The goal of this blog is to share information on lifestyle freedom, financial independence and technology. To that end, today we talk about 5 budgeting tips to help attain or maintain financial independence.
Tip 1 – Work towards being Debt Free
This one has been pretty easy for me because I hate debt. When I was a teenager, I really wanted some new rims for my car and did not have the money to pay cash. I went to a local tire dealer and asked if I could “pay over time” (finance it). They agreed with no interest and asked me to make monthly payments.
I hated owing for the rims. Every week after I received my paycheck, I hunted the owner down and made a payment, paying the rims off in just over a month. He couldn’t believe it. He told me that I was the only person that actually came to find him to pay him money (I had to find him one week at a junkyard he was visiting).
If you have debt, here is how you should attack it:
- Cut up all your credit cards but the one with the lowest interest rate.
- Make minimum payments for each bill except the one you owe the smallest amount on.
- Take any of the extra money that you would paying on those bills and apply that towards your smallest bill until it is paid off (it should be paid off quickly since you are focusing on paying more on that bill).
- Once the smallest bill is paid off, take the money you were paying on it and shift that to paying off the 2nd smallest bill (along with the normal minimum payment you were making before on that bill). You will have this bill paid off quickly.
- Repeat the cycle, moving to the next smallest bill until you have no more bills to pay off. This is called a Debt Snowball.
Tip 2 – Know your Net Worth
It’s important to know your net worth because it is a key statistic for determining when you have reached financial independence. Net worth can be calculated as total assets minus total liabilities. Stated more simply, it is what you own versus what you owe. Here is how you might calculate net worth:
- Make a list of all your assets (house, cars, boats, investments, etc.). You can find how much your house is worth at Zillow and your cars at Kelly Blue Book.
- Make a list of all your debts (house mortgage, car payments, credit card debt, etc.).
- Subtract the total of liabilities from assets, this is your net worth.
You can certainly do the above by hand (or with a spreadsheet) but I suggest using a tool like Personal Capital because it makes it easier and it also helps with Tip #3. The best part about Personal Capital is that it is free, you can download it here.
Don’t worry if your net worth is small, if you follow the tips in this blog it will grow quickly. Once you start investing, you will also want to track your Liquid Net Worth because it will be used to determine when you can retire.
Liquid Net Worth is similar to tracking your net worth but instead of using assets, you use only your investments as your assets because this is the part of your net worth that actually generates cash for you (in the form of dividends and appreciation). So you take your investments minus liabilities to obtain your liquid net worth. Once you have that number, multiply it by 4%, that is how much money you would have per year if you retired immediately. So if you had a $500,000 liquid net worth, you could stop working if you could spend $20,000 per year max.
Tip 3 – Track Every Dollar
You will find that if you track every dollar you spend, you will tend to spend less. When my wife and I started tracking our budget, we quickly reduced our spending by 20% because we saw the money going out. I create a weekly budget report and send it to her via email. She loves that because it makes our finances transparent with each other.
Personal Capital can also track the budget and how much you spend each month in each category, that is why it is a great tool to use not only for net worth but also for budgeting.
Tip 4 – Add a Buffer
When budgeting, it can be disheartening when unexpected things come up. Your furnace breaks, your car needs an oil change, or your kids need more clothes. Things come up, it’s part of life. I always suggest you add a monthly buffer to your budget. You might start off with a $200 buffer and if unexpected things come up, you are covered.
Tip 5 – Give Yourself an Allowance
If you are married, there is nothing worse that having to justify a purchase with your spouse because what’s important to you is probably not important to them. To get around this issue, agree on a weekly allowance that you each take and each of you can spend that money on anything you wish. Nothing to justify, nothing to argue about. How cool is that? The amount of the weekly allowance can be as little as $10 per week or $100 per week if you are in better financial shape.
Try these budgeting practices for a month and let me know how you are doing!
About this Blog
Steve and his wife built a software company, sold it and retired early. Steve enjoys blogging about about lifestyle freedom, financial independence and technology. If you like this blog, subscribe here to get an email each time he posts.