This is a post about money from Greg, CFA. Speak to your Financial Advisor before following any of this guidance.
Understand Your Outflow
Use this time of the year to understand where your money goes. It’s difficult to stick to a budget, but it isn’t difficult to understand where you spend. Take that first step at looking at all of your credit card receipts and all of the outgoing payments from your bank accounts.
If nothing else you will notice themes and opportunities to cut back (e.g. subscriptions and recurring payments!). Then in a few months when you receive your W2 and other income related tax documents you can have the foundation to build a budget.
Make a Budget
You would not expect to build a house without a blueprint. Why, then, do you expect your budget to work itself out without really writing everything down and planning everything out?
Creating a budget is surprisingly simple. It may seem overwhelming because most of us weren’t taught budgeting in school or from our parents. It is simply a question of how much of your money is going where.
Sit down and take a good look at the money you are taking in and the money you are spending. Decide how much of that money is needed for necessities. From there you can determine how much of your earnings should be put into savings and how much extra can be spent.
If you find you’re paying too much for hosting services, consider switching to a more cost-effective web host. If you’re struggling to pay credit card bills and worried about whether or not you have a good credit score, then a budget will also help you get on a better path to amending that.
Tools like Quicken can help you create and manage a budget. I personally use Excel and Google Sheets.
Make Sure Your Savings Are Savings
Often times people will put away their money for “saving” but then quickly dip-into those savings to cover the expenses in their life. If you really want to save money this year, then the money that you plan to save must be put into a specific account and basically forgotten about.
You need to change your mindset about the money. It must be mentally considered un-spendable money rather than back up plan money.
When planning your initial budget, you must make sure that you have accounted for the fact that this money cannot be used to cover small expenses. The only way the money will build up over time is if you do not turn to it to cover flaws in your initial budget.
This may mean putting your money in an entirely separate account than the money that you have allotted yourself to spend.
Your savings money should also be separate from your large-purchases savings.
It may feel like a waste at first to diminish your own earnings, but by taking money away from yourself, you will have more money in the long run. This is the money that will act as a security blanket if a major emergency comes up or as a luxury for a trip down the line.
By really committing to saving your savings, you will, shockingly enough, start to save money!
Max Out Your 401k
Please max out your 401k. If you can’t afford it, then you don’t realize how important it is. Treat maxing out your 401k like you do your taxes. In other words, assume it’s not your money and you need to pay it.
Spending now instead of fully funding your retirement is like stealing from future you. Do not steal from future you. After you max out your 401k, consider where else you can save in tax deferred accounts. HSAs, 529 Plans, IRAs, etc.
Improve Your 401k Holdings
The Financial Services industry has a major flaw. Financial Advisors are generally not compensated for giving financial advice on 401k plans. The major firms are simply afraid of the fiduciary implications of giving advice on assets held elsewhere.
But that doesn’t mean you should randomly pick holdings in your 401k. For example, target funds are very popular. These are funds that have a target date assigned to them and the mutual fund adjusts it’s holdings as time goes on. They’re a good idea. They also have higher fees.
But here’s the thing, if you hold anything else in your account then you are affecting the date of your account. For example if you have a target date fund with a date of 2040, because you plan to retire in 2040 that is fine.
But once you add other funds to the account then you are shortening or lengthening the true target of your retirement. If everything else you hold is conservative, then your target may have moved to 2045. The target date fund just becomes an expensive holding as you add more and more to other funds to your 401k.
But, if you only hold one target date fund in your account then you are putting all of your eggs in one basket.
If your Financial Advisor’s firm is unwilling to give advice on 401ks, consider alternatives like Personal Capital.
Avoid Emotional Spending
The best way to curb spending is to only spend enough to make us happy and not a penny more. At that point each additional penny is worth less than a penny. We all want more but “more” rarely makes us happy.
This is especially true during the holidays. Buying on emotion is on steroids during the holidays. Buy on logic, not emotions.
Look at any securities you have in taxable accounts. If you notice that any have unrealized losses, talk to your financial advisor about tax loss harvesting. See my recent quote about this on 8 Smart Money Moves To Make Before the End of the Year, According to Experts.
Tax loss harvesting is selling any securities that have unrealized losses so you can realize those losses on your taxes. You immediately turn around and buy something else. Usually you buy something similar so your performance and risk are similar to if you hadn’t harvested the loss.
In other words, since the tax system is based off of realized gains and realized losses, you can harvest unrealized losses to offset gains.
This isn’t something you need to wait until the end of the year! My 22 year career in Financial Services was at two of the largest Financial Services firms designing and launching investment tools that helped Financial Advisors.
One of the most frustrating things at both firms is we didn’t have good tax loss harvesting tools. So we messaged to Financial Advisors that tax loss harvesting was an end of year strategy. It isn’t! Harvesting losses can be done any day the market is open.
The stock market doesn’t just go down in December.
This is why I am a fan of investment companies like Personal Capital. They have the tools that I know from experience that the large firms do not have.
Lower your Taxable Income
Look for any ways to lower your taxable income. Speak to your financial advisor about tax loss harvesting (mentioned above). Also look for opportunities to increase contributions to 401ks, IRAs, 529 plans, HSAs, etc. The lower your taxable income, the lower your taxes.
The best way to stop creating debt is to realize you don’t need to keep buying things you can’t afford. We all want more but more rarely makes us happy. It’s important to only spend on what makes us happy and not a penny more.
Borrowing money to buy things we don’t really need is stealing from our future selves. Plus it’s oftentimes buying things that don’t make us happy for the entire duration of the loan.
Consider Paying PMI
Traditional advice is to put a 20% down payment towards buying a new home. There’s another strategy to consider. Pay less towards down payment and more towards buying down your interest rate.
On a 15 year mortgage you build equity and get away from PMI very quickly (3ish years) and realize the interest savings for the remaining term of the mortgage. PMI is ok, if you can get away from it quickly.
Improve Your Credit Score
When you do borrow, pay your loans back. Do not take out a loan if you can’t pay it back. This will increase your credit score and make future borrowing less expensive. Monitor your credit report with CreditNerd or a similar application.
Switch Out Your Air Filters!
Switching out the air filters in your HVAC system regularly costs $5-20 and greatly extends the life of your systems. It also saves you additional and costly maintenance that always seems to happen at the worst times. Do this before you forget.