One tool that any person can use to save money is to open a few very low cost bank accounts. In order to start using this strategy you should apply the pay yourself first principle into you life. This principle states that before you pay anything after receiving a pay check you pay yourself first. That is, you allocate a fixed percentage of your income into different savings accounts each one of them with a special purpose. For example you may have one account for your children’s college education, one for a family trip, one to gather money to start investing and an emergency fund. The idea is that you use the money in each account only to fulfill their purpose. At first the balances will look small since you will be splitting you self payment between a few accounts but as time passes your accounts will grow. Keep in mind that you have to be realistic when you use this strategy for it to give you good results and you have to be disciplined with your personal finances. A flat tire is not a reason to sell your stocks or start to pull money out of your child’s college fund so you really need to be serious if you want to be successful with this type of planning.
Here’s how I do my budget planning:
First I compute all my average expenses per month to determine how much free cash I have. When I compute expenses I only include expenses that are a necessity. For example: groceries, utilities (avg. bills), rent or mortgage (depends if you own your home) and gas (You need to go to work to keep your money flowing.) and any other debt (I personally avoid credit cards, and unnecessary loans at all costs).
Note: When calculating my expenses I do not include Cable TV and other entertainment expenses because I can cut them if I feel they are holding me back from reaching my goals. This includes premium cell phone plans and even the internet since I can post from anywhere that has free Wi-Fi access if necessary.
Then, I use a simple math equation to determine what percentage my monthly income is free cash. The equation is: Monthly Income – Average Cost of living Expenses / Monthly Income x 100). When you substitute in this equation what you are actually doing is you determine how much free cash you have by subtracting your expenses from your income and then dividing it by your income again and multiplying it by one hundred to come up with the percentage of free cash you have each month. From this percentage is where you determine what percentage of your income you will split among your accounts. For example if your free cash is around 17% you may choose a 7% self payment and keep the other 10% handy to pay other things that are not really that important like cable TV and other entertainment related things. In my case, I split all my free cash across different accounts because I have a secondary checking account that I use to limit my daily spending in order to avoid compulsive shopping (Can’t get enough music albums and books).
My bank accounts look something like this:
Checking #1: Has a debit card in order to avoid having cash in my pockets unless necessary. I use it to pay bills and buy groceries after budgeting and have some cash for daily use.
Checking #2: This is where I get my job income payments deposited as well as my online income. After the budgeting step this account keeps some of the free cash in order to be able to electronically transfer cash to checking #1 as needed. It has no debit card associated with it.
Checking # 3: This account is used to save for clothes, shoes, perfumes, bed sheets and other household related items that I use daily. Of course this account gets a lot less cash monthly than my brokerage account and Savings #1 and #2.
Brokerage #1: I hold my investments in this account. It pulls money weekly from checking #2 and receives the highest percentage of my self payments including everything my online assets generate. I also call it the financial independence account. All stocks are set to automatic dividend reinvestment.
Savings #1: The purpose of this account is to accumulate enough money to cover my expenses for three months. After I reach what I think I would spend in three months I take the money out and allocate it into a CD that matures every three months and set it to automatic renewal. The goal is to have four CDs like these in case I lose my business or something goes wrong and I cannot work. After the four CD plan this account turns into an emergency fund that can cover anything from car repairs to health issues.
Savings #2: I use this account to save the necessary money to make an upfront payment to buy a house. (I still rent.)
Savings #3: I use this one to save cash to build a home music studio. It is one of my dreams but it is costly. It is the account that receives the least amount of money monthly because it is a hobby that can wait.
Remember that the idea of this strategy as a whole is to reach your dreams slowly so always have one account to save money to use for anything that you wish. May it be traveling, buying a car or even a private jet if that is what you dream of.
I don’t have kids at the moment but if I had then I would include a second brokerage account to invest for their college education. If you decide to use this strategy create accounts according to your goals and try to open accounts that have little or no fees. The banking services I use have products that have no annual or monthly fees and that allow me to make transactions between them online for free. To make withdrawal transactions from my savings accounts I need to visit the bank which I find very useful since it keeps me from getting money out of them easily, but I can get cash deposited in them easily online and that is what I am looking for. Soon I will open a Roth IRA in order to start funding my retirement with assets such as dividend stocks and other types of securities. An IRA is one account that no one that plans to retire at some point should live without.