Part 3: Saving and Spending Money

[Part 3 of 12 in a series on How to Turn Your Financial Goals into Reality.]

Life is much more simple and enjoyable when we focus on the basics. Your automobile works better when you pay attention to the engine, the human body functions optimally when the heart is healthy, and a sturdy house is one that is built on a strong foundation.

The same logic applies to the world of personal finance—a financial plan can be either strengthened by liberal saving or eroded by uncontrolled spending. Remember the 80/20 Rule from the previous article? The rule states that 80% of one's results come from 20% of one's activities. Consider the attainment of the proper balance between saving and spending as the primary activity that will produce 80% of your financial success. This is not always easy to do, but it is absolutely a pre-requisite to realizing your financial goals.

LET IT FLOW

One reason so many people struggle with personal finances is they fail to devote enough time to the fundamental aspect of cash flow. Cash flow is nothing more than the net result of your saving and spending over a period of time. If spending exceeds savings, then a negative cash flow results. This is not good. In fact if you were a business, a persistent negative cash flow would indicate an eventual bankruptcy. However, a strong positive cash flow (i.e. savings exceeds spending) will provide the individual with tremendous opportunity to accumulate assets to meet future financial goals while sustaining current needs.

Developing a financial plan or establishing financial goals will mean very little if one fails to address the basic issue of living within our means. Ultimately, we must be willing to limit spending in order to increase savings. Regardless of one’s income, this is a crucial step in realizing financial success.

THREE SIMPLE RULES OF A SUCCESSFUL SAVER

1. Save first, spend second
Most people attempt to save what’s left over after expenses.
Prosperous people save first and adjust their expenses to what’s left over.

Never wait for the end of the month to determine how much you can save based on what hasn’t been already spent. Deposit your pre-determined savings amount first and then arrange your life to live on the balance.

This is a very simple concept and it does work!

2. Automate your deposits
Setting up an automated system for depositing a portion of your paycheck in a savings or investment account is a great way to accomplish your savings goals. Most people find it much easier to save when they are not required to make separate deposits each time they get paid.
If your employer does not offer automatic saving deductions, then the bank or credit union where you maintain a checking account can arrange a similar transaction.

3. Increase your savings rate incrementally over time
In order to save more you will need to change spending habits. Start out by setting relatively small savings goals. Once your savings account is growing at a noticeable rate, you will become excited about the prospects for its future growth. The motivation to save even more money is increased as the ease of reaching smaller savings goals is recognized.

Each time you receive a raise, consider increasing the amount earmarked for savings. If you collect a bonus or an unexpected financial windfall, direct at least a portion to your savings account instead of committing the whole amount to purchases.

SO HOW MUCH DO WE NEED TO SAVE?

Different people will have different needs, but I use the following as a starting point:

Save at least 10% for long-term use (retirement, for instance)
AND
Save at least 5% for short-term use (emergencies, repairs, replacement items)

It may take some time to work up to saving 15% or more of your income, especially if you are not in the habit of saving money already. The keys to making this happen are the three simple rules listed above.

SUMMARY

While the practice of budgeting and saving seems tedious and is avoided by many people, the result is highly beneficial to increasing prosperity. These basic financial aspects must become habitual if one is to ever achieve any measure of financial success. The good news is that, unlike some events in life, it is completely within your power to control spending and increase savings.

In the next article I’ll provide even more tips for saving money and limiting your expenditures in order to increase your cash flow and build wealth.

Dale A. True, Registered Investment Adviser
True Financial Strategies, LLC
June 2008

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