11 Feb Make the most of your income
Taking control of your spending will let you reach your financial goals quicker
‘New Year, New Me’ is a popular phrase at this time of year. We’ve finished reflecting on the year just gone, the holidays and celebrations are over, and we’re able to take stock and set some goals for 2019. For a lot of people this is a useful time to reset the annual budget, or maybe it’s time to start, if you’ve never done it before.
One thing that concerns us at KLI is the number of people who don’t see the need to set a budget. A common attitude is ‘earning a high income guarantees you will always have lots of money’. In our experience, this doesn’t really hold true in the real world. In the same way that someone who starts exercising more rewards themselves by eating more (cancelling out the benefits of the exercise), when our incomes rise, we tend to match it with more spending.
It’s a trap that’s easy to fall into, and it can be hard to reel back in once you get used to a certain level of spending. This problem often gets exposed when there’s an unexpected fall in income, and it can be hard to adapt to having less money coming in if you’ve never made the effort to assess where your money goes. In this situation, having a budget already set up will make it far easier to match your lifestyle to your income.
the only way you’ll get what you want is setting a long term plan and sticking to it
But the main reason you should budget is to generate savings that can go towards your longer-term financial goals. Whether you’re saving up for a deposit on your first home, putting away funds for retirement, or paying down debt, the only way you’ll get what you want is setting a long term plan and sticking to it. It may sound boring and dreary, but it’s the day-to-day difference between dollars earned and dollars spent that will decide if you reach your target or not. In terms of reaching long-term financial goals, a high earner who spends every dollar of their income is no different to someone who spends every dollar of their smaller income.
From the outset, it’s important to note that setting a budget is as much about psychology as it is about straight numbers. You need to be honest with yourself and understand your habits, your level of discipline and what’s going to actually work for you. Setting an unrealistic budget is almost as bad as not budgeting at all, as it can lead you to become frustrated and simply give up. For most people, the hardest part can be resisting the temptation to spend the money if it’s right there in front of them. If this sounds like you, there’s an approach that might help to take away that temptation. It involves a simple restructure of your bank accounts, which can take some time and effort, but the final result is worth it.
You’ll end up with three separate accounts, income, investment and expenses. All of your income goes into the (you guessed it) income account, and from there you need to allocate a set amount to go into your expenses account. The expenses account is the only account that you use to pay for your household living expenses. Each month you’ll have a set amount transferred into the expenses account, and that’s what you have to live off. If you blow the budget in your first week, you’ll just have to live frugally until the next allotted amount comes in. If you’ve never done it before, adjusting to this system can be difficult, but give it enough time and you will adjust.
The surplus from the income account gets transferred to the investment account, which you can’t touch for your living expenses. This account accumulates and goes towards the long term goal that you’re aiming for. Hopefully, as your income increases over time, your budgeted amount going into the expenses account holds steady, allowing your savings to accrue at a faster rate. Even if you make the decision to increase your spending to match a change in your situation, you’re actively making the decision to reset the budget, you’re not simply sitting on autopilot and spending your money as you earn it.
There are plenty of other structures and systems out there, and there is no ‘one size fits all’ answer. The main thing is to commit to taking control of your spending, do some research and find something that works for you. Once you’ve settled on a structure that looks like it can work for you, it’s time to get onto the nuts and bolts of setting your budget.