Intriguing title? Doesn’t everyone want to keep more moola? Meaning, we all want to earn more, save more, and yes, even spend more. But how do we go about doing that? I believe there are just a few easy steps to implement, and you will be well on your way. Okay, let’s go.
Step 1: Know Your Income. In this critical first step you need to understand how much income you realize each week, each month, and annually. This seems simple, but this is not always as straightforward as you might think. You need to account for your net take home pay (after taxes and insurance costs), as well as any dividends, interest income, and other income you receive during the month and throughout the year.
Step 2: Know Your Expenses. Account for ALL expenses, large and small. This includes mortgage, equity loans, utilities, health club memberships, etc. If you give to your church, count that too. How about charity donations? Yes, count that as well. Anything you spend money on should be included. Clothes? Yes, that too. One note, don’t forget those expenses that you pay annually or semi-annually, such as life insurance and property taxes.
Step 3: Develop Your Budget. Based on all your income sources and expense items, develop your budget for each month, which will then add up to your annual budget. Why start with each month? Because each month may differ due to various income and expenses that occur at different times during the year. Therefore, take each month individually and then add them up once you have all 12 months complete for all income and all expense items.
Step 4: Understand Your Debt Capacity. This is important because credit card companies will continually offer you balance amounts that far exceed what you should have on credit. Additionally, mortgages and car loans are considered debt and need to be account for here. A quick rule of thumb is less than 20% of your gross income should be tied up in debt. In other words, if you have an income of $100,000 annually do not allow yourself to take on more than $20,000 in annual debt. On a monthly basis that translates to gross income of $8,333 and debt of $1,666. Most lenders seek a debt-to-income ratio of less than 35%, which for monthly gross revenue would be $2,916. Keep in mind that this is far greater than my suggested $1,666.
Why do I suggest 20%? Two reasons: 1. The less debt you have, the more you can save for retirement and college; and 2. The less debt you have, the more you own. In other words, the bank does not own your car or home, you do. I’d much rather have more in the asset column than liability column.
Step 5: Make Changes. I include this step because it is important to note that making such subtle and small changes can have a huge impact on your ability to save.
Let’s look at a couple of examples:
Example 1: The spreadsheet below provides you with a high-level income and expense statement example. Let’s pretend total pay is $10,000 per month and $120,000 per year. Taxes and Insurance are 30%, leaving you with a net of 70% of your Gross Income. I included some typical household expenses, such as mortgage, property taxes, auto loan, utilities, groceries, internet/cable, and other (all the miscellaneous expenses you may incur). The total amount of these typical expenses is $6,250 leaving a Net Savings of $750 per month, or just around 7.5%.
Example 2: Using #’s from Example 1, now increasing Gross Income by 5% and everything else remains the same. You have an increased savings amount of $4,200 per year. Not too bad. Maybe you should ask for that raise.
Example 3: Using #’s from Example 1 but decreasing some select expenses 5% (auto loan, groceries, internet/cable, and other). It’s assumed that decreasing your mortgage, taxes, and utilities may be difficult to decrease, so those expense items stayed the same. Other expense items, such as auto loan, groceries, internet/cable, and other were decreased 5%. With Gross Income remaining the same as shown in Example 1, your savings increased $1,950. Not great, but not terrible. This still represents a positive impact on your Net Savings.
Example 4: Using the #’s from Example 1 but the Gross Income increase from Example 2 and the select Household Expense decrease by 5% as shown in Example 3, look what happens to the Net Savings! Net Savings increases from $9,000 in Example 1 to $15,150. This represents nearly a 90% increase in Net Savings. Bottom line is that every dollar counts. Imagine if you could maintain this increase in Net Savings for seven years at 7%. Your Year 1 Net Savings $15,150 grows to over $130,000 by the end of the seventh year. That is real money.
Step 6: Create Your Savings Plan
Grow through these steps on your own and see where you can add some additional net savings to your financial plan. It is not easy but is well worth the time. Go through each expense item you incur, see where you can save. Ask your boss for that raise you have been hoping for. You might be surprised.
Good luck and happy saving!