Category Archives: Saving

Managing Your Money and Your Life: Spend Wisely

- (No) Budgets , Saving , Spending , Uncategorized

Imagine buying that new laptop you saw advertised. At the register, the associate doesn’t ask for money. Instead, she sends you to the back of the building to work 35 hours to cover the cost of your purchase. Immediately you wonder, “Is it worth it?”

For every buy, we’re actually trading the hours of work it took to earn the money, plus a lot more besides. Money is simply a way to store the life energy we put into working so we can use those dollars later for what we want.

In their book Your Money or Your Life, Joe Dominguez and Vickie Robbins expand on the concept of “money = life energy.” This idea has had a number of voices over the years. When you’re looking for financial freedom, it helps to think about money and personal finance this way.

Life Energy and Time

If saving money lets us store life energy, what’s life energy? The U.S. Bureau of Labor Statistics’ American Time Use Survey tells us we spend about 13 hours per day on basic needs like sleeping, eating, personal care, household chores and getting around. This leaves just 11 hours per day—only about 4,000 hours per year—for pursuing meaningful goals and wealth building. Our precious 24 hours each day plus the vitality (or lack of vitality!) we use to live them can be called life energy.

So the process of earning money converts life energy—taken from those 4,000 hours per year—into currency. It takes more than we think to trade life energy for money. For instance, the typical professional likely spends 8 to 11 hours each weekday working, getting to and from work, preparing for work and recovering from it. That means about 70% to 80% of our useful life energy gets converted to money. The sanity of that trade is for another post…

Real Earnings

Since spending money is really spending life energy, our money management efforts should include getting maximum happiness out of every dollar. But a dollar earned isn’t really a dollar! Just for kicks, let’s look at your real hourly wage, because there are work-related costs we don’t always think about.

Take your weekly after-tax take-home pay, subtract work-related expenses (like special clothing, dry cleaning and commuting costs) and divide by the number of hours a day you’re working or doing job-related activities. Here’s an example:
$1500 weekly take home pay – $100 gas – $25 dry cleaning = $1,375
40 hours working + 3 hours preparing for work + 5 hours commuting + 3 hours recovering + 4 hours checking e-mail at home = 55 hours
$1375 / 55 hours = $25 per hour (real hourly wage)

Scary, huh? Obviously the money we earn comes only at the high cost of life energy, which has great value. That brings me to the question of whether time is money or if money is time. Saying, “Time is money,” implies that money is the more valuable of the two, so we shouldn’t waste time because we’re wasting money. The truth is the opposite: Money is time, which implies that time is most valuable. We don’t want to waste our earnings because that wastes time.

Our most valuable non-renewable resource is time. We won’t get more years, days or minutes, and none of us knows how much time we have left. Time is wasted if we don’t do what we want in life. Managing money means we store it and consume it later to achieve our goals, have meaningful experiences and perhaps pass a little along to others who are special to us.

Something New to Try

That really cool iPad® costs not $500, but 20 hours ($500 / $25) of life energy! Are we handcuffed resentfully to our jobs because of what we’re buying? Or is it worth it?

Try this: Before making your next purchase, consider how many hours of scarce life energy you’re exchanging for the item. Then ask yourself if you’ll get enough pleasure from it to justify all those working hours. No matter the answer, you’ll be making a conscious choice that contributes to your happiness—and the value of what you have will increase in your eyes!

Ask Moneymentals: Using Credit Cards To Save Money

- Saving , Uncategorized

We’ve all heard of people doing crazy things with credit cards to earn cash back or airline miles but do really successful people do this?
We ask Michael Goldman CFP® and creator of Moneymentals about credit cards and using them for getting richer.

Once Upon an Emergency Fund

- (No) Budgets , Saving

Emergencies are no picnic. There’s nothing like the dismay, panic and anxiety, followed by that rush of adrenaline to solve the problem. No solution can mean double the emergency. With finances, unfortunately one emergency often leads to another. A single emergency can be a huge setback for your financial freedom—unless you’re prepared.

