The Formula for Savings
Before reading this article, take a moment and ask yourself the following questions:
- What are you saving for?
- Do you have an emergency fund? If so, how much do you have set aside in your emergency fund?
- Are you living paycheck-to-paycheck or do you have a set savings rate?
The questions above are designed to get at: 1) motivations, 2) systems, and 3) means. With one of these key elements missing, the quest for Financial Freedom is slow and limited, at best. At worst, Financial Freedom is a dead dream. So what’s the beginning point for Financial Freedom? Let’s find out.
Financial Freedom begins with recognition that being a slave to a paycheck through too much debt or spending – so much so that you are not able to put money aside in a savings account – is the recipe for being an individual that cannot and will not achieve Financial Freedom. However, since you are reading this, I know that you are someone who is not like most; you are not a willing ‘zombie debt slave’ and thus have the true desire to become financially free. Which brings us to our formula for savings:
Spending < Earnings = Maximized Savings/Investments
All one has to do is limit spending, maximize earnings, then put the rest into a high-yield savings account or another form of investment vehicle. Sounds simple doesn’t it? In theory, yes; in practice, it is much more difficult. Things like the newest purchase, getting laid off from your current job, or bringing a child into your family – these are only a few of the items that can throw an astute-minded investor off the course of Financial Freedom and more towards becoming a debt slave. With the savings formula in mind, let’s explore some basic principles that can help you better maximize your path:
Principles That Can Help You Effectively Save Money
Principle #1: What are you saving for?
This is perhaps the greatest thing you can do to maximize the likelihood that you will reach your savings goal – know the whys. This could be something tangible – a house, a car, a stereo system- or the reasons could be intangible – security, rainy day fund, etc. My main personal reasons for savings are to have a good-sized emergency fund for the unknown and unexpected expenses while investing the excess into dividend bearing stocks with the end goal of one day being able to live off of passive income. These whys keeps me focused – especially when those big ticket purchases come calling me home. With your big picture reason for saving in in mind, it is much easier to decline the tempting invitation that the instant gratification purchase represents.
Principle #2: Layering
This principle was taught to me by a life coach and I really like its applicability not only to personal finance but to life as well. In my past goal setting sessions, I would often times set goals that were so big, so daunting, so out-of-this world achieveability-wise that I would not even get started on the goal at hand, instead opting to ‘plan’ for when I was truly ready. However, what I did not know at the time is that in my mind – whether consciously or subconsciously, I believed that the goal was unachievable and unrealistic, so my ‘planning’ was really procrastination on a task I did not think was possible. Enter the concept of layering, which is the process of setting smaller, incremental, and achievable steps towards a larger goal. Now when I set goals, I have a larger goal in mind, but rather than make that the immediate target, I look for the ‘next level step’ towards achieving that goal. For instance, if my goal is to save $100,000 and I’m currently at $10,000, it will take me a long time to achieve the $100k. I find that it is much better to set a goal for the next month or two of achieving something smaller and more realistic, such as $11,500, which is a doable number; one that will keep me much more motivated to continuing to work towards the goal.
Principle #3: Embrace Minimalism
Are you currently working to accumulate more things or are you working towards appreciating and valuing what you already have? I became a minimalist in my college years and have never looked back. There is something so serene about wanting less, valuing more, and being in the moment. For me, practicing minimalism – which I define as embracing less material things and valuing more connectedness to the world around me – goes hand-in-hand with the spirituality piece of my life that I seek to connect with on a daily basis. I was not born on this earth to accumulate things but rather to help people. Once I understood this basic premise of my life, my life became that much easier and more fruitful.
Principle #4: Know the time value of money
A pinnacle rule in the world of finance is that a dollar today is worth more than its equivalent measure some time in the future. What does this mean for you? Inflation will happen and there is nothing you can do about it (there are deflationary environments but for now, let’s focus on inflation as that is the scenario we will face most often). It is best to have your money working for you in the form of passive income, investments, and otherwise increasing your overall earning potential. Putting money aside in your mattress or even in a savings account will be safe; but ultimately you will not be properly practicing the time value of money. Do what you can to maximize your returns while managing your risk profile appropriately.
Principle #5: Track Progress
This is very important: how can you know how you are doing if you do not track your progress? You might be a million miles off or you might be so close as to consider your dreams achieved. You cannot know until you track. This doesn’t have to be anything very fancy; at minimum I suggest that each Financial Freedom seeker should have a balance sheet. Through a simple balance sheet, various metrics can be established and tracked such as net worth, assets/liabilities, debt/equity, etc. All of these can serve the important role of providing you a crystal-clear picture of your financial status so that you can see if you are improving or falling behind.
The formula for savings is easy and the mechanisms for achieving a growing savings account are easy; it is the discipline it takes to get to the final destination that is most challenging. But it can be done! Just as John F. Kennedy related in a story about planting a tree that would take 100 years to grow;
“The great French Marshall Lyautey once asked his gardener to plant a tree. The gardener objected that the tree was slow growing and would not reach maturity for 100 years. The Marshall replied, ‘In that case, there is no time to lose; plant it this afternoon!’”
The same holds true for Financial Freedom – start today from wherever you are at and you will not be disappointed by the results. Keep in mind the formula for savings, work to reduce spending, increase earnings and save or invest the remaining funds.
Disclaimer: (1) All the information above is not a recommendation for or against any investment vehicle or money management strategy. It should not be construed as advice and each individual that invests needs to take up any decision with the utmost care and diligence. Please seek the advice of a competent business professional before making any financial decision.
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