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Why Making a Budget is a Terrible Idea – And 8 Steps to Achieve Financial Freedom

by Sima Thakkar
featured, money & life, money & life

This is the year I’m going to save more money. This is the year I’m going to take that dream vacation. This is the year I’m going to buy a house.

Studies have shown that most resolutions rarely last longer than a month. And chances are by now, in mid-January, the ambiguous goal of “saving more money in 2017” has likely started to slip to the bottom of the list, while financial obligations continue to quietly pile up.

Renowned financial expert, #1 New York Times bestselling author, and CreativeLive instructor David Bach states that “making a budget in order to save money is quite possibly one of the worst approaches to financial resolutions you could make.” Leveraging his experience of over 20 years as a financial advisor, and delivering seminars to millions of people seeking financial help, he has proof that “making a budget” is truly a flawed approach to financial freedom.

So what can people do differently in 2017 to achieve financial freedom?

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In his book, The Automatic Millionaire, he shows us the way ordinary people can build an extraordinary wealth is – not to make a budget – but rather automate the process so you can literally build wealth while you sleep.

David Bach shared eight money-saving tips that you can do right away to help you achieve your financial goals in 2017:  

Step 1: Be selfish about your income. You’ll be working approximately 2,000 hours in 2017 and around 90,000 hours in your lifetime. That’s a lot of time spent on the job, and unfortunately, less than half of the American population are happy with their jobs. Let 2017 be the year you make a decision to be passionate about the work you’re doing and be selfish about your income.  

Step 2: Pay yourself first (at least one hour of your income per day). When you earn a dollar, the first person that should be paid is you. However, the way the American system of money in America is setup is that that Uncle Sam gets your money first (federal taxes, state taxes, social security) and then the next part of your income goes towards living expenses (housing expenses, food, transportation, etc). The first person that needs to get paid first is you. What does that mean exactly? Let’s break down a typical 9-5 work day and see where our paychecks go hour by hour:

    • 9AM – 12PM – money earned goes towards paying taxes
    • 12PM – 3PM – money earned goes towards living expenses
    • 3PM – 5PM – money earned goes towards “other” expenses such as food, social activities, travel, misc.

While you can’t skip paying your taxes, you need to decide that you are going to pay yourself first with at least one hour of your income. How do you do this legally? Have one hour’s worth of income go directly into a tax-deductible IRA, SEP-IRA, or 401K plan so that you can pay yourself FIRST before paying taxes. With interest, these accounts will grow over time.

Step 3: Don’t make a budget, make it automatic. In nine years of working with clients, only one client was able to save money through discipline and budgeting. In order to truly make pay yourself work (above), you have to make it automatic. Set up an account so that your paycheck automatically deposits a percentage towards your tax-deductible retirement account every 2 weeks and so it will grow tax-referred. There are fantastic new companies that make this process easy for you if you are are starting with small amounts of money. Two new fintech companies that make the automatic investing process easy for getting started are www.acorns.com and www.stash.com.  You can have an account up in minutes and be saving by tomorrow.

Step 4: Learn about and take advantage of the power of compound interest. One of the greatest miracles of mankind is compound interest. Albert Einstein famously said, “Compound interest is the eighth wonder of the world. He who understands it, earns it…he who doesn’t… pays it.” The power of compound interest is rarely taught in school and is one of the most important, eye-opening lesson you can learn when you are young. For example, if a person saves $10 per day and you invest that money with a 10% annual return you could wind up with in 40 years with $1,897,224 dollars.

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Step 5: Find your Latte Factor®. A common complaint I hear is that people believe that they don’t have enough money to save even $10/day. For just two days only, take a close look at your daily spending habits and you’ll find that it’s easy to find $10 per day (such as from your daily latte or muffin).

Another way to do this is by using a tool like Mint.com for 30 days and take a close, hard look at where your money is going. After tracking 30 day’s worth of spending, look at your “Double Latte Factor®” and find out where money is being automatically deducted from your account from things like Netflix or your gym membership. When you pay someone automatically, these payees are on your “payroll” every month.

For example, a leased car that costs $400 per month vs. $600 per month might seem like a small difference month over month, but over the year this is additional $2400. Did you know 75% of luxury cars are leased and the bulk of cars are leased by people who don’t have that net worth? Look at who is attached to your “payroll” and get them off or make sure they fall within your annual and long-term budget.  

Not convinced you can earn 10% annually? Run your own calculation on our Latte Factor® Calculator and pick a lower return that makes your comfortable: http://davidbach.com/latte-factor/.

Step 6: Make this the year you love to fix your credit score. People can check their credit score every 12 months at sites like annualcreditreport.com to get one free credit report from each credit reporting company. You should know what your credit score is because the higher your credit score is, the less it costs to borrow money. And guess what, in just six months, there is a lot you can do to correct your score. Here are a few things for starters:

  • Make sure there aren’t any mistakes. It’s not uncommon to find mistakes on your credit report, from incorrect addresses to a payment you’ve made, but it’s showing up as unpaid. If there are errors, you need to contact the credit reporting company and have those mistakes repaired.
  • Automate your bill paying. Nothing hurts credit faster than being late on a payment. Make sure you’re at least paying the bare minimum for your bills automatically. If you have had a missed payment, get current as fast as possible and within 6 months your credit score will go up.
  • Keep your balance within your net worth. You should have only one card that’s being used and if you have other credit cards that you aren’t using, hold on to them and keep a zero balance because part of your credit score is based on how long you’ve had credit.
  • Decide on a lender within 30 days. FICO looks at the number of inquiries. If you’re out shopping for a loan for 3 or 4 months, FICO will raise an eyebrow. Make sure to shop for a loan quickly within 30 days, because anything past that will be picked up by their algorithm and be a ding against your credit.  

Step 7: Set up two additional ‘pay yourself first’ account. An emergency account and a dream account. The goal for your emergency account should be 1K. That is more money than half of Americans have today. This account should not be attached to any ATM card or debit card. Once you’ve achieved that goal, you should aim to have 6 month’s worth of living expenses set aside and ideally, even more is better.

Then, automate a dream account. This account is designed specifically for all your dreams between now and retirement. Set up an investment account and move money automatically into an account that’s available to pay for those dreams, such as vacations music lessons, etc. How do you make your dreams come true? You buy them. Of all the accounts I recommend this account ends up getting people the most excited. A great place to search out online savings accounts is a new website www.magnifymoney.com.

Step 8: Stop beating yourself up for the past. Get over the past and look forward to the future. Despite any money mistakes you’ve made in the past, make this the year that you will learn to love your money instead of being afraid of it. No one ever gets rich much less financially secure in a straight line. You make mistakes. You ask better questions and then you make better decisions. It’s a journey, and remember it’s never too late to live.  You don’t have to be rich to live rich!

Get more financial advice and strategies from David Bach on January 19th at 9AM during his course Start Late, Finish Rich.

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Sima Thakkar