Save More by Tracking Down Your Spending

It does not matter for what purpose you are saving money, it could be for college, for a new car, a house or to become debt free. What matters is that you want, at all times, to save the maximum possible amount. One trick to help you doing that is to have a tight control over your personal finance by knowing exactly how much you spend, for what reason and when.

The first time I actually looked at the numbers I was surprised by the amount of money I was spending in small things. A lot of small, cheap, things were adding up to a point that more than 40% of my spending was going “under my radar”.

Have all information in one place

Most of us have more than one saving or checking account, investments, multiple credit cards, cash holdings. With all that data spread through your financial life it is easy to get lost. Gather all data in a single location. The first time I did that I started an Excel sheet and started entering my balances for everything I had and then followed by all spending I did from that day one. Each time I reached a new month, I would open a new tab in my sheet, rollover the balance from the previous month, added my income sources (such as my salary) and continue the process.

Step by step:

1. Gather your balances in one place (preferably one that does calculations automatically for you such as Excel, Google Spreadsheets, Quicken, etc).
2. Each day update your sheet with your spending as a negative amount (bills you paid, anything you bought, etc), including the description. Example: Loan payment -$1500
3. Each day update your sheet with money you made as a positive amount (salary you received, lottery you won, etc ;)).
4. Do that until the end of the month and then roll the balances to the next month sheet.
   

Analyze the data you have

Add up each type of spending you have so you know how much you spend per month with it. For example, add up all car maintenance, car parking costs, and car gas so that you know much your car costs. Do the same for house bills, entertainment, debt payment and other minor spending (Starbucks, Netflix …).

The moment you do that you will probably notice a few things you could easily reduce, such as stopping buying coffee at Starbucks but doing it at home and saving about $50 per month.

Plan your changes

Before you go over the top with the frugality idea, use your sheet to project the impact of cutting down one or two things. If you believe the sacrifice is worth the benefits, go ahead! One good tool to do that is by calculating your crossover point (a.k.a. financial independence) and then revising the calculation with your changes.

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An Easy Way To Justify Your Frugality

J.D. wrote an excellent article about choices you have to do in life to reach your big goals. He discusses a few “tools” you can use in order to persuade yourself into not buying something in order to save money, and I believe there is one small addition I could do to his list.

In a nutshell he lists the following tools:
Keep you goal in mind: Focus on why you need to save money and keep reminding yourself of that. “Do I need an iPhone or a million dollars?”, “Do I need a Wii or to become debt-free?”.
Boost your income: Self explanatory. Put additional energy into making more income in order to save more.
Be patient: Progress increases over time because you will slowly and gradually pay (or receive) less (or more) interest as you continue focused.

One thing I do to keep my goal in mind is to calculate a comparison multiplier: I take the estimate time until I reach my goal (for example 10 years) and then I compound the interest I receive in my investments for 10 years. If I am getting 10% / year that means to multiply what I have by 1.10 after 1 year. After 10 years that means 1.10 ^ 10 = 2.59.

Now when I see a fancy new iPhone for $500 I ask myself: Do I need an iPhone or to be $1295 closer to my goal?

If your goal is to be debt-free it is even better. Interest on debt is generally a lot higher than interest you receive in investments. Let’s take J.D.’s credit card interest, which is 19.8%/year and calculate his multiplier for 10 years: 6.09! Does J.D. want an iPhone or to be $3045 closer to be debt free in 10 years time?

I know my personal answer. What is yours?

Calculating how long you need to achieve financial freedom

This article was submited to the #112 Carnival of Personal Finance. Complete list of entrants can be found here

Financial freedom may be the dream of most people. What is financial freedom?

In my opinion, it is the freedom to do whatever you want, financial-wise. Great… How do we get there?

Crossover Point

Let’s assume you have a steady job with generates income, you spend part of your income and invest the rest. Someday your investments will be so big that they will generate more income than your full time job. When that happens, you have reached the Crossover point (a.k.a financial freedom).

It is easy to calculate when, approximately, you will reach your crossover point. Open up MS Excel (or similar) and reproduce the following spreadsheet on it with your own parameters such as your income (in my example $60k per year) and your current age. (click to enlarge the image)

When placing the cells with formulas, such as Savings column or Investment Interest, make sure to place “=” before the values you see in the image (i.e. =C8*$E$2 should be placed in the first row of Savings column). The spreadsheet on excel should look like this: (click to enlarge the image)

Now select the row of age 31 (or your own personal age) and then drag it down 20-30 lines. (click to enlarge the image)

You should have a table similar to this. Using that table you will be able to make graphs on excel, such as Income and Interest vs age.

The red circle in the graph below indicates the Crossover point, somewhere between 55 and 56 years in this example. This means that, after 56 years old you can simply walk away from work and you will keep the same income you had with zero effort. You could focus your time into activities that you enjoy more or simply go spend your money.

One thing that is important to note is that the income from your job grows 5% per year, part of it is due to inflation and the other part is because of promotions or other bonuses you eventually get along your life. So this calculation takes into account potential increases in lifestyle. (click to enlarge the image)

You are welcome to play with the Savings (%) and check the impact it has in the crossover age and then leave a comment with your findings.