Financial Makeover: Getting Out of Debt
Aug. 18 -- — Q U E S T I O N: Despite our income, we still live paycheck to paycheck. My husband decided we need to "stimulate the economy" so we bought more things we don't need including three snowmobiles on credit. We have no savings or disposable income. I have a 401(k) plan with very little in it and he has no retirement plan at work. I would like to save more and be able to help our college bound daughter with some of her expenses, but because of the lack of savings, and our inability to hold onto money, I am stuck. Can you help?
— Kathi
A N S W E R:
Kathi is frustrated because she and her husband Curt are living paycheck-to-paycheck despite an income that she feels should allow them to live comfortably and accumulate savings for retirement, their daughter's college education, and other long-term goals. She suspects that they're in this situation because they often make frivolous and expensive impulse purchases, usually using credit cards.
Fortunately for Kathi and Curt, their problem is a lack of saving discipline, not a lack of income. Their $70,000 income is well above the national median income of $43,000, so they are in a good position to save … if they can get their spending under control. Before they can even begin a savings and investment program focused on achieving their long-term financial goals, Kathi and Curt must learn to live within their means.
To make progress toward this first step, Kathi and Curt should do the following:
Define long-term goals: It is very difficult to motivate oneself to save without clear future spending objectives in mind. Kathi indicates that she and Curt want to save for retirement, but I'll bet that, like most people in their 30s, retirement is only a vague notion to them. They probably haven't spent much time thinking about how exactly they want to spend their retirement. By defining specific retirement spending objectives that motivate Kathi and Curt (e.g., retire at age 60 spending $55,000 annually, buy a $150,000 vacation home, etc.), long-term goals become more "real," making it easier for them to defer spending now and save for the future.
Develop a budget: Developing and following a budget is crucial to curbing out of control spending, as it forces people to acknowledge and understand how they're spending money. Budgeting can be as simple as keeping written notes or as complex as using Quicken or a spreadsheet. What's important is that Kathi and Curt find a way of tracking their expenses that works for them.
They should begin by setting reasonable and realistic spending targets for each major expense area (e.g., groceries/dining, vacation/entertainment, utilities, insurance, automobiles, etc.) and setting a monthly savings target (more on this later). They can then observe how their actual spending over the next several months compares to the targets. They'll likely find that their actual spending is far higher than their targeted amounts in several expense categories. Armed with this information, they can then work on adjusting their spending habits to adhere to the spending targets.
