If your idea of applying discipline to your personal finances is restraining yourself from spending your entire paycheck in the first 24-hour period after you receive it, you’re not alone. A culture of instant gratification characterized by ever-more-extravagant status symbols pervades the Western world these days, seducing in equal measure both rich people who can afford its trappings and regular folks who can’t keep up.
Like or not not, you probably fall into the latter group. Whether you’re surviving comfortably or barely making ends meet from month to month, chances are good that you’re reminded dozens of times each day that plenty of people are better-off financially and seem to be happier for it.
Short of winning the lottery or finding an unclaimed bag of unmarked bills, you won’t be able to quadruple your income, pay down your debts and buy your dream house overnight. What you can do is reorder how you look at your personal finances and begin making smart decisions with an eye to where you’d like yourself and your family to be 10 or 15 years down the road.
Unless you’re just starting out, your financial situation probably needs some work. The first step in any concerted effort to improve your finances is a detailed, no-holds-barred look at your current position. As the old saying goes, you can’t manage what you don’t measure.
You’ll need to determine accurate values for some key financial data points before you proceed. First, your income: Figure out exactly how much you earn, after taxes, from your primary employer as well as any part-time or freelance work you may do on the side. Be sure to add any income from savings accounts, CDs or investments that you don’t plan to reinvest.
Next, your debt situation: It may be painful, but you must determine the exact principal amount of all of your outstanding credit card balances, medical bills and loans, including your mortgage and car note. For the purposes of this exercise, don’t worry about how much of your take-home pay has gone toward interest payments over the years. Unfortunately, that’s money that you can’t get back.
Once you have an exact snapshot of how much you owe excluding interest, you’ll need to determine the average rate of growth of your debt, a figure that can vary tremendously depending on your unique mix of obligations. If your household’s only major liabilities are a mortgage and a car loan, which you’re likely paying down little by little each month, your debt’s growth rate may be negative. On the other hand, if you’re in the habit of carrying high credit card balances and making little more than the minimum payment each month, your debt may be growing at an alarming rate.
You’ll find it easier to get a handle on your personal finances if your debt is shrinking. To that end, stop using your credit cards to make new purchases and start paying down your high-interest balances to avoid wasting more money than you have to on interest charges. Resist attractive “introductory” credit-card offers that promise a nonexistent APR for months or years and “low rates” after that, using debit cards or cash instead.
Once you’ve gotten your debt situation under control, using a low-priced debt settlement service if necessary, make sure to avoid the mistakes that got you into your predicament in the first place. Not all credit is harmful: You probably wouldn’t be able to afford your home or car without a sizable loan after all. If you’re serious about managing your personal finances, however, there are a few types of credit that you should avoid in all but the most dire circumstances.
Credit cards are useful until the first time that you fail to pay off your balance in full at the end of your monthly grace period. Interest rates on most credit cards exceed 10 percent and may reach 20 percent or more if your shaky credit score warrants it. Carrying a balance for even a single month negates the value of any rewards or cash bonuses that you may earn by using your card frequently, and missing just one payment will incur late charges and a penalty APR that can approach 30 percent.
Most financially-responsible folks carry one or two credit cards in their wallets for use only in serious emergencies, like an unforeseen car repair that’s not covered by the vehicle’s warranty. Otherwise, there’s no point in tempting fate by racking up credit-card charges that you can afford to pay for out-of-pocket. To ensure that you’re able to make these emergency purchases, set up a savings account, drop five or 10 percent of each paycheck into it, and don’t touch it except to pay off your credit card.
As bad as credit cards can be, some forms of credit are worse. Payday loans come with ruinous interest charges that exceed those of even the worst credit cards by an order of magnitude. Since most payday borrowers have poor or nonexistent credit ratings and thus few other credit options, payday lenders can get away with charging 15 percent of the loan’s total value just for the privilege of taking it out.
Since they’re designed for a very short term, usually not more than two weeks, the full cost of payday loans is lost on borrowers who just need them to get by until their next paycheck comes through. Expressed as an APR, however, that same 15 percent charge balloons to nearly 400 percent. In fact, many states still permit payday loans to be rolled over indefinitely, trapping unwitting borrowers in death spirals of debt from which it’s difficult to recover.
You can avoid many problems caused by the excessive use of credit if you don’t need to borrow money in the first place, so it’s crucial to stick to a budget and spend less than what you earn.
Making a rudimentary personal budget is easy: In addition to determining values for your monthly income and debt obligations, figure out how much you currently spend on bills, food, fuel and anything else you might need in a typical month. If your expenditures approach or exceed the difference between your income and your monthly debt payments, some adjustment is in order.
Fortunately, it’s easy to right-size the cost of running your household. Avoid making fun but expensive purchases, like fancy restaurant dinners for minor celebrations or Saturday-afternoon trips to the ballpark with your kids and their friends, that may not be worth the short-term satisfaction. Eat at home more, using frozen bags of pre-cut veggies and 80-20 chuck instead of fresh arugula and grass-fed steaks. Cut out the all-inclusive cable package that you only use to impress guests anyway and replace it with a basic channel lineup and broadband Internet service. The cost-cutting potential of a well-thought-out budget is virtually limitless.
Managing your personal finances requires initial sacrifice and ongoing discipline, but it’s bound to pay off in the long run if you make a plan and stick to it. Once your debt situation and household budget are under control, you’ll be able to begin saving in earnest for a future that you never dreamed would come to pass.
