Around the beginning of the year I tend to get a lot of questions – both from clients and friends – about how to do a better job budgeting and saving on a regular basis. Studies have shown that saving money is one of the top five New Year’s resolutions, and is also one of the top five resolutions most people fail. The reason for that is simple: Our traditional version of budgeting is difficult to establish, time-consuming to manage and allows minimal margin for error.
That conventional method would say to limit what you’re spending in various categories then save whatever is leftover at the end of the month. I would argue that the better way to budget is to start with your savings and limit your spending to what remains. One of the biggest difficulties with traditional budgeting is that unexpected expenses tend to crop up every month. The most common “unusual” or “one-off” expenses I see are travel, gifts (especially around the holidays), vehicle and pet expenses. No matter what it is, something always comes along to blow a hole in the side of your budgeting ship and prevent you from saving what you should.
So rather than piecing together a savings plan based on your spending patterns, I’d encourage you to try building a spending plan based on your savings. The steps to do so are below:
Step 1) Identify What You’re Saving For
Research has shown that we’re much more likely to save toward specific, stated goals than just for the sake of saving. It may sound like a simplistic exercise, but I encourage everyone to think about what they’re really saving for. That may be big expenses like a down payment on a home, or smaller ones such as holiday gifts and travel. Once you’ve done that…
Step 2) Name Your Savings Account(s)
Once you’ve identified what you want to be saving toward, it’s helpful to label your savings account(s) accordingly. That way when you log into your banking app you don’t see “Checking “and “Savings,” you see “Checking” and “Italy Trip.” You’re much less likely to justify “borrowing” from your dream vacation than from a generic savings account!
Another helpful step when saving toward multiple goals is to have separate accounts for each one. Many banks make it easy to open multiple savings accounts and nickname each of them based on your goals. That way you can track exactly what progress you’re making toward each one of your goals.
Step 3) Automate Your Savings
Based on the goals you set in Step 1, now decide how much needs to be saved toward each. For example, if that vacation next year will cost $1,800 then you’ll need to set aside $150 per month. If you need to earmark $1,000 for holiday spending then begin saving $83 per month now. Whatever your savings goal(s), calculate out what you need to set aside every pay period and set up an automatic transfer to that savings account. For longer-term goals – outside of the coming 12-18 months – I recommend investing that cash each month in a conservative, diversified portfolio.
Step 4) Spend the Leftovers
Once you’ve established your short- and long-term goals and set up your automatic savings, whatever is left in your checking account is free to be spent!
The obvious question I typically field is, “what if there’s not enough left over to make ends meet?” If that’s the case then you may be setting savings goals that are too aggressive or, worse, have fallen victim to lifestyle creep. I encourage everyone – both clients and friends – to be realistic with your time horizons and start small with your savings goals.
Having a plan for your savings, no matter how small, is much better than not saving at all. If you have questions about or need help with establishing a smarter savings plan, our Wealth Managers are here to help! Our Young Professionals (YP) FIT™ program and FIT™ Perspectives podcast can be a great resource for getting started building out a long-term plan for financial success.