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zen habits: How to Stop Living Paycheck to Paycheck

Thursday, February 1, 2007

How to Stop Living Paycheck to Paycheck

For a few years, I went through tough financial times. I was getting further and further into debt, not paying some of my bills (which then went to collectors) and always behind, even on payday. It took me awhile to step back and realize that this situation was all of my own making, due to my own choices and financial habits, and that it was possible to change.

Today, things have gotten better, although I'm not out of the red yet. I have begun saving, I've paid off several small debts and am well on my way to paying off my credit card (which I've canceled), and hope to pay off my car by the end of the year. I plan to be debt free in a little over a year, with good prospects after that. I'm also planning for retirement, a little travel, and a simple house. My finances are much better off today than they were just a year and a half ago.

Kiplinger magazine just posted a good article entitled, "Stop Living From Paycheck to Paycheck" and I'd like to share my thoughts on the subject as well. Some of my advice will be similar to Kiplinger, but mine is more practical, I think. I've been there, and I am living this advice.

First things first
Kiplingers recommends starting by tracking all of your spending on a daily basis, which is a typical recommendation from financial advisors and blogs, and is good advice. But mine is attempting to be practical -- I've been there, in the trenches, and I know that keeping track of daily spending can be difficult. I advise you to do it, but if you don't, for whatever reason, don't let that stop you from fixing your finances.

My recommendation is that, whether or not you track your spending (and you should), at least do the following:

  1. Stop the bleeding. Stop using your credit and debit cards immediately. Cut them up, or put them in the freezer in a ziploc bag filled with water, effectively freezing your cards. Also stop taking other loans, either from banks or finance companies or friends or family. Stop getting into more debt.
  2. Start saving now! The next most important step you can take, in the beginning, is to start a small savings account if you haven't already. Begin depositing into it regularly, at least $100 per paycheck but more if you can. If you can't find $100 then see the next step for how. Make it an automatic deposit, the first bill you pay each payday, because it is the most important! A savings account will help you smooth out your finances -- when an emergency comes up, like your car breaking down or someone having to go to the hospital, you won't be thrown back into debtedness or brokedness. You will have some cash to pay for that emergency, and you can use your regular paycheck for regular expenses.
  3. Look at discretionary spending. If you can't find $100-200 to save per paycheck, then you need to cut some things from your spending. This is where tracking your spending comes in handy, but even if you don't, you know some of the extras you spend on -- cigarettes, coffee, snacks, candy, desserts, eating out, magazines, shopping for clothes or gadgets or toys or shoes, books, going out ... these are just a few of the examples. I'm not saying you need to cut everything out, but if you can cut a few of them, or maybe just one at a time, that can add up. Then, take the money you didn't spend on those discretionary items, and put that amount into savings each payday. Increase this over time. (See How I Save Money.)
  4. Start a debt snowball to begin getting out of debt. If you haven't read about debt snowballs, they're simple. List out your debts and arrange them in order from smallest balance at the top to largest at the bottom. Then focus on the debt at the top, putting as much as you can into it, even if it's just $40-50 extra (more would be better). When that amount is paid off, celebrate! Then take the total amount you were paying (say $70 minimum payment plus the $50 extra for a total of $120) and add that to the minimum payment of the next largest debt. Continue this process, with your extra amount snowballing as you go along, until you pay off all your debts. This could take several years, but it's a very rewarding process, and very necessary.
Now that you're out of the ER
Those are the first, emergency steps to take. While you're doing those steps, start on these:
  1. Make a budget. I know, it's a dreaded word for most of us. But it's not that hard, and if you set it up right, it's fairly simple. I recommend using a simple spreadsheet. List all your regular expenses (rent, car, utilities, internet, etc.) and their amounts, and then your variable expenses (groceries, gas, eating out, etc.), and then your irregular expenses (things like car maintenance or medical that might not come up every month, but break them into estimated monthly expenses -- if you spend $600 a year on car maintenance, budget a $50 monthly expense). Now match that up against your income. The expenses should be less.
  2. Automate your bills. As much as possible, try to get your bills to be paid through automatic deduction. For those that can't, use your bank's online check system to make regular automatic payments. This way, all of your regular expenses in your budget are taken care of. Make sure that your savings is done the same way - automatic deduction.
  3. Save for your irregular expenses. Some call it a Freedom Account, but the key to ensuring that you have smooth finances and that you stick to your budget is to take into account all your irregular expenses, such as insurance, car maintenance or repairs, gifts (think Christmas!), medical and other such things. List them out, estimate your annual spending, and begin saving for them each month. Again, if you spend $600 on car repairs, budget $50 a month for that expense, and put that amount in savings. You could set up different accounts for each expense in an online bank such as ING or Emigrant, or put it all in one account and use Money or Quicken or a spreadsheet to keep track of each. Then, and here's the key, when these expenses come up, use that money for those expenses! That way, you can use your regular budget for the stuff it's meant for, not for these "unexpeceted" expenses.
  4. Use the envelope system for your variable expenses such as food and gas. This is optional, but it's a good tip. I've been using it myself, and it works like a charm. Let's say you set aside three amounts in your budget each payday -- one for gas, one for groceries, one for eating out. Withdraw those amounts on payday, and put them in three separate envelopes. That way, you can easily track how much you have left for each of these expenses, and when you run out of money, you know it immediately. You don't overspend in these categories. If you regularly run out too fast, you may need to rethink your budget.
  5. Start thinking about your goals, and planning for them. When do you want to retire? How often do you want to travel? When do you want to buy that dream house? Do you want to save for your kids' college education? Think about what you want in life, and start planning to save for them, especially once you've done all the above.
Once you've gotten beyond these steps, you should be past the paycheck-to-paycheck syndrome. Now there's a whole world of personal finance options available to you, including investing your money for your goals. But getting past these first stages is important.

