While I do not tend to focus on early retirement or massive savings, I do touch on the concepts of savings rate. Your long term ability to lead the good life, maintain your health, and eventually retire depend on your ability to save. So, why do so many people in society have difficulty saving? Not a day goes by that you don’t see an article about the American public’s lack of savings. I assume if you are reading a personal finance blog, you are probably better then average, but, there is always room for improvement. What are some easy tips to increase your savings?
Emergency Fund as a Starting Point
The first thing you should do before attempting to save money against your long term goals is to save an emergency fund. An emergency fund can take many forms. The most common is a savings account or a money fund. I generally don’t recommend these forms as it is too easy to spend the money regularly rather then treat it for true emergencies. Also it tends to be a fairly inefficient form of managing your money. Other more efficient forms could be a bond ladder, cd with early withdrawal clause, bonds, or even a Roth IRA with sufficient contributions that you could tap as necessary. In any case you should shoot for 3-6 months of savings in some form that you can get to in a quick period of time that has minimal risk in case of job loss. Minimum risk in this case means you can pull the money out quickly with minimum risk of it being reduced in value when you need it most. A CD early withdrawal clause for example may cost you 3 months of interest, but you get a higher return on your money then a savings account and your principle is protected unlike a stock. If it helps to not think about the opportunity cost of the loss of investment elsewhere think of it as part of your bond allocation.
Beyond Emergency Fund, Setting a Budget
Beyond the emergency fund, you really need to sock away money. The most clear cut way to create a increasing savings rate trend is to create a budget. Analyze your spend, understand that spend, and adjust the spending of those things you feel are in excess of what you would reasonably expect. Expanding values to what they add up to annually will highlight the items to you in the context of their long term impacts. For example are those $5 dollar coffees every day, worth -$1825 from your savings goal that year?
Be aware that a budget will only take you so far as psychologically people tend to see “quick wins”, act, but then over time lose interest and stop monitoring. Once that occurs, the savings decreases.
Set Savings Rate Goals
Which brings us to goals. One way to combat the drop off in interest over time is to set both short term and long term goals. Be sure to set the short term goal sufficiently wide enough that you feel like you accomplish something, but short enough to maintain your interest.
Many people still fail at this point. Either the goals are too delayed, other goals come up in the interim, or things get hectic. Several studies have shown that when things get hectic, people stop thinking logically and make more impulsive decisions. If this is an issue that you commonly encounter, there is another option.
The Artificial Pay Check to Pay Check Approach.
The easiest way to achieve savings is to not give yourself the option to spend. That means putting up barriers to your ability to spend certain amounts each month. There are multiple ways to achieve this. One is to increase your 401k. As soon as possible is best, but if you can’t handle a sudden change do so as you achieve pay increases. With each pay increase, maintain your current living but save by increasing your contribution to avoid life inflation. Another way is to use tools like an automatic bank withdrawal or some of the new auto paycheck deposits from the robo investors. In any case, as long as you have a emergency fund to counter any liquidity issues, this may be the easiest path forward.
To summarize how to boost your savings rate: keep an emergency fund, analyze your spend to adjust those items you deem out of whack based on a yearly view, and adjust the money you have available to spend to ensure you limit spending.
How do you control your spending?
I personally have found goals to be the most productive way to control my spending.
I feel like before I set goals I was undisciplined and more likely to spend money on something I later regretted. (I’m specifically thinking of the hundreds of CDs that I have laying around with the one or two songs that I actually liked).
Now that I have goals I feel like I am actually working towards something it gives me motivation to actually accomplish my fiscal goals.
Right now, saving has become so ingrained in my brain that I now have to look for ways to spend money to make sure that I don’t burn out of saving. But that becomes a problem because I don’t know what to spend money on.. Everytime I make a purchase I ask myself if I need it, and if I say no, I don’t buy it. I need to designate a splurging day once a quarter and ask myself if I want it rather than need it on that day!
It definitely can be taken too far if your not careful. Ultimately you only live once so you do have to enjoy some of the time.
Artificial paycheque method works for me. As soon as the money rolls in, I “pay” my investment account a fairly large percentage of it and just learn to live with whatever is left.
I manually move a pre-determined amount to various accounts on paydays. I determine what my expenses will be, and any free money I KNOW I will need. The rest is deposited between savings and brokerages accounts. However, I always put the same amount into a Roth (aim to max it out). What keeps my spending/savings in check? Personal goals.