What do you do in an emergency? Call 911. This blog helps you set up a “911 fund” that will be there when you need it

Understanding What an Emergency Fund Is For

An emergency fund is your cash cushion against loss of income or truly unexpected expenses.
Here are some examples

You lose your job. Finding another takes time, but the bills won’t wait.
You can’t work due to an illness. Even if with disability coverage, there’s usually an exclusion period of three to six months during which bills must be paid.
Your car breaks down and needs extensive repairs. Large, unforeseeable expenses go beyond standard maintenance.

An emergency fund is not a substitute for poor planning. “I need to buy Christmas gifts,” isn’t a reason to call 911. Christmas comes each year, so plan and save for that. An emergency fund also isn’t a reason to make a big purchase on a whim because the advertisement says, “Act now!”

Calculating the Amount

Opinions differ as to how much should be in your emergency fund. I recommend three to six months of living expenses. However, it doesn’t hurt to have more. Some retirees keep two years’ worth.

Use your living expenses, not income, to calculate the amount. Do you know the total of your basic expenses during a typical month? If you’ve read my blog No Budget Way to spend Less 7 Save More, that’s what goes into your “Spend account” every month. My blog about uneven cash flow might help with irregular income and expenses.

Choosing Where to Put the Money

When calling 911, time is of the essence. Liquidity and safety are most important, so your emergency fund goes in the bank instead of a higher-interest investment vehicle. Sometimes online banks offer good returns (see www.bankrate.com).

Handling the Tradeoff with Debt

Your emergency fund comes before other priorities even if you have debt and want to pay it down. Before beginning any debt-reduction efforts, have at least a month or two of expenses in your emergency fund. Why risk plunging further into debt when an emergency fund can handle the unexpected?

Using Credit

If you’re suddenly strapped, a credit card might fill the emergency fund role temporarily. It’s not a good practice long term.

Some argue that good credit, a large home-equity line of credit and high credit-card maximums can cover for them instead of having a lot of cash in the bank. Be careful. Instead of relying on credit, get a three-month emergency fund first. Your good credit can be a second-layer backup to give you a total of six months. You must have cash in reserve, because it’s tough paying a mortgage with a credit card, and every credit card comes with a minimum monthly payment. Do yourself a favor: Get a cash cushion to avoid bad situations. It’s about balance.

Another second-layer backup can be a Roth Individual Retirement Account (IRA) if you qualify for one. Unlike other kinds of IRAs, you can withdraw the principal without taxes or penalties, subject to certain restrictions. However, don’t make a habit of pulling money out of your Roth IRA! Before considering credit or a Roth IRA as part of your plan for emergencies, you should have three months’ expenses in cash in the bank.

Avoiding Discouragement

If it costs you $5,000 each month to live, you need $15,000 to $30,000 in the bank. Don’t be intimidated by that. An emergency fund is not all-or-nothing. If you’re able to save a month’s worth of expenses, that’s one month toward financial freedom! You can increase your fund from there and work in saving priorities too. At three months you might put some savings elsewhere, then later build your emergency fund up to a full six months.

You can do it!

Ask Moneymentals: Building Wealth On A Cash Income

- (No) Budgets , Saving , Uncategorized

Let’s say you earn a lot of cash in tips as a bartender: how do you minimize your taxes and invest this cash?

How do you manage an irregular income?

Michael Goldman, CFP® and creator of Moneymentals helps us figure our some strategies to make that cash work for you.

How to Make Money: Find it

- Saving , Uncategorized

Ever look at your bank account or wallet and wonder where the money went? If you were the U.S. Treasury, maybe you could make money—literally—and replenish it right away! Many people balk at the idea of drawing up a budget and watching every penny as they attempt to follow a plan. At Wealth Gathering, we don’t believe in budgets—but we do believe in spending less. That’s how to make money, because you end up with more of it.

