break even number is $1500 monthly which leaves her with $1200 monthly to spend. She finds that $300 a week is more than enough to pay for food, clothing and fun.
At this savings rate she will have:
$27,241.36 for a down payment on a house in 5 years (5% rate of return)
$393,669.24 in her RRSP at age 65 (5% rate of return, increasing monthly deposit to $400 once home is bought)
$163,771.75 in her TFSA at age 65 (5% rate of return from age 35-65, $200 monthly deposit)
$1200 annually for vacations
$6,000 in emergency savings in 5 years, $12,000 in 10 years, $42,000 at age 65
Overall Net Worth at retirement:
$599,440.99 plus the value of her home
(An income of over $55,000/year in retirement, including CPP and OAS)
Plus any additional contributions and compounded interest from RRSP tax deductions, employer contributions, savings accelerations as her income grows and any windfalls.
A simple thing like making a budget, sticking to it, and of course paying yourself first can equal home ownership, financial independence and living life on your own terms. Creating the plan wasn’t difficult and following through wasn’t hard either. All it takes it a bit of planning and a bit of discipline. Candace still goes on vacations and still lives a fun life in the meantime. She doesn’t go overboard and always takes care of her obligations first. Creating the budget and paying yourself first are vital to her plan and the good thing about it is anyone can do it. There is no elite club that she belongs to. She is living life her way, being a saver and not a spender. Sounds good to me!
Thanks for reading my post today about budgets and paying yourself first. Tune in tomorrow for Thursday Trim the Trash Time where I will discuss budgets, emergency funds and debt. If you would like your own personal financial plan please do not hesitate to contact me at joe@budgetboss.ca. Have a great day friends!
“A cardinal rule in budgeting and saving is to pay yourself first. Once your paycheck hits your account, wisdom has it that you should move some amount to savings even before you pay the bills.” – John Rampton
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Joseph James Francis is a Financial Advisor. You can find him on various social media platforms and at budgetboss.ca