Rule #1: Spend Less than You Earn

In order to save and invest for our financial goals, we must live within our means – it is really as simple as that – but often challenging for many people to accomplish. All financial goals require a savings plan, but if all cash flow is allocated elsewhere, these goals cannot be funded.

The only way to really know if we are living within our means is to compare and analyze our income and expenses. This is where tracking spending comes into play. The importance of tracking cash flow was discussed in detail in the two previous posts – A Financial Fresh Start and The Voyage to Financial Independence. Once a tracking system is put into place, review sources and uses of funds and make determinations as to where modifications may be made to potentially free up additional funds for savings goals.

Automating the savings process can also go a long way toward making goals become a reality. If we choose to “Pay Ourselves First” with an automated savings program, our financial goals will become an integral and consistent part of our monthly savings and spending plan.

First, we need to identify what our financial goals are, prioritize them, and determine how much to commit to each one. The first financial goal everyone should absolutely consider is an emergency savings fund. A minimum amount to initially target would be to save one month worth of net pay. Ultimately, your emergency fund should be targeted at 3-6 months of average household expenses. If you have any credit card debt, it is wise to first fund the minimum 1-month target amount then aggressively tackle the credit card debt. That way any expense hiccups along the way won’t require using a credit card as backup.

After the credit card debt is gone, the full 3-6 month emergency savings target can be the new goal. One caveat, however, if you have a retirement plan through an employer that offers a matching contribution, highly consider contributing enough to take advantage of the full match even while paying off credit card debt. Best not to walk away from free money.

Once the emergency savings goal has been accomplished, you can move on to funding other financial goals. The big one is usually saving for retirement. How much to commit to this goal can vary significantly from person to person. The length of time prior to your planned retirement date will have a large impact on the retirement funding requirement. A general rule of thumb is to save at least 10% of gross income, but 15% or even higher may be more appropriate, especially if you are getting a late start on this goal.

When hearing a 10-15% retirement savings target, many people lose hope in accomplishing this goal. The best way to get started is to choose a percentage that is achievable at the outset and then increase it periodically until you reach your target percentage. An increase in income, from a raise or job change, can be a perfect time to make a commitment to raising your percentage to savings.

Additional financial goals can be set and funded in much the same way. The key aspect is that in order to fund these or any financial goal, there must be ample resources for savings. The only way to accomplish that is to have income in excess of expenses allowing for these savings targets to be accomplished. Tracking income and spending is necessary to ensure we are able to meet our goals, and automating the savings process can have a major impact on reaching our objectives.

None of our financial goals are really possible without Rule #1: Spend Less than You Earn