Do I save first or spend first? This is a question which we should ask to ourselves when we earn because it’s easier to develop spending habits which can throw finances in a mess. Easier availability of credit, the temptation to match our neighbor’s/friends lifestyle and many other such reasons can lead to spend money beyond our means. Take the case of Rajeev a young self-employed professional with great intelligence. Right from the day he started his practice he has been riding his career waves very well. But his spending habits led him to a huge debt trap which is now impacting his financial future.
It all started few years ago when he met one of his friend who was living in Mumbai. He told him about his lavishing lifestyle which actually became the root cause of his current financial situation. The temptation to match his friends’ lifestyle in a short span of time started building in him. With a handsome earning, the easy availability of credit made him feel his goal is achievable. He started utilizing these credit facilities. Credit card, Personal loan and housing loan became his major liabilities. Till few years he did not face problems and was having the desired lifestyle. He never thought of saving money as for him there was enough time left to do it as his earnings will multiply. But the tide turns against him. A major health emergency stopped his business for a year. With no savings and reliability only on the income, the repayment of loan liabilities became difficult and soon he started defaulting on EMIs. It reached to a stage where the lenders started knocking his door. It was a horrible experience for his parents who have to use all their savings and assets to pay some of those.
This is not a unique case but a misconception of the basic economic equation of personal finance i.e.
Income- Expenses=Savings.
If looked at deeply this equation is the root cause of Rajeev situation.
Instead
Income-Savings=Expenses
is a true equation of your financial life. This simply means whatever you earn the first part of it has to go towards savings rather than spending it. These savings are then invested for achieving your specific goals. Once you ensure securing your financial future, the money you are left with should be utilized for your expenses. The larger benefit of understanding this simple equation is that you spend money within your means.
To save money and work towards achieving life goals, it’s necessary that one understands his/her spending habits.
Here are few steps on how one can inculcate a habit of savings-
- Identify and Set Your Goals– That’s what you save money for. There are goals to achieve which revolve around your life. Identify these goals so that you can quantify them. They can be short term such as a vacation in next two years or long term like your post retirement years. By setting these goals you set a deadline for them which will ensure they are always in your mind reminding you to save money. The larger benefit is that you are able to take the corrective measures if you divert from them.
- Know Your Expenses– The bigger reason of your adverse spending habits is the unawareness on your cash flows. You have a vague idea of your expenses but if you are not tracking it then you will not be knowing whether you did it only for your leisure and was it within your means?. The best way to track your expenses is by following a budget. Create your list of expenses and calculate the amount you need for meeting them. Whenever you spend your money note down and include it in your budgeting. Do this for few months and you will get the correct picture of your cash flows. You can either use money management tools available online or excel does this piece of work smartly. Once you are on a budgeting tool you will be more aware on yours and your family spending habits.
- Pay Yourself First: What is the first step you take when you receive your earning?. Ideally you should be writing the first cheque for your savings account. This money then is invested for your goals you want to achieve. You can have a defined amount like 20% or 25% of your earnings based on your requirement. This will ensure you are saving enough from your income and will remind you to analyze whenever you fall short of this amount. Moreover, you stay within your means and will not put your family at any risk like Rajeev did.
- Save More When Earnings Increases– Many times we have enough money at the month end after making all our expenses and most of us then have a shopping festival. But one should clearly understand difference between needs and wants so that you do not go for impulsive buying. Else the habit can lead you to touch upon your savings to meet your family demands. Try to save more form this surplus so that you remain well within your means and do not spend money because you had it.
These are basic step which requires a commitment. The objective of all such measures is to ensure you create a discipline and achieve what you earn for. If it’s been a while you analyzed your cash flows, today is a good time to start.
Do You Have a Savings Plan?
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