Worldwide Success

When it comes to managing our finances, there are some very basic concepts that cannot be changed or ignored, despite of the fact that we may not like them.  One of these is the fact that the only way to accumulate wealth is to spend less than we make.  This is true for everybody.  So, even people with very high incomes have to manage their spending in order to be wealthy.

If you want to improve your financial situation, the question is not whether you should save or not.  The question is how much should you save?  The average savings rate in the US, which roves wound 1%, is not very encouraging.  Americans seem to save an insatiable appetite for spending. With the proliferation of credit cards, it is becoming harder and harder for the average person to control their spending.  But you should not be discouraged.  We will show you here how to manage your money so that you can achieve your savings goal.

But before we answer the first question about how much you should save, there is a more fundamental question that you need to answer first:  what is your financial goal?  Let’s say you want to become a millionaire in 25 years, and you are starting from scratch.  Let’s also assume that you will invest all of your savings and achieve a 10% rate of return.  Finally, let’s assume a 3% rate of inflation.  In this case, you will need to save US$1,200 a month in order to accumulate US$1,000,000 in 25 years.   If your income is the average American household income of US$72,000 per year then you need to save 20% of your income in order to achieve your financial goal (see the article “How to become a millionaire”).

Saving 20% of your income is a tall order for most people.  If you are new to this, a better place to start maybe 10%.  If you can stick to a 10% savings plan for an extended period of time, let’s say, for at least a year, then you can try to gradually increase your savings rate to your desired goal.   One of the best ways to get started on a savings plan is to pay yourself first.  That means, when you get paid, take 10% of your pay and put it aside in a savings account, or better yet, in a good mutual fund.  Then pretend you never had that money.  Now, this only works if you are disciplined enough not to spend the money anyway and accumulate debt.   So if you put 10% of your money away earning a 10% return, but keep spending through your credit card, paying interest on your debt at a rate higher than 10%, you are defeating the purpose.

The key to sticking to your savings plan is to control your spending.  But you can’t control something that you are not measuring.   So the real secret to a successful savings plan is to understand where and how you spend your money and then figure out areas where you can reduce your spending.   There is a hard way to do this, and an easy way to do it.  The hard way is to collect receipts for everything you buy, and at the end of the month add up the amounts for each type of spending: add up all your groceries receipts and all your eating-out receipts and put them under “food”.  Add up all the receipts for money you spent on clothes and put under “clothing”, and so on and so forth.  After you have added up all your receipts and categorized them, you will know exactly how much you have spent in each of your categories and you can start to paint a mental picture of where you are spending your money.  What you will find may surprise you – and that is good.  Awareness is the first step to recovery.

Now, if adding up receipts and categorizing them every month sounds like a lot of dull work to you, you are absolutely right.  Most people will not have the discipline to stick to it.  So let me tell you the easy way to do it: start using personal finance software.  My favorite is Quicken.  The nice thing about Quicken is that it will automatically download all of your credit or debit card transactions and categorize them for you.  At the end of the month all you have to do is run a report, and voila!  You have an instant view of your spending patterns and you can automatically compare what you are spending in each category versus what you should be spending.  Yes, we are talking about the dreaded “b” word here – budgeting.   But at least this is an easy way to do it.  (see the article “Using personal finance software for your success”).

Once you understand your spending pattern, you need to start making plans to cut your spending in areas where you feel you are overspending.  In some cases, this will be obvious to you.  In other cases, it will be more difficult.  Be patient with yourself.  Start cutting a little here, a little there, until eventually you hit your savings goal.

Let’s take a look at a hypothetical family of four, earning the average American household income of US$72,000 per year.  Here is what the family budget might look like with a target savings rate of 10%: 

• Transportation – US$3,600 (5%)
• Clothing – US$1,440 (2%)
• Household – US$2,160 (3%)
• Housing – US$18,000 (25%)
• Food – US$7,200 (10%)
• Recreation – US$1,440 (2%)
• Education – US$3,600 (5%)
• Utilities & Phone – US$3,600 (5%)
• Medical & Dental – US$720 (1%)
• Insurance (Medical, Life) – US$2,880 (4%)
• Taxes (Federal, FICA, Medicare, State) – US$12,960 (18%)
• Other Miscellaneous Expenses – US$3,600 (5%)
• Charities – US$3,600 (5%)

 TOTAL SAVINGS – US$7,200 (10%)

Obviously this spending pattern does not apply to every family, and you need to find the right balance for your own situation, but at least it gives you a starting point and something to compare to.  Now let me challenge you.  Could you save 20% earning the average American household income?  Here is what that budget might look like:

• Transportation – US$2,280 (4%)
• Clothing – US$1,080 (1.5%)
• Household – US$1,800 (2.5%)
• Housing – US$18,000 (25%)
• Food – US$6,480 (9%)
• Recreation – US$1,080 (1.5%)
• Education – US$2,880 (4%)
• Utilities & Phone – US$2,520 (3.5%)
• Medical & Dental – US$720 (1%)
• Insurance (Medical, Life) – US$2,880 (4%)
• Taxes (Federal, FICA, Medicare, State) – US$12,240 (17%)
• Other Miscellaneous Expenses – US$2,160 (3%)
• Charities – US$2,880 (4%)

TOTAL SAVINGS – US$14,400 (20%)

Let me tell you, to the average American family that saves around 1% per year, 20% savings may seem like a lot.  But with some planning and some discipline it can be done.  Think about all you can do with your savings: college for the kids, a comfortable retirement, and maybe even a more comfortable house.  All of those small sacrifices will definitely be worthwhile once you start reaping the rewards of you savings plan.

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