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Ever wonder how you’d handle a complete reversal of your finances? I have a friend who had a lifestyle most people would envy and lost everything, including her marriage. I didn’t meet her until after her recovery from her financial disaster. She is one of …
You may have thought you were done when you created and balanced your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More. However, there is one very important step left in the budgeting …
Very few people have a balanced budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More on the first try. This week, I’ll talk about how to refine your preliminary budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More if it isn’t in balance. I have been very fortunate in that it has been a long time since I found it challenging to meet my financial goals. Also, I don’t know the specifics of any of your budgets, life-styles or financial goals. So, in this post, I will identify the changes you can make to refine your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More at a high level and provide links to articles by other financial literacy bloggers that provide a whole host of ideas on the specifics. I hope that one or more of those articles will provide you with the ideas you need to successfully balance your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More.
The number on which you’ll want to focus is the Grand Total on the BudgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More tab. If it is close to zero (i.e., within a percent or two of your total income) and you have incorporated all of your financial goals, you are done. Otherwise, you’ll want to look at the section below that reflects your situation, i.e., whether the Grand Total is positive or negative, to learn how to refine your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More.
Congratulations! If the value in the Grand Total line of the BudgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More tab shows a large positive number, you have more income than you are spending and saving. You are among the fortunate few.
Before spending your excess income, you might want to review your financial goals. Questions you could ask yourself include:
If you still have a positive balance after your review, you can consider increasing your discretionary expenses (possibly a newer car or a nice vacation or the addition of a regular treat). Of course, there is never any harm in increasing your savings.
A large negative balance is much more common than a large positive balance. I wish I could give you a magic answer to resolve this situation, but there are really only three options.
Unless absolutely necessary, I suggest avoiding the third option. If your expenses exceed your income and you make up the difference by borrowing either from your savings or a third party, you are likely to have a worse problem next year. Unless either your income or expenses change, it can lead to a downward spiral.
Increasing your income can be a more effective way to balance your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More. However, it has its own challenges and often requires a significant investment of your time and/or money. Examples of ways to increase your income include:
To be blunt, it is hard to decrease your expenses. Here are some tips on things to consider:
There are a few other expenses you can adjust to balance your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More, but I suggest you do them only after you have fine-tuned your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More and looked into re-financing your debt.
Working to refine your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More to bring it in balance can be a real challenge. If you can’t do it on the second or third try, be patient with yourself. Learning to be financially responsible is often a long, challenging process.
Susie Q is a retired property-casualty actuaryA professional who assesses and manages the risks of financial investments, insurance policies and other potentially risky ventures. Source: www.investopedia.com/terms/a/actuary.asp More and mother of two adult children. As her children were moving from their teens into their 20s, she found she was frequently a resource on many, many financial decisions and she had insights and information she could provide to them on a wide array of financial decisions. She spent a significant portion of my career building statistical models of all of the financial risks of an insurance company and interpreting their findings to help senior management make better financial decisions. She is the primary author at Financial IQ by Susie Q and volunteers with other organizations related to financial education.
You made it! This week your only task will be to create a first draft of your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More. Budgeting can be challenging as you …
You’re almost there! Only one more week until I describe how to create your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More. Before you can do that, you’ll want to make sure that …
Your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More includes your income in addition to money you spend. In my previous posts on the budgeting process, I talked about setting your goals and tracking and recording your expenses. This week, I’ll focus on your paycheck and other sources of income.
Before getting to that topic, here are your budgeting tasks for this week:
Your pay stubs include both your wages and some expenses and taxes that are deducted by your employer. This information can be entered on the Income tab. You’ll need your pay stub as it lists all of the items that flow into and out of your paycheck to get the net amount of your check or automatic deposit. Put information from each line on your pay stub in a different row on the Income tab of the spreadsheet.
The date of each paycheck goes in Column A.
Record the amount of each line item in Column B. Your income, such as your wages, should be entered with positive numbers. Deductions, such as taxes, your share of employee benefit charges and retirement savings, should be entered using negative numbers. Use one row in the spreadsheet for your wages and another for each of your deductions.
You can record the category for each line in Column C. If you want to use the tax approximation included in the spreadsheet, you’ll need use the labels “Wages”, “Retirement Savings” “Federal Income Taxes” and “State Income Taxes” for each of those categories. Otherwise, you can use whatever labels you want.
If you get paid less often than once a month, enter the number of paychecks you get each year in Column D of each row. Otherwise, leave this column blank.
If you have other sources of income you receive on a regular basis, such as returns on investments, disability income or support from your parents, you’ll want to include those in your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More. Unless you are on a leave from work or retired, you might leave any investment returns in your savings and not use them for spending. It is important to be aware of all sources of income in your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More including increases in your savings, so I suggest including them in your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More explicitly.
