Wednesday, August 21, 2013

Makeunder My Finances: Step 2

This week is Step 2 of the refreshed "Makeunder My Finances" series, as inspired by Jess Lively's classic makeunder steps. If you missed Step 1 (Create a Vision) you can find it here.

Step 2: Exfoliate Stuff

According to Jess, "this is the step where you dump the stuff that isn’t needed for the life you want to live. Just like our skin, there is a lot of dead ‘skin cells’ in our homes that are clouding the healthiest, best life we want to live. And by sloughing off that unnecessary layer of crap, we emerge brighter and more purposeful." Guess what? There might be some dead skin cells lurking around your finances as well. But first, you need to take a look in the mirror see what and where they are.

This makeunder step may be the most daunting since it involves accumulating the information that makes up your past and current financial situation. Sure you could pull up old bank statements, save receipts, and write down all of your spending on a sheet of paper, but it doesn't have to be that difficult. There are several online tools for tracking your financial data; and is our financial weapon of choice. Mint is a fantastic free and secure (!) site that offers personal finance and budget software, online money management, and budget planning. Mint brings all your financial accounts together online so you can see the big picture in a single click. We have our checking and savings accounts, credit cards, mortgage, and 401(k) and investment accounts all feeding into our Mint account.

Mint screenshot

With your assistance, Mint categorizes your transactions so you can see how much you're spending on rent, food, entertainment, shopping, etc. It also monitors income, loans, and investment transactions. I also love seeing how our net income and net worth have changed over time.

Once you've compiled your financial data, it's time to take a look at how your saving and spending habits align with your overall vision. I recommend looking at the largest bucket first and then go down the list.

When we first started using Mint over three years ago, I had no idea how much I (John is really good about bringing his lunch to work) was spending on lunches or coffee during the work week. I thought that the couple dollars here and there wouldn't make a difference until I saw the grand total at the end of the month: $130 even though we bought lunch food at the grocery store.

At the time, this was a large sum of money considering we were saving for a downpayment on a house. But looking through the lens of "financial freedom," this spending was an investment in our future. On the surface, I was going out to lunch and grabbing coffee with my coworkers. In hindsight, I was building my professional network.

Mint screenshot

After identifying your financial priorities and financial reality, it may be time to make some changes. There are as many spending/savings plans as there are diets. For example:
  • 50% Needs, 20% Savings, and 30% Wants (per Daily Worth)
  • Save to spend budget: 60% Monthly Expenses, 10% Retirement, 10% Long-Term Needs, 10% Short-Term Savings, 10% Fun (see Daily Worth)
  • 35% Housing, 25% Living Expenses, 15% Debt, 15% Transportation, 10% Savings (from Jean Chatzky)
  • Dollars per day for play (see Pete Mockaitis)

How much you spend in each particular area is up to you. Is shopping your thing? As long as you're automatically saving for retirement, have an emergency fund, and can pay off your credit card bill each month/pay in cash; who am I to judge if you buy expensive purses?

Maybe you've realized that your income doesn't support the lifestyle you desire. You now have a choice: you can spend less, earn more, or a combination of the two. I recommend the hybrid method where you can get the most bang for your buck: negotiate a higher salary, start a business, refinance your mortgage, negotiate lower monthly bills, and don't sweat the small stuff (like driving out of your way to save $0.05/gallon). In the long run, you can only cut expenses to a certain point. Earning more is more sustainable.

Next week is step 3: identify intentions. This will be your specific targets regarding savings and spending.

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