Money has the uncanny ability to disappear. The title of this blog says, “Find it.” Does that mean loose change in the dryer or a five in your jeans pocket? You’re close, because part of our secret of how to make money involves what you have already.

Understand any Mindless Spending Habits

We emphasize behavioral economics, which includes the study of how we as humans sometimes act irrationally with our money. For example, we usually have habitual patterns of making mindless purchases—sometimes beyond our means. These buys add up fast. Maybe we toss things we don’t really need into the shopping cart, purchase an excess of toys or video games for the kids, buy extra calorie-laden goodies or dine out at expensive restaurants too often. Then there’s remodeling the kitchen, taking that expensive vacation or getting the big entertainment set we know we can’t pay off this year. The list goes on.

We really don’t have to tell you how to make money. Most people are already doing that. The secret is finding and keeping those dollars before they’re gone! Think about purchases you’ve made that led to apathy, disappointment or back-of-the-closet items. How much money could you have saved?

Save Mindlessly and Spend Consciously

Mindless spending might have you in its clutches, but there’s hope! Try these helpful tactics that take into account how people tick:

Make saving the default option: Most people won’t transfer money deposited from their paychecks to a savings account immediately, so there’s an illusion of plenty and a license to spend! You need to make better choices with your money. You can start by having your pay deposited to savings rather than checking.
Use our no-budget method to decrease spending: My blog The No-Budget Way to Spend Less and Save More gives you a detailed plan for finding money by lowering the amount you spend each month little by little. You’ll hardly notice!
Pay attention to the extras: Do you always buy lunch instead of packing it? There are lots of ways to find money by avoiding those small expenditures that add up. Interestingly, when the extras you buy are less expensive and less frequent, the small pleasures mean more.
Don’t rely on willpower: Structure your life so spending decisions don’t come down to willpower when your resolve is weakest. By steering clear of temptation, you end up with more money and less stress.
Label your savings categories: Find ways to trick yourself into keeping the money you find by defining categories you’re saving for. Using mental accounting, decide on labels for each category, such as “next year’s vacation,” “new skis,” “retirement account” and “kids’ camp.”

Learning better ways of spending and saving keeps old habits from robbing you of money you already have. Most of us don’t need to learn how to make money. The good news is that it’s waiting to be found—and put in the right places so it adds meaning to our lives!

Ask Moneymentals: Splitting Money As A Couple

- (No) Budgets , Saving , Spending , Uncategorized

Know a cohabitating couple trying to make it work in love and finances?

Michael Goldman, CFP® and creator of Moneymentals helps couples figure out how to split their finances fairly.

What is Behavioral Economics

- Business , Saving , Spending

There’s nothing like a good buzzword—especially when you really know what it means. Here’s one that’s more valuable than you think: behavioral economics. It holds a surprising answer to why, despite all good intentions, careful planning and firm resolve, you can depart from reason and deviate from your financial goals until you’ve lost sight of financial freedom completely.

Much of traditional economic theory assumes we’re always perfectly rational beings who make money management decisions based on our own financial best interest. We all know that isn’t true. Behavioral economics is that blend of economics and psychology that examines how we really behave and make decisions around money versus how we’re supposed to—if we were robots, that is. An automaton would always have textbook financial behaviors based on pure logic and reason. We humans, on the other hand, are influenced by emotion, people around us, unreasonable thought processes, personal biases, changes in risk tolerance and so on. We’re somewhat irrational.

Irrational, but Predictably So

The best way to describe how people behave when it comes to money is a term coined by Dan Ariely and used for the title of a bestseller he authored: Predictably Irrational. We tend to be emotional, not rational, with money. Fortunately, our irrationality is predictable.

