Rules for Saving Money

Many of my neighbors have garages filled with junk they hardly ever use or don’t need. Yet, these are sometimes the same people that live paycheck to paycheck. Now I am not saying that buying stuff you don’t need will make you poor but something doesn’t seem right with this picture. If this is you, you may want to rethink how spend and save your money.

Rule 1: Live Within Half Your Income

Many Americans are always pushing the limits of what they can afford. The thing is, you must do everything in your power to limit spending while affording yourself a decent lifestyle. The money you earn is not the amount of money you have to spend.

No matter how much you earn, you still have to think about saving. I earn $100k a year but I still need to consciously make the effort to save as much as possible by living well below my means. For instance, My entire living room was only $650 including a couch, coffee table, and TV. I drove the same car from high school until it wouldn’t start and when I got a new one, it was used. Electronics, I still buy used or refurbished. Yet, I still have a very comfortable life.

Rule 2: Only Buy What You Can Afford

And by afford, I mean buy outright, this includes everything that is not your home, car or tuition. This may be common sense but a surprising amount of people don’t do this. While it is not uncommon for people to acquire financing for electronics or furniture or even incur credit card interest to pay for expenses, the truth is, if you are financing anything other than your home, car or tuition, you are doing something wrong!

Even when it comes to big purchases, you should always try to minimize the amount of debt you incur and understand the total cost of the loan. Here are some guidelines to determine if you actually can afford something:

  • Home should be under or close to 4x your annual gross income
  • Rent should be under or close to 25% of your monthly net income
  • Car should be under 20% of your annual gross income
  • All monthly expenses should be under 50% of your net income

Pro tip, when buying online, I use Camel Camel Camel. It’s a price tracker tool for Amazon that notifies you when the price has dropped to it’s lowest point.

Rule 3: Avoid or Limit Debt

Many Americans are saddled with mortgages, car loans, student loans and credit card debt. The average student loan debt for those who borrowed in 2017 is $28k. Credit card debt is around $7k. I also know many people chose to finance large purchases like furniture, computers and phones.

Although it may seem normal to take on debt as a means to afford the middle class lifestyle, it will actually make your life a lot worse later on. You could be trapped in a vicious cycle where you are slowly running out of money to live and are instead endlessly paying off loans and living paycheck to paycheck.

As a rule of thumb, only debt you should ever have is

  • Mortgage
  • Student Loan
  • Car Loan (Avoid this as much as possible)

Never

  • Finance anything other than a car or a home (including, furniture and electronics)
  • Only make the minimum payments on your credit card
  • Take out a payday loan

Rule 4: Understand Interest

The difference of 1% APR in a mortgage could mean the difference of thousands of dollars over the course of the loan. The reason why is that compound interest grows exponentially.

This is one of the most important lessons you need to remember from your middle school math class. Compound interest can quickly add up to a lot over time and it could mean the difference between financial security and financial ruin.

Rule 5: Think Before You Buy

I would never advocate that you cut expenses to the extreme. If you have ever watched the TLC show Extreme Cheapskates, you’ll find a lot of the people on the show have sacrificed an enormous amount quality of life just to save a few extra pennies. The things I think about before buying something are:

  • Instead of going for the cheapest thing, how can I get the highest quality for the lowest cost?
  • Do I really need or want it? Sometimes the idea of getting something new is enough to make me want to buy it impulsively. For big purchases, it is important to wait a bit before buying something even if it is on sale.
  • Does it add value to my life? Just think would a BMW make me more happy than a fully loaded Camry? Will a 65 inch TV make me more happier than a 50 inch TV? Think about how the item will improve your life rather than simply getting it because it is flashier.

Rule 6: Automatically Invest Savings

The easiest way to save is to simply automatically invest your savings into either an index fund or automatically transfer it into a savings account. The hardest part about saving money is discipline but if money is automatically set aside and deducted from your net pay, you will be forced to spend less in general. Why wait, in order to start saving, you can set this up today!