While “pay off debt” and “save” once again top New Year’s Resolutions lists, research shows 75 percent of us will fail to keep those resolutions within three months. The problem is typical budget approaches and products simply track past expenses and mistakes but provide little insight into the money behaviors we need to change.
We advise our clients to consider money past, present and future as they manage household finances and build their savings. It’s that simple. With this approach, which we call the “First Step Cash Management System,” individuals allocate money in three different buckets, or accounts:
- The static bucket is your 30-day money, or money past account. This is what it takes to run monthly households including mortgage, utilities, car payments, credit cards and other usual fixed expenses. This account reflects past decisions. It’s critical you know how much it takes to operate your household for one month with no surprises. Once you determine the amount you need for these fixed-expenses, you can use an automatic bill payment program as a way to manage these expenses.
- The control bucket is your seven-day money present spending account. These are the funds for today or within the next week including such lifestyle expenses as dining, recreation, hobbies, groceries and gas. You need to understand your spending habits, determine how much you need to maintain your standard of living, and find a way to monitor and control those expenses. To manage this account, determine an appropriate amount and make sure your spouse or other family members agree. Also, establish ahead of time spending limits for larger items, for example $50 or $250 requires approval. Consider using cash (think of it as an allowance) for the control account or set up a side checking account with a debit card
- The dynamic bucket funds the future, including holiday gifts or vacation, cars, education and retirement. This is the money that allows individuals to reach their goals. You identify how much dynamic money you should have each month and harness this extra cash automatically such as an automatic transfer from checking to savings program. Manage the dynamic account by identifying your large annual expenses such as travel, home projects, furniture and clothes. Identify your short-term goals: pay off debts, buy a house or car, or build a cash reserve. Then, identify your long-term goals: fund retirement, children’s education or start a business. Finally, set up separate accounts and have money automatically invested into these dynamic accounts for the expenses and goals you identified above. Most banks will allow you to set up several accounts without fees.
We’ve found that for the first time in their lives, First Step followers understand their money. They know the consequences of their choices and can identify what changes they need to make to lead the financial lives they would like to have. It’s that goal orientation that’s the essence of First Step. One First Step follower determined she wanted to pay off debt in 18 months but with a First Step approach, she was debt-free in just six months.
The good news is recent research found more than half of those surveyed have started to track their finances more closely as a result of the economic downturn. But unfortunately their methods focus on looking at the past, not ahead. They use online bank statements, check registers and credit card receipts to monitor their money. That takes time and work, unlike the First Step approach, where simplicity and a forward focus is what positions followers for success. This year, when it comes to your money management, take a step forward, not back.
By Eric Kies, CFP®
Special to FPA