Behavioral economists have observed how we make certain decision errors in the same types of circumstances over and over. We’re pretty predictable and consistent. The value of discovering the patterns in our irrationality is that we can begin addressing it. Think about flipping a coin example. In a well-balanced coin, we know heads should come up about half the time. But if we know that the coin is weighted slightly so that heads comes up more frequently, we can use that info to guess heads and be right more than half the time. The same with human behavior – if we know about our tendencies, we can predict behavior and arrange the situation to take advantage of those tendencies.

Financial irrationality extends across society. However, according to the book Nudge by Richard Thaler and Cass Sunstein, it’s possible to structure our policies and financial services industry to nudge people to do what’s in their best interest. Here’s an example: By making automatic enrollment in an employee-sponsored retirement plan the default option instead of making non-enrollment the default, more people would participate in retirement plans. Why? It’s human nature to take the default choice because it requires no effort.

You can address the irrationality in your own habits by taking a look at some of the decision errors people often make.

Common Decision Errors

Many common financial decision errors involve predictable irrationality that’s tied into the difficulty our brains have with understanding probability.

One decision error we can fall into is described in my blog Mind Your Money: Optimism and Illusion of Control. By making the mistake of maintaining an all-pervasive optimism that includes the idea that we’re in control of things, we might think we’ll succeed when others can’t or win when the odds are against us. This can take the form of things like attributing lucky investment choices to skill, having early financial successes and expecting to repeat them, keeping a low emergency fund or none at all, and disregarding the need for insurance or estate planning.

We’re also prone to decision errors in our price perceptions. These errors relate to a common cognitive practice called anchoring. Anchoring is locking onto a certain price or value as a norm that influences our decisions about what we’re willing to pay.

For example, a loaf of bread is $5 where the cost of living is high, we’ll be willing to pay the same where the cost of living is much lower and we should be getting a better deal. This isn’t a big issue, right? Try it with a brand new car or a home! Anchoring can affect us when making large, infrequent purchases, negotiating prices, buying something unusual or assigning value to an investment.

There are all sorts of cognitive twists that can affect financial freedom. Some of these are loss aversion, representativeness, adjustment bias, cognitive dissonance, overconfidence, mental accounting, recency bias, availability and confirmation bias.

Money Management and Wealth Gathering

My blog Kirk vs. Spock: Human Nature Meets Personal Finance talks about what’s needed to tailor a financial program for humans with complex decision-making processes, this approach works with human nature—not just when it comes to decision errors, but through overall coaching and behavior changes around money.

How do I know if I’m Ready to Invest

- Saving

The fastest way to find the right answers is to ask the right questions—or at least ask enough of them. Good questions are homing devices for finding solutions and answers. Asking, “Am I ready to invest in the market?” is an intelligent question indeed. As you’ll see, it pays—literally—to look before you leap!

If your goal is financial freedom, you’re more likely to succeed at investing by being prepared. See if the following four statements fit your situation.

My Emergency Fund is in Place.

Do you have an emergency fund? You need some liquidity so the unexpected doesn’t create a financial crisis. Ideally, this means three to six months of expenses in savings. Investing is counterproductive if all your cash reserves are tied up in the market, an emergency arises and you’re forced into debt or bad decision-making.

If you haven’t met this goal yet, every extra dollar should go toward your emergency fund before investing. If you’re investing already, pause until you build up your emergency fund.

I’ve Addressed Any Debt Issues.

Interest accrued due to debt can surpass potential interest earned from investing. By paying down debt, you’re actually making money. For example, someone paying 15 to 20% interest each month on a credit card gets a return of 15 to 20% compounded by paying more than the required balance each month!

There’s no stock investment guaranteed to yield 20% compounded. Debt reduction on a credit card is a great deal—so pay down that debt and congratulate yourself. You’ve just gotten 20% on each dollar.

I Won’t Need the Money for More Than Five Years.

Investment values go up and down with market fluctuations. When will you need the money you plan to invest? The market might happen to be down at that time. Historically, there have been times when the market is down over a five-year period, but they’ve been less dramatic and less frequent than over a one-year period. Any goal that’s five years away or less is not something you should invest for. Put it in savings instead.

