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Day 8 Pay Yourself First

 

LEARN IT

Most likely, the way you’ve been letting money flow out of your life is to spend it on what you need and want now, and then put any leftover toward savings. But over the last few days, you’ve learned that savings have to take precedence if you want to stay on track to meet your goals.

As you may remember from Day 1, our goal for you was to shift the flow of money in your life to this:

Over the last several days, you’ve come up with new things you want to save for and freed up money from unnecessary spending. Now that you’ve done this work, you can start “paying yourself first,” which means siphoning a portion of your paycheck toward savings even before you spend any of it on your life now. If you do that, you’ll be taking care of your future self and will achieve your goals.

Your Savings Buckets

Aside from retirement, you should always have two savings buckets.

#1: Emergency Fund

Think about what would happen if you lost your job or if times got tough. How would you pay your rent, let alone manage transportation, groceries and the phone bill? Or what if there was a medical issue in your family and taking care of it required a procedure that insurance won’t cover? Wouldn’t it be nice if, at those times of crisis, money didn’t burden you further but gave you a little peace of mind? That’s your emergency fund. It’s your safety net at the time when you absolutely won’t want to worry about anything else.

We recommend having six to nine months of living expenses saved up, but if you are a freelancer with irregular income, then we recommend a year’s worth. Don’t be daunted by the idea of stashing that much away. Start with a goal of saving three months’ worth. Even with a small monthly contribution, you will see it start to grow, and you will see over time that you suddenly have a few months’ worth. Keep that up, and it will soon grow into a true safety net.

Make sure you’re holding the money as liquid cash in a savings account instead of tied up in investments. That way, in a true emergency, you can access it any time.

#2: Dreams and Goals

The second bucket is for your dreams—as distilled into your S.M.A.R.T. goals.

In order to make headway on your goals, you must literally pay yourself first. That means setting up discrete savings accounts, preferably not at the same bank where you do your checking, for your emergency fund and each one of your S.M.A.R.T. goals. Using a separate bank will make it harder for you to dip into savings when your resolve weakens.

Then—and this is important because this is the paying yourself first part—schedule regular direct deposits from your checking to your savings accounts on payday so you never even see the money.


Once you have this system in place, your cash flow will look like this:

 

GET INVOLVED

  • RLS85

    Do you think it is more important to contribute money to an emergency fund or to paying off student loan debt? Am I better off paying the monthly minimum on my loans and adding a small contribution to an emergency fund, or paying off my loans quickly and then working on an emergency fund later?

    • Anonymous

      Hi RLS,

      If the interest rate on your loans is less than 6% and you don’t have a lot of discretionary income every month, then we recommend splitting the money that you are putting towards debt repayment and savings like this: 80% toward emergency savings, 10% toward retirement and 10% toward debt payments (as long as you cover your minimum with 10%). Once you have a solid emergency fund, pay as much as you can toward the loan with the highest interest rate first, while paying minimums on the others. After you pay off that top loan, pay as much as you can toward the loan with the second-highest rate and continue like this until you’ve paid off your debt.

      If you have a lot of discretionary income every month and the interest on your loan is less than 6%, you can contribute equally to paying down your debt and saving for emergencies and retirement.

      If the interest on your loan is greater than 6%, then you should prioritize paying down your debt over building your assets. Split the money you are sending toward your debt and savings 80/20.

      Let us know if you have any other questions!

      Sincerely,
      Laura Shin

      • Glenda

        What is considered a lot of discretionary income every month?  Do you figure that based on a percentage of overall income?  For example, with a really tight budget (not a very sustainable one)… I have 20-25% “discretionary income” that I’m currently putting toward debt.  I’m hitting it hard because I want my debt paid by July due to other personal goals.

        • laurashin

          Hi Glenda,

          Good for you for prioritizing your debt payments! And that’s so great you are working toward other big financial goals!

          What we recommend is that 50% of your income goes toward what we call essential expenses, which are your housing, transportation, utilities, etc. Then 20% goes toward what we call financial priorities, which are debt repayment, savings and retirement. The remaining 30% we call lifestyle choices, and that is how much you can spend on the rest of your life — clothing, entertainment, etc. 

          Good luck, and let us know if you have any other questions!
          Laura

    • Anonymous

      Cash is king in this economy.  Do what it takes to build that emergency fund now!

  • Adegeb

    I do, but keep having minor emergencies.  This is making accumulating any significant amount difficult.  However, I have not had to use a credit card for emergencies, which feels great!

  • Suzfaust

    My husband has one. I don’t since I will stop working in a year or two when we have children. But he has a thrift savings plan at work. They match up to 5%, so that’s what we do, otherwise we lose the free money! But we start that day one of a new job always, so that way we never see the money and don’t miss it

  • Katherene

    The fact that you’re educating woman on their finances is simply a plus.  So many of us are just learning now more about making our money work for us.  So I applauded you for focusing on woman and helping them to create stronger finances senses.   

  • Liz Gren

    I opened an “emergency” fund in December of 2010 and started with $50.  By this year, December of 2011, I had grown the account to nearly $5,000 by making sure to set aside money from every pay check to that account.  Even when things were tight and I didn’t want to put money in savings I  always put a minimum ammount aside, I remembered how good it felt to know that I was starting a nest egg and this motivated me to keep saving.

    Does anyone have any recommendations of FDIC insured banks with high interest rates for starting up more savings accounts? I want to make sure I am making the best of my savings, but doing so safely!

  • Kristin K

    I do have an emergency fund but it definitely feels small at this point. I set up an automatic transfer at my bank to take 10% of every paycheck and put it into my emergency fund. That way, I don’t see the money or use it because it’s already been taken out when my paycheck is directly deposited into my account.

  • Manq

    Credit union pays 5% on balances up to $500 so we keep some there, then the rest goes into an ING account which is currently paying a paltry .8%. When interest rates were higher it was great! Transferring out only takes a few days so it is basically liquid.

  • Pve

    Over the years, I have saved coins and rolled them…and then deposit them weekly for my children.  Over the years the savings has accumulated.  Then I put the money in a CD and add to it when it comes time for maturity.  I find then putting the money out of site is a good way to save.  We also try to eat pasta several times a week.  It is one of the least expensive ways to save.  Going out can be fun but a huge drain financially.
    pve