Simple Ways to Take Control of Your Personal Finances

As mentioned in a previous post, this week is Financial Planning Week. The intention of this week is to raise awareness of the importance of financial planning.

Ever feel like you are living paycheck to paycheck? Is there too much month at the end of the money? Are you encumbered by debt?

If so, you are not alone. Debt is virtually an epidemic in this country. Many people lack the simple tools and the will to get control of their personal finances. The good news is that financial peace is just a few steps away for anyone.

I’ve been reading a book called “The Total Money Makeover” by Dave Ramsey, and he offers simple and ingenious tips for personal finance. Allow me to share the basics with you.

1. Make a budget

Sounds simple, but two-thirds of Americans don’t even bother to make a budget. So if you do this one thing, you are already ahead of the curve. Why is a budget important? As Dave Ramsey says, you need to put a name on each dollar at the beginning of the month. If you don’t control your money, your money will control you.

Budgeting is all about proportions. Obviously everyone has different income levels, and different circumstances, so a budget has to be customized to your needs. In general, however, you should look at what percentage of your income you are spending on different areas. For example, housing should probably be around 25 percent of income. If you make $2,000 a month, you shouldn’t be paying $1,000 a month for rent or mortgage in most circumstances. You should be paying around $500; otherwise there will not be enough money for everything else you need.

Start with the necessities first (in order of priority)

Food: 5-15%

Housing: 25%

Utilities: 5-10%

Transportation: 10-15%

That’s basically half your income right there, ranging from 45 to 60 percent. Most people probably spend 80 percent of their incomes on these necessities because they have high house or car payments not appropriately proportional to their income, and perhaps aren’t frugal with food and utilities.

After that, people get into trouble with extras. You should budget money for clothing, recreation, medical expenses and personal stuff as well, but put a cap on how much.

Live on 90%

Don’t spend the whole dollar. My philosophy is that at a minimum, don’t spend more than 90 percent of income. You’ll need the 10 percent for the next steps. If you can manage more than 10 percent, you will accomplish financial peace much sooner. I start with 10 percent because it feels more attainable for a lot of people.

2. Get your accounts current

If you have any late bills, a ticket, or anything nagging, take care of that first. Use that 10 percent. Get square. Then you can start the next step.

3. Build a $1,000 emergency fund ASAP

This fund will keep you on track with the rest of your plan, in case your car breaks down or other necessary expenses occur. Dave even recommends selling stuff or taking out a second job if you need to.

4. Pay off debts

Now you are ready to start paying off your debt. This is the natural order. Would you take out a loan to invest in the stock market? Investing for retirement before paying off debts is no different.

The best way to tackle debt is to use the “snowball” technique. Roll over that 10 percent you’ve been using to save for your emergency fund, and put it to work on your debt. Start with the smallest debts, and pay them off first while making minimums on the rest. When one gets paid off, roll the money you were paying there into the next smallest debt. The snowball gets rolling and soon you’ll be debt-free.

5. Build a Real Emergency Fund

You are now debt free and feeling good. To prevent getting into more debt in the future, and to provide security for yourself and your family, build an emergency fund of 3-6 months of your salary. Again, move your 10 percent toward building this up.

6. Save for the big items

Now that you are out of debt and have some security, you can start saving for the expensive items, like a down payment on a house, a car, or even a nice TV. As Dave Ramsey likes to say, you have to live like no one else, so you can live like no one else. The reward comes after you’ve sacrificed for a while to get control of your financial situation.

7. Build Wealth

Dave recommends investing 15 percent of your income towards your retirement. Maximize that Roth IRA account and invest the rest into a good investment plan.

Beyond that, he suggests you look at college savings investment for yourself or your kids, whichever applies. Once those things are square, start paying down that mortgage as quickly as you can. Every year in a mortgage is lost wealth because of the interest on the principle.

That’s the road map. Again, every circumstance is different. You have to customize the plan for yourself. If you find yourself questioning what to prioritize, try giving Dave a call on his radio show or “Ask Dave” online here.