If you are trying to save money, then you won’t be short of advice on how to go about it.
The Internet and various conventional publications are overflowing with well-intentioned wisdoms. Many of those ideas are perfectly credible and even laudable but unless you’re either very experienced in financial management or psychic, you may struggle to make sense if at all.
That’s because some elements of that advice are going to be in conflict with each other and it’s also fair to say that great chunks of it may not be particularly pertinent to your individual circumstances.
However, don’t give up! The answer is what’s called a financial planning strategy and here are some top tips about how to go about putting one together.
Don’t be frightened by terminology
Essentially, a financial planning strategy isn’t something that is exclusively debated in penthouse boardrooms overlooking Wall Street.
At its most basic common-sense level, it simply means getting your finances in order and having a clear view about what you need to do to get to where you are trying to get to in terms of your financial future.
Once upon a time, these disciplines would have been considered routine and part and parcel of everyday household management. That lifestyle philosophy got diluted during the decades of mass credit and the hope of plentiful easy money in future.
However, the new financial reality is bringing back the need for these disciplines. If your grandparents and great grandparents could do it automatically, then so can you once you’ve put in a little effort.
Start by clarifying your existing financial position
It’s a truism in finance that you will never get to your end destination if you don’t know where you’re starting from.
Many people understand their income side pretty well but are much hazier when trying to concisely describe the totality of their debt and outgoings position.
So, spend time in documenting your typical monthly and annual expenditure and break that down into a number of different categories:
- Asset-related spending. That includes things such as mortgage repayments, car finance, and investment related things such as savings etc. The objective here is to identify where you are spending money but where the result will be something that has an incremental or residual value for you.
- Baseline non-discretionary spending. That would cover things including utility bills, insurance premiums, rent, debt repayments for non-asset items (e.g. credit cards), taxes and so on. Here you are trying to identify things where you are spending money but are not going to end up necessarily with anything in the future for it.
- Discretionary spending. This typically includes a category of costs that may be highly variable but where you do actually have a significant degree of choice. Examples might include clothes, food, holidays, DIY spend, Christmas costs etc. These are typically consumables.
If you’re wondering, a critical difference between the second and third categories arises from the latter category being about living your life enjoyably.
Not too many of us, for example, enjoy paying for using our bank and its services – but it’s a necessary evil.
This isn’t typically a prime area to attack because assuming you’ve adopted sound buying or investment strategies, you will end up with ‘something’ as an asset even if its value has depreciated and you face a loss.
However, if your spending in this category exceeds roughly 40% of your net income, then you may be in trouble. That might make this your priority for attention and you’ll need to either increase your income or reduce, somehow, elements of your outgoings.
Otherwise, you might be advised to park this area and concentrate on the other categories.
Realistically, you probably can’t decide to stop spending in this area or make unilateral cuts. Suddenly stopping the payment of your rent or electricity bills in order to ‘save money’ might have undesirable consequences!
However, this is perhaps your highest priority area for attack, as any spend here is doing nothing at all in terms of increasing your wealth or happiness.
You should try:
- Regularly reviewing the prices you’re paying for things such as electricity, your telecoms, insurance policies, credit cards, banking and anything else that’s subject to competitive consumer pressures. You may not be able to do without it but there’s no reason why you should be paying top-dollar either;
- Change providers where possible and if justified. The savings may be substantial as, perhaps sadly, new customers are often welcomed with better deals and incentives than existing customers;
- Haggle and push for cost cuts where you have a realistic negotiating position. Don’t be inhibited or think that “the price is the price”;
- Invest effort here. Cost reductions don’t come easily and you should review all your positions in this category at least twice a year.
This category gets its name from the fact that you can make some pretty unilateral decisions on these items.
For example, you can choose not to go out for meals one month and don’t need anyone’s agreement. The consequences of cutting back in this category are also usually not catastrophic though they may make you feel miserable.
Old-sage wisdom advice on financial planning often concentrates on this area just because it’s so easy. You’ll find here all of the usual things about buying food in bulk, re-cycling old clothes, buying second-hand consumables, cooking home meals and so on.
That’s all admirable stuff but at the end of a month, quarter or year, you may find that the savings are relatively marginal in terms of your overall life financial status and they may be psychologically damaging if they make you feel like you’re living in penury.
That’s a controversial suggestion and not everyone might agree with it but in practice, the major financial themes of your plan are likely to be far more influenced by your non-discretionary spending than by things such as what brand of toothpaste you purchase.
Of course, living within your means and economising are important but can’t be looked at exclusively.
Develop a financial planning strategy to:
- Understand your income and more importantly, just where your expenditure is going;
- Segment your spend based on ‘good spend’ (asset accumulation) and ‘bad spend’ (money being spent on non-asset more-or-less mandatory outgoings each month) and variable consumables (the cost of you actually living a reasonable life);
- Balance your asset accumulation (cars, houses etc.) as a percentage of your overall income. Make changes if it exceeds about 40% or so;
- Regularly review your spending on baseline non-discretionary items and drive them down. Research the best deals out there for those and be prepared to push for reductions and change if need be. Treat this area as the priority;
- Look at your truly discretionary spend for economies and live within your means – but don’t overdo it!