With only a few days left in 2020, it is the time of year where many people chose to commit to a life changing goal. If you’ve made one, have you resolved to work out more? Read more? Or, like many Americans, are your New Year’s resolutions fiscal in nature?
According to an Inc.com survey (https://www.inc.com/peter-economy/10-top-new-years-resolutions-for-success-happiness-in-2019.html) conducted in 2019, the goal of “saving more money” was not only in the top ten most common New Year’s resolutions; it was also among the goals which households most frequently failed in achieving.
With that in mind, take a moment to review some strategies for 2021 to improve household savings and, more generally, your financial future.
DEFINE GOALS – AND DIVIDE THEM INTO SMALLER ONES
Goals that are so lofty as to not be realistic are, naturally, the most common to fail. Goals which are too modest may be easy to achieve but accomplish very little. In finance, it is best to have a larger goal in mind which can be divided into smaller goals. It is also advisable to have goals which are clearly defined. To save an extra $6,000 in cash by the end of the year is much stronger than to have a goal to “save more”.
The desire to build an emergency fund provides a perfect example of these principles. While the size of a proper emergency fund should vary based on factors such as the likelihood of a job layoff, the most common target is to build up an account that is the equivalent of six months of expenses.
Because this can create such a large goal as to be daunting, I always encourage clients to divide targets into a series of smaller goals. While accumulating one month of your expenses in escrow may not be enough to properly ward off an emergency, it is dramatically better than zero. Also, recognize that financial goals don’t have to be as binary as “pass” or “fail”. Make gradual progress and be encouraged as you reach the smaller checkpoints; even if it is taking you longer than projected to reach the broader goal.
SAVE IN A SEPARATE ACCOUNT (AND INSTITUTION)
It might sound pointlessly evident, but a key way to save money is to actually save it. Many saving goals unravel over time because money “saved” one month remains intermingled in cash flow as the next month begins. The easy way ensures that this doesn’t happen is to regularly segregate money being saved from other assets.
For households that have struggled to save in the past, one suggestion that often helps—especially when saving an emergency fund—is to create a literal division between accounts so the money at least feels less accessible. There are variations of this concept, but the basic idea is to hold money that is supposed to be accumulating at a separate institution. Create an extra step to access the money, such as having to go down to your local credit union to make a withdrawal. Money that doesn’t feel accessible is less likely to be spent.
Like successfully starting a diet on New Year’s Day isn’t about suddenly starving yourself, managing your spending isn’t about removing all of the things that bring enjoyment from your budget. Both fiscal and caloric diets are about discipline, cutting out things that you know are bad for you, and saving your “treats” for after you’ve reached your goals.
In fact, I never try to put clients “on a budget”, per say. Along with some clear goals, what most households need is to sequence their spending. I break this down into a general three-tiered hierarchy:
- 1.) Core expenses
- 2.) Goal spending
- 3.) Fun money
We will discuss this process in more detail in a future column. In short, monthly expenses should be budgeted for and withdrawn as soon as possible after payday. With modern banking, much of this can be automated.
With nearly as much priority, money for savings goals should be set aside. It may sound overly complex, but I like to develop this as “minimum” goals and broader targets. Minimum goals should be set aside the day you get paid.
Fun money represents the remaining cash flow. If a balance persists, this can be set aside to further larger goals the day before you get paid again. In fact, “fun money” can be a misleading term because much of it can be saved as well—especially if the household realizes how “fun” reaching saving goals can be.
CREATE A NET WORTH STATEMENT
For long-term success with financial goals (and with most other things), it is necessary to create accountability. This can best be established by creating and periodically updating a net worth statement. A household calculates its net worth by tallying the total of all assets and then subtracting its liabilities.
Don’t be concerned about whatever value you start with. Due to student and vehicle loans, the first time I ever created a net worth statement for myself it was negative. What is important is to see progress over time as assets accumulate and debts reduce.
Update your net worth statement at least once a year. If things move in the wrong direction, there should be an obvious explanation. In most years, forward progress will be made, and you’ll feel rewarded by being able to quantify it. At Liberty Tree Asset Management, we offer a complimentary tool to our clients that can be used for budgeting and tracking net worth progress over time.
If you have struggled with saving in the past but, in 2021, would like to turn it around, one further suggestion is to seek professional help. You may be surprised how affordable it is to have a relationship with someone who plays the role of a financial Coach. A good Financial Planner can help you establish goals and create accountability through periodic checkups. Plus, there is synergy in working with someone who has an interest in seeing your net worth climb over time.
At Liberty Tree Asset Management, except in unique situations we provide a complimentary financial analysis to prospective clients. Keep this in mind as you reflect on your New Year’s resolution to save more.
Financial Advisor, RICP™