Let’s take this concept further. Can you lose any of the money at all? For example, you’re investing to save for a down payment on a house. You think a downturn is unlikely within eight years. What a bummer if you go to buy that house and don’t have enough because the market fluctuated! The more certainty you need with your money, the less likely you should be investing it. Risk decreases when your timeframe increases, so investing is a reasonable risk when you have a long timeframe.

I Can Tolerate Some Risk.

This one’s more of a gut check: If you’re a person who’s uncomfortable with any level of risk, investing might not be for you. What if the value of your investments goes down a little? What if it drops a lot and stays down a long time? These possibilities should not be so disturbing that they terrify you.

I always advocate peace of mind. My blog How to Make Money: Save It explains why your most important goal is saving. It’s planting the seed. Investing is just extra fertilizer to help your savings grow. The fertilizer is optional, so you can always put your money into something very, very safe and avoid losing sleep over it. Your portfolio should reflect your risk tolerance, which usually changes with time and life events. If you’re not comfortable with investing now, some day you might be ready.

Getting Your Financial House in Order

Yes, investing is important, but it’s even more important to get your house in order first. Once you’re ready to start investing, should you do it yourself? That will be the topic of another blog…

The No-Budget Way to Spend Less and Save More

- (No) Budgets , Saving , Spending

You thought simple saving was within reach. You’ll do better this month, right?

Obviously we need a consistent, predictable way to decrease spending and increase saving. Despite this dilemma, we balk at the thought of completing a budget.

Why Budgets Don’t Work

Budgets are the traditional way of managing spending and saving habits. Yet psychologically and behaviorally speaking, budgets—like diets—don’t really work for most people. The New
York Times article Why a Budget Is Like a Diet—Ineffective tells us that human nature can foil the best of intentions!

Some people do well at budgeting. With couples, sometimes one person is more conscientious about money management and adhering to a spending plan. If you’re a good budgeter, keep it up, because it’s an effective tool. For the non-budgeting majority, there is hope! We can comfortably reduce spending and increase savings using the two-bucket spending method with a drip-by- drip savings plan.

The Two-Bucket Method

Behavioral economics research tells us we tend to separate in our minds various purposes we have for our money. This “mental accounting” can be to our advantage. If we have a purpose for a certain amount of money, we tend to avoid using it for other things.

The two-bucket method I describe here helps you start putting mental accounting to work on
paper! It’s simple:

1. Set up two bank accounts, preferably at the same bank. Ideally, one should be a checking account and the other a savings or money-market account. These are your two “buckets.”
2. Label the checking account your “Spend” account and the savings your “Save” account.
3. Link the two accounts so you can transfer money between them easily. Banks that allow you to set up automatic transfer via the Web (most do) are more convenient too.
4. Pay yourself first! Instead of depositing income into Spend, put it all into Save. If you have automatic deposits, direct them straight to savings.

Income goes directly into Save, so simple saving is your default option. Because the default requires no effort, you’re taking advantage of a behavioral economics technique called
automaticity. You are saving automatically and have achieved a big milestone for simple saving. Congratulations!

Saving Drip-by-Drip

Your mental accounting is probably already in gear. Here’s how to build your savings and imperceptibly nudge yourself to wealth:

1. Time an automatic transfer after each payday to move money from Save to Spend. The transfer amount should initially be 99% of your paycheck. If you are already saving, bravo! Set the transfer to preserve your current saving rate.
2. Always pay bills and take spending money from the Spend account. Keep track of your balance and don’t overspend it.
3. Each month, decrease your automatic funds transfer by 1% of your income. For example, if you started with 99%, transfer 98% from Save to Spend the second month, 97% the third month and so on. Each 1% is just $10 per $1000 in monthly income. If you’re paid $4000 per month, you’ll only be reducing spending by $40 per month. Painless!