See also:


Anonymous said...

Nice job! I've been implementing some of these things myself recently. I have to say, the problem is that it takes a lot of discipline, and sometimes I just don't have it. Good job with your finances.

Leo said...

Thanks. I'm not sure that it's discipline, though. I still don't feel like I have discipline, but I think it's just a matter of adjusting some of your habits.

Also, focus is important. If you put a lot of focus on your finances, you can changes them, but if you don't give it much thought, things won't change.

Anonymous said...

nice article. you've been doing a good job on this blog. seems to be getting pretty popular since last time i was here just a month ago.

Anonymous said...

Snowballing is my favorite tip. When you first start, it doesn't seem to amount to much, but by the mid range of debt owed, you can not only see the progress in how far you've come, the snowball is now the size of a snowman and that's where, I believe, the magic starts.

Great tips!

Leo said...

Hi Renee, great comment! I'm actually now in the middle of my snowball, so I know what you mean. I can see the end in sight!!!

I can testify that this method works wonders.

Marie said...

You have some really great advice here. The best thing that happened to me was online banking. Before that, I sometimes paid my bills, sometimes, not. It was a mental anguish thing.

Leo said...

Hi Marie, thanks for the comment. I definitely relate to the mental anguish thing. :)

I think that anguish is the same feeling we get from a lot of things that are important but that we put off. So the answer is to just bite the bullet, swallow our fear, and face those things we have been putting off. Once we do, there's a sense of relief, as I'm sure you've experienced. It's the putting off that gives us anguish, I think.

Anonymous said...

Good tips. Just a thought about tracking your spending... I tried doing it. I tried hard. But every time I just fell back into not tracking it at all. The main reason for that was that I was trying to track every cent. Now I track my spending on a an per account level. Meaning, I don't know exactly how much I spend on candy, groceries, magazines, etc. but at least I know how much cash I get out of the ATM. Finally, I know how much I'm spending, even though I'm still not sure what I spend it on. The envelope technique might help...

Leo said...

Thanks for the comment. Yes, I've tried and failed with tracking my spending a few times myself, so I know that it's something a lot of people won't do ... that's why I say to move on to the other steps even if you don't track your spending. Of course, I'm doing a One Month Challenge to track my spending this month (stay tuned for daily updates).

One further tip: if you suspect you might spend too much on magazines or candy or something, try tracking just that expense, or two or three expenses, for the month. It might be easier and more accomplishable, and it could be an eye-opening experience.

Anonymous said...

This may sound crazy-but I think that for some, making a plan to track spending actually ends up being a huge obstacle for some people.

It is very difficult to follow through on so people tend to give up on it and continue bad spending habits.

