The last month has been a period of transition for me. I have moved into a new role as Chair of the Department of Finance and Real Estate in the College of Business. With new responsibilities comes a slightly larger paycheck. The extra income would have come in handy a bit earlier, since I’ve had two kids in college for the last several years. But I can finally see light at the end of tunnel since Kris graduated in May and Kyle is a senior.
I recommend that you revisit your household budget whenever you experience changes in income or expenditures, but at least once per year. In my case, consideration of what to do with my expected increase in disposable income reminded me of a financial planning trick used to help clients alter their savings habits. The general idea is that, instead of worrying about how you’ll be able to save more today, you make a plan for saving more tomorrow.
Many people have difficulty saving, either through lack of income or insufficient discipline. There are so many demands on our cash. In the early years of careers and kids, even meeting basic needs can be a challenge. Then, before you know it, college costs loom. And all the while, the media is telling you that you should be saving more for retirement. Trust me, I’ve faced these challenges just like you.
Looking forward from this point, I plan to implement a Save More Tomorrow plan. I hope you’ll think about how this plan might work for you as well.
Here’s the basic idea. Whenever you anticipate an increase in income or a decrease in expenses, plan to allocate the difference to savings. You’ll find that it "hurts" less to cut back on potential spending when you have never seen the money in your disposable income in the first place.
For example, if your employer gives you a raise of $500 per month, contact your bank and have that amount automatically deposited in savings. Or, better yet, allocate the funds to tax-deferred savings. You could increase your retirement savings through an IRA, 401(k), or 457 plan, or you could set up, or add to, your 529 college savings plan.
If your expenses fall, as when you no longer are shelling out thousands per year in college tuition or you have a loan that you finally finish paying off, this same strategy can be applied. I have a car loan on my Saturn Vue that is only a few months from being paid off. How much difference will it make if I allocate that $466 per month to my retirement savings? Assuming I can save that $466 on a tax deferred basis every month for 20 years, earning 7% on my savings, my retirement account will be larger by almost $250,000 in the end. Of course, I will eventually have to buy another car. But hopefully, with greater earnings in the future and having learned to do without those dollars in the present, I’ll be able to stick to my investment plan and still buy that car in a few years.
A slightly revised version of Save More Tomorrow is: Pay Off More Tomorrow. Extra funds are often best allocated to reducing debt, particularly high interest credit cards, before increasing savings.
The important part of this is to have a plan that results in increased savings or decreased debt without feeling the pain of having to cut back on spending. So, this year, I hope you’ll join me in saving more tomorrow.
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Vickie Bajtelsmit, Professor of Finance
Colorado State University College of Business