InterestA charge for borrowing money, most often based on a percentage of the amount owed. More, dividends and appreciation are the three most common types of returns from investments. If you have any such returns, enter their amounts in Column A, their category in Column B and how often you receive the amount from Column A in Column C. The three types of returns are taxed differently in the US. If you live outside the US or don’t want to use the very rough tax approximation in the spreadsheet, you can enter a single line item for total investment returns and call it whatever you would like. Otherwise, enter “InterestA charge for borrowing money, most often based on a percentage of the amount owed. More” in Column B for interestA charge for borrowing money, most often based on a percentage of the amount owed. More payments, “Dividends” for dividends received and “Appreciation” for changes in the market value of your investments. Appreciation can be either positive (market value has gone up) or negative (market value has gone down).
For any other sources of income, enter the amount, category (with a name of your choosing) and how often you receive that amount in Columns A through C, respectively. Sources of income other than investment returns and wages will be ignored in the income tax approximation.
Susie Q is a retired property-casualty actuaryA professional who assesses and manages the risks of financial investments, insurance policies and other potentially risky ventures. Source: www.investopedia.com/terms/a/actuary.asp More and mother of two adult children. As her children were moving from their teens into their 20s, she found she was frequently a resource on many, many financial decisions and she had insights and information she could provide to them on a wide array of financial decisions. She spent a significant portion of my career building statistical models of all of the financial risks of an insurance company and interpreting their findings to help senior management make better financial decisions. She is the primary author at Financial IQ by Susie Q and volunteers with other organizations related to financial education.
This week, I’ll conclude the case study about Mary and her savings. Her last question focused on whether to pay off her student loans. The considerations include: The interestA charge for borrowing money, most often based on a percentage of the amount owed. More rateThe percentage which, when multiplied by the face amount or principalThe amount of money you borrowed or deposited, excluding any accumulated interest. Some examples include:
• Credit cards: The amount of purchases you have made but not paid on your credit card ... More of a financial instrumentAny investment that you purchase. Examples include an exchange-traded fund, a mutual fund, stock in an individual company, a bond and a money market fund. There are also many more complex financia... More, such …
Case Study To help set the stage, I created a fictitious person, Mary, whose finances I use for illustration. Mary is single with no dependents. She lives alone in an apartment she rents. She makes $62,000 per year. Mary has $25,000 in a savings account …
You may be thinking you’d like to get started with investing. Before doing that, you’ll want to look at how much savings you have and how much you can invest. In this three-part post, I’ll illustrate a framework to guide savings and investing decisions, key components of a financial plan. This post will focus on a very high-level structure for your investable asset portfolioA group of financial instruments. More and, specifically, emergency savings. My next post presenst a case study addressing saving for large purchases and retirement. The third post will continue with the case study, focusing on when to accelerate your debt payments.
To help set the stage, I’ll create a fictitious person, Mary, whose finances I’ll use for illustration.
Mary’s questions are:
Investable asset portfolioA group of financial instruments. More? Isn’t that something for companies and for the rich? Actually, no. I think about any savings and other invested assetsThe value of things the company owns and amounts it is owed More as a portfolioA group of financial instruments. More. My husband and I own many other assetsThe value of things the company owns and amounts it is owed More, such as our home, our cars and our household goods. Because those are not assetsThe value of things the company owns and amounts it is owed More that we can invest, we include them when we are evaluating our net worth but don’t consider them part of our investable asset portfolioA group of financial instruments. More. Mary’s investable asset portfolioA group of financial instruments. More consists of her savings account and her Roth 401(k)A type of Defined Contribution Plan available in the US. There are three types of contributions that can be made to 401(k)s.
• Pre-tax - No taxes are paid on the contributions or any changes in... More.
Within my portfolioA group of financial instruments. More, I strive to keep a target amount in very liquid (i.e., easily converted to cash), low riskThe possibility that something bad will happen. More assetsThe value of things the company owns and amounts it is owed More for emergency savings. If I have a large purchase that I want to make soon, such as when we sold our house but knew we were going to buy a new one, I invest that money in slightly less liquid, slightly more risky assetsThe value of things the company owns and amounts it is owed More with slightly higher returns. I’ll call these designated savings and talk about the investment I chose in the next post in this series. I then look at the rest of my portfolioA group of financial instruments. More in terms of how long until I will need the money, how much return do I want and how much riskThe possibility that something bad will happen. More I can tolerate, as well as how much time I’m willing to spend researching and monitoring it.
There are some expenses that you pay less often than once a month. Examples include presents (most of us have a relatively large expenditure in December, but also don’t forget birthdays), property taxes if you own a house and insurance. In the months that you don’t have these expenses, you’ll want to set aside enough money so you make these payments when they are due.
Mary has made a list of these expenses from her budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More. Specifically, she has budgeted $400 for presents, $1,000 for a vacation and $1,000 for car and renters insurance which she pays once a year. She puts $200 a month into her bank savings account to cover these expenses. When she pays for her insurance or vacation, she transfers the money back to checking.
Three to six months of basic expenses is considered a good target for emergency savings. To help me estimate how much I need in emergency savings, I imagine what would happen if I couldn’t work for that time period. There are many expenses that will be eliminated, such as income taxes, commute expenses and some others. However, there are also additional expenses, possibly including the full cost of health insurance.[1]
In addition to not being able to work, other uses of emergency savings include unexpected medical expenses, serious illness or death in your close family that requires travel and major repairs to your car or house. It is important to recognize what is an emergency and what is not. For example, a funeral is an emergency, while a wedding is a luxury. Your furnace needing replacement is an emergency. Routine maintenance and even medium-sized repairs to your car or house are not emergencies as they are budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More items. An important component of using emergency savings is to modify your budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More immediately to start re-building it.
