The Plan: Savings

Overview

I've mentioned in previous posts that I am still developing a plan, working out the budget, finding the right balance between repaying debt, building savings, and still having enough left over for here-and-now spending. I have spent a good deal of time in the past year evaluating my own behaviors, and I know that without some intervention, any money left over after paying the bills will go to here-and-now spending at the expense of any savings whatsoever.

I never realized the impact our lack of savings had until recently when I started looking back on the last 12 months of Quicken records. I found a pattern that repeats itself many times - paycheck comes in, bills go out, and I'm getting good at sending most of the balance towards the debt and holding back a small amount for us. What keeps happening, though, as the next paycheck draws nearer, something comes up that exceeds my cash on hand and we put it on the credit card with the good intent to "pay it off as soon as we get paid." The problem, though, is that my next credit card payment goes mostly towards the recent expense and does nothing for reducing the overall debt.

To counteract this pattern, build a larger emergency fund, and lay the framework for goal-oriented savings fund, I developed the first version of our Savings Plan. I established four basic savings categories:

- Short-term "float to the next paycheck" funds, to cover the small unexpected expenses that used to crowd my credit card statement.

- Short-term and Long-term goal funds, to save for future big-ticket items such as vacations, furniture, or "other." A not so short-term goal is the downpayment for a house, also in this category.

- Long-term Emergency Fund, should the worst happen, to cover three to six months of living expenses in the event of catastrophe.

- Financial Future fund, i.e. Retirement.

Short-term "Float to the next Paycheck" Funds

Over the last year, our overall spending has been less than our overall income, and our overall debt balance has gone down. About once a month, though, we're charging expenses that we shouldn't be, and this fund is designed to limit that.

I have a low-yield savings account with the same bank as my checking account, USAA, which offers the convenience of same-day transfers between them. I want to minimally fund this account to cover those unexpected expenses that I know I can cover out of the next paycheck, while not leaving too much cash at a low interest rate. I also know if the money is there than so is the temptation to spend it, so I don't want too much on hand.

Short Term Funds - Goal: $500.00
Short Term Funds - Current: $247.01
Short Term Funds - Method: Initial funding will be $50 per paycheck until the target balance is reached. After that, funding will be the maximum "residual" from each paycheck as needed to maintain the target balance.

Short-term and Long-term Goal Funds

The sad truth about our financial situation, to this point, is our tendency to be impulse oriented on big-ticket items are concerned. We decide on a big purchase, research the best price, and buy it on credit. Although we have always stayed within our means, technically, on the payments - i.e. we have never missed a payment in the three years we've been handling our finances together, it doesn't do much to research the best price only to pay more in interest.

For the Short and Long Term Goal Savings, I setup the Automatic Savings feature at ING Direct to transfer money from the Billpay account biweekly. That transfer is small right now, since debt-repayment is our biggest savings priority. Different portions of those deposits will fall into different sub-categories, depending on our savings priorities.

I also have an investment account that is automatically funded every month for the long-term goal funds. It tends to have a higher return rate over the long-term but it fluctuates more. Our plan to purchase a house is dependent upon eliminating our consumer debt, which will likely take at least five years. Once the consumer debt is eliminated, we can evaluate the state of the funds and, if necessary, wait for a shift in the returns. Although there is still some risk that the return will take a turn for the worse, the flexibility in timing will hopefully counter that.

Short-term and Long-term Goal Funds - Goal: TBD
Short-term and Long-term Goal Funds - Current (ING): $150.02
Short-term and Long-term Goal Funds - Current (Inv.): $1,659.60
Short-term and Long-term Goal Funds - Method: ING is setup to take $20 biweekly. The investment account is setup to take $50 per month. I make seven payments every month towards our debt, and as each debt is paid, the payments will be increased on the remaining debts. However, I think after every other payment is eliminated, I will split the balance of that payment between goal savings and the remaining payment.

Long-term Emergency Fund

I don't usually like to think about worst-case scenarios, but should the worst happen, we need to be prepared. Most personal finance authors seem to be in agreement that having three to six months of living expenses in the emergency fund is reasonable. Since predicting catastrophe is quite difficult, the risk that our investments will dive right before catastrophe strikes is a great concern, so ING Direct wins this one. A second ING account will eventually be the Emergency Fund.

As far as the rate of building the emergency fund, I've decided to hold off on building this rapidly for now, and focus the money instead on reducing our living expenses through debt-reduction, since debt payments are our biggest expense right now. There are two reasons behind this decision: First, we work in an industry that is always short-staffed, and should either of us lose our current employment, I already know of several employers where we have a standing offer. Second, in the event of accident or illness, our disability insurance will cover the same three to six months of income that the fund will. Eventually, the fund will take the place of the accident and illness disability, thus eliminating the monthly premiums, but for now the interest on the debts exceeds the premium amount, so our greatest payoff is reducing the debt.

Long-term Emergency Fund - Goal: $10,000.00
Long-term Emergency Fund - Current: $0.00
Long-term Emergency Fund - Method: Eventually, automatic transfers will fund the account biweekly, but not until a few of the debt payments are eliminated. The plan now is after three debt payments are eliminated, a portion of those payments will be directed here.

Financial Future Fund

Also known as retirement, the finanical future fund is in its earliest stages of development. I submitted the paperwork to enroll in my company's 401(k) plan this month, so starting January 1 it starts to grow. My company matches 50% of my contributions, up to a total employer contribution of $1000, so for the first year I am going to maximize their contribution.

Financial Future Fund - Goal: Maximize
Financial Future Fund - Current: $0.00
Financial Future Fund - Method: Automatic pre-tax contributions at $77.00 biweekly, with the employer match at 50%, for a total of $115.46 biweekly or $3002.00 annually. As with the rest of the savings plan, I want to push this contribution up as the debt payments go down.

The Principles of the Savings Plan

1) Save the money before we miss the money - By transferring money to savings before it even figures into the account balances, we are less likely even to realize that the money is gone.

2) Redistribute the money before we miss the money - As debts are paid off, that payment will be immediately added to the remaining debt payments, and periodically added to the savings transfers, and never added to our here-and-now spending budget.

3) Frequently evaluate the balance of the plan - Finding the right balance between debt payments, savings, and here-and how spending will take a while. For the first couple of months, we will most likely be reviewing our contributions biweekly to make sure we are still moving towards our goals.

Until next time,
Jonathan