Our brains are wired to notice sudden or dramatic changes, but not small changes over time. We find small ways to trim. It’s possible to reach a savings of 20% or more of income without suffering from the pinch. Bill payments and basic “creature comforts” are a must, so when things get too tight, that’s the signal to stop increasing the percentage.

Time for a Reward—and a Fatter Retirement Account

Phew—no budget! Once you have money accumulating in savings, reward yourself. One way is to take up to 50% of what you accumulated in the Save account after six months and do something special or fun, like a nice massage or a dinner out. What about the rest of the savings? Well… remember your New Year’s resolution to put more in your retirement account?

Simple Saving: Organizing Your Accounts

- Saving , Uncategorized

My financial spring cleaning happens early in the year as I prepare to file taxes. I usually go through my folder containing various documents I’ve accumulated for tax time. If you’re like me, you’re not perfectly organized either. In fact, after reading about the various accounts you need for financial fitness, you might think, “You talk about all these different accounts… What’s the simplest version I can assemble of that?” Today’s blog brings everything together so you can keep your financials in order.

Now is the time to organize and simplify. Why be bogged down in old paperwork and dormant accounts? You might have accounts you opened for a special purpose and forgot about or accounts you used before moving to a different city. You could have old 401(k) accounts from previous employers and investment accounts with various brokers. Let’s look at the easiest way to get organized!

Two Types of Accounts

You can categorize your accounts as either cash-flow accounts or saving and investing accounts. Cash-flow accounts are needed either for frequent access or as a 911 emergency fund. Saving and investing accounts involve money you won’t be touching for a long period of time.

Your needs are different with each type of account. When opening cash-flow accounts, look for convenience and low fees. Because the money isn’t parked for a long time, interest rates aren’t top priority. You can try squeezing out that extra .5% interest, but it’s not worth sacrificing convenience. A local bank or credit union where you can go in person is ideal, and online access helps.

Saving and investing accounts are different. You need good investment options—including index mutual funds and ETFs—and minimal expenses. Service is more important than convenience, because you don’t need a local branch. Look for high returns combined with low fees. Every percentage point of interest is significant.

Cash-Flow Accounts

Here’s a list of cash-flow accounts that help you reach and maintain financial fitness. Though credit card accounts represent cash flow, they’ll be covered in a later blog, and you only need one—or none!

Spending account: You use this checking account to pay bills and expenses each month.
Income account: This is a savings account where you deposit your paychecks. Automatically transfer your monthly “allowance” to your spending account as I’ve described in my uneven cash-flow blog.
Purpose-goal account: Use a savings account for accumulating money toward your short-term purpose goal.
A 911 Fund account: This is your emergency fund containing three to six months of expenses. Use an FDIC-insured savings account with a good interest rate, and remember quick access is of primary importance.

Saving and Investing Accounts

If possible, choose a single investment company for the saving and investing accounts listed here. The exception is a 401(k) or 403(b) account, because your employer picks the custodian.

A 401(k) or 403(b) account: This should be your current employer’s retirement plan. Contribute enough to get the employer match if one is offered.
Roth IRA: If you qualify, this is usually your first choice for easy investing for financial freedom. That’s after getting any 401(k) employer match.
IRA rollover account: If you have a 401(k) with a previous employer, roll it over immediately. You only need one IRA rollover account for all plans you’re rolling over.
Educational investment account: If you’re saving for your child’s college education, open a 529 education account. You only need one regardless of the number of children you have, and it’s a great place for cash gifts from the grandparents.
Other investments: To save for additional long-term goals, you may need a regular investment account, sometimes called a brokerage account. You need just one of these. If your goal is less than five years away, save the money instead of investing it.

Simple but Practical Financials

My simple saving blog helps you decide where to put your money first. It would be nice to simplify everything to the point of having only one or two accounts. However, to take advantage of tax savings and the mental accounting that comes with separating money according to its purpose, you’re best off with categories like I’ve outlined here. This strategy balances simplicity with sensibility.