Mary has decided to start with a target of four months of expenses for her emergency savings and plans to build it up using $1,500 a year from her non-retirement savings budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More until it reaches six months of expenses. As a first approximation of how much emergency savings Mary needs, she could take a third (four months divided by twelve months in a year) of her salary or just over $20,000. Because Mary has a budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More, she can identify those expenses that absolutely necessary. Her budgetA plan showing targets for income and expenses over a fixed time period, such as a month or a year. More shows $40,000 of basic living expenses so a third of that would be $13,333. She will use $13,000 as her target for her emergency savings, leaving her with $12,000 for designated and long-term savings.
Mary considers only a few choices for her emergency savings – including her bank savings accounts, a high-yield checking or savings account at a brokerage firm and a money market account.
Money market accounts tend to return a slightly higher yield than savings accounts. They are like other securities in that you have to buy and sell them, but you can often have access to your money in 24 hours (as compared to instantly for a savings account).
Money market accounts also have slightly more riskThe possibility that something bad will happen. More than savings accounts. Many money market funds buy very safe securities, such as certificates of deposit and US government bonds so have very little riskThe possibility that something bad will happen. More. Others take more riskThe possibility that something bad will happen. More by investing in commercial paper which is essentially a short-term loan for a company. In 2008, the value of a few money market funds backed by commercial paper fell below $1.00. When the value of a money market fund falls below $1.00, it is called “breaking the dollar,” For emergency savings, you’ll want to focus on funds backed by US government debt securities.
Money market accounts from a bank are insured by the Federal Deposit Insurance Corporation, while those at brokerage firms are not. Money market funds at brokerage houses are insured by the US Treasury if the brokerage firm fails but not if the fund breaks the dollar. If the value of the investments purchased by the money market fund fall in value, the value of your principalThe amount of money you borrowed or deposited, excluding any accumulated interest. Some examples include:
• Credit cards: The amount of purchases you have made but not paid on your credit card ... More might decrease. I am not aware of any money market funds that have lost value. There are some money market funds that invest in higher riskThe possibility that something bad will happen. More instruments. For emergency savings, Mary will consider only money market funds that buy low-risk instruments.
You might be thinking I’m kidding. Keep some money in a savings account! You might be excited to participate in the seemingly glamourous world of trading stocks and other financial instruments. Unfortunately, those financial instruments are risky. That is, you might lose some of the money you invest in those instruments if their value goes down. (I have a lot to say about riskThe possibility that something bad will happen. More and reward in this post.)
Because emergency savings are meant to be available on a moment’s notice at their full value, Mary will keep hers in those two very boring places – a savings account and a money market account.
At one brokerage firm, high-yield checking and savings accounts are earning 0.35% to 0.45% as I write this post. US government-backed money market accounts are earning as much as 1.9%[2]or about 1.5 percentage points higher than the checking and savings accounts. (The money market rate at one bank is 1.87%[3]or essentially the same as the brokerage firm.) Mary decides to put half of her emergency savings in a high-yield checking account so she is sure to have instant access to it and half in a money market account. This decision gives her an average return of 1.275%, as compared to the 0.06%[4]she was earning on her bank’s savings account. So, while the savings account and a money market account are not as exciting as buying stocks, she can improve her return as compared to her bank’s savings account.
In the next post in this series, I’ll talk about how Mary plans to invest her designated savings and long-term savings. I promise – the choices get a bit less boring.
The key takeaways from this case study are:
This post talks about Mary’s situation. Here are some questions you can be asking yourself and things you can do to apply these concepts to your situation.
[1]For a longer discussion of emergency savings, check out http://brokewallet.com/emergency-fund/.
[2]https://www.schwab.com/public/schwab/investing/accounts_products/investment/money_markets_funds/purchased_money_funds#government_treasury, December 2, 2018.
[3]https://www.wellsfargo.com/investing/cash-sweep/rates-and-yields/, November 29, 2018.
[4]https://www.wellsfargo.com/savings-cds/rates, November 17, 2018.
Susie Q is a retired property-casualty actuaryA professional who assesses and manages the risks of financial investments, insurance policies and other potentially risky ventures. Source: www.investopedia.com/terms/a/actuary.asp More and mother of two adult children. As her children were moving from their teens into their 20s, she found she was frequently a resource on many, many financial decisions and she had insights and information she could provide to them on a wide array of financial decisions. She spent a significant portion of my career building statistical models of all of the financial risks of an insurance company and interpreting their findings to help senior management make better financial decisions. She is the primary author at Financial IQ by Susie Q and volunteers with other organizations related to financial education.
If you own a car, you buy car insurance coverage. In the process, you have to make lots of decisions. Do you want to buy ComprehensiveAs it related to car insurance, a coverage that reimburses you for damage to or loss of your car from …