I think if we are honest with ourselves, we already know the problem areas. I would suggest cutting out ALL extra spending at the beginning. For me this included movies, newspapers, magazines, lattes, sodas, candy, eating out etc. A reasonably intelligent person knows what the problem areas are already. One month of this and the difference will usually be noticeable enough to trigger continued change. After a month or so, add a couple of splurges back in, slowly and thoughtfully, perhaps putting a weekly dollar limit on what to spend for extras.

Leo said...

Exactly how I feel. Whether you decide to track your spending or not, don't let that stop you from taking the other steps I mentioned in the article. We usually already know what items we can cut back on, if we give it a little thought.

Tracking your spending, though, can give you a better picture of where your money is going, so I recommend doing it at some time. Like I said, I've failed a number of times, but I'm trying to do it this month. I'll let you know how it turns out.

Thanks for the comment

Anonymous said...

Oops hope that post didn't sound critical. I like your site. Please let us know if tracking your spending works out for you

Leo said...

No, it didn't sound critical at all (and don't worry, I don't mind critical - it forces me to think about my positions).

As for tracking my spending, check back daily (or subscribe). I've been posting daily updates to my tracking (see the ONEMONTHCHALLENGE label at the right). At the end of the month, I'll total all the categories up and write about my thoughts and the successes and failures of this one-month challenge.

Thanks for the comments and keep coming back. You guys are great.

L. Marie Joseph said...

Savings, for the most part has to become a habit.

Once it becomes a habit, you will not feel right to spend your entire paycheck.

Leo said...

Good point, moneymonk. I think my article is aimed at getting to that point, for those who have a hard time even finding a few bucks to save each paycheck. Once you stop the bleeding, you should focus more intently on the habit of saving.

I like you blog, btw.

Anonymous said...

Hi I'm a uk simplicist. I have been debt free for 2 years now. I agree that clearing your debt is the best thing you can do. It's such a wonderfull free feeling to not owe anyone, and to be able to spend if you want(cash only) on things you want or need.

Leo said...

@UK simplist: thanks for the comment and for sharing your experience. Congrats on being debt free! I have yet to achieve that particular Nirvana but am shooting for mid-2008. I can't wait!

Anonymous said...

Some other things....as a recent victim of some financial trauma I will say that in my opinion, it is better not to save that $100 per week if it is going to keep you from paying $400 on other bills which might avoid paying more on interest and fees. Although i do believe it is important to start saving, it never makes sense if it costs you more money.

Next....when choosing the biggest snowball, the interest/fee equation should come in there as well because if you are like me and have $30K of student loans at <4% interest it doesn't do you any good to pay this off first. Same goes to say for a $10K credit card at 10% vs. a $5K credit card at 30%. Getting the highest interest accounts paid off first will slow the "bleeding" down fastest.

Martina said...

As someone who is also in the mid-phase of paying down her debt, I really appreciate your ideas. I too have found snowballing to be very effective. It's librating to see individual bills start to get paid off. Debt can be draining of more than just the pocketbook. I was not the greatest manager of my money in my younger years, yet I spent more time worrying about it than it would have taken me to just create and follow a reasonable budget. I guess that's that hindsight thing. Anyway, thank you for the suggestions. I know I'll be trying to implement some of the ones I have not already. Great blog!

Leo said...

@J: great points ... I wouldn't suggest that people save in favor of paying bills ... what they should cut, in order to save, is discretionary spending, or find a way to lower some larger bills (like car payments, rent, etc) if possible.

As for the snowball, you are right, paying off higher interest debts first makes the most financial sense. The reason I suggested (like others have) paying the smallest amounts first is that sometimes the higher interest debts are very large and can take a year or two to pay off, while a smaller debt might only take a few months. Psychologically, it's much more likely that someone could stick with the debt snowball for at least a few months (rather than a year or more) to be able to pay off that first debt -- and it's a very rewarding thing to pay off that first debt, and makes it more likely that you'll go on to tackle the next one.

However, your point is well taken. Not only the size of the debt but the interest should be taken into account.

Thanks for the great comment!

Leo said...

@Martina ... congrats on making such great progress in paying off your debts! If my tips helped you at all, you've made me very happy. I'm glad you're enjoying the site. Keep up the great work.

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