Step 82: Pay Yourself First

Step 82 of the 100 Steps Mission to Financial Independence: Pay yourself first
Step 82: Pay yourself first

“Pay Yourself First”, one of the biggest motto’s in the personal finance world, is a hugely empowering and motivating concept that stimulates you to keep your savings goals at the top of your list. It’s origins are attributed to George Clason’s famous book The Richest Man in Babylon and although the book is nearly a century old, many of its lessons are still extremely valuable today.

I can hear objections already “But I am not a business owner, I can’t pay myself”, or maybe you do own your own company and think: “I need to pay my people first before I can pay myself”. Then yes you are totally right in both cases. But that is not what this concept is about.

Pay yourself first has nothing to do with your salary. It has all to do with priorities. You can be on a regular pay roll and get paid by your boss but still pay yourself first. Or you can be a business owner and pay your employees before anybody else, then pay all your creditors but still pay yourself first.

Pay yourself first has everything to do with setting priorities for your finances. Let’s complete a mental exercise about the road that your money takes every month. It of course starts with pay-day: you receive your paycheck. The first thing that happens even before you receive that money are the taxes taken out of it. Then you receive whatever is left over and probably one of the first things you need to pay are the rent or the mortgage. Then there’s the car your paying off, insurance to pay, utility and food bills and you’re in desperate need for a new coat and of course you’re joining your co-workers for a Friday afternoon drink after work. You likely have some more to add. So the list continues until there’s hardly anything left at the end, right?

So let’s see who’s being paid here then, as it certainly wasn’t you!

  • taxes of course are payments to the state;
  • rent – there’s your landlord getting paid;
  • mortgage – that will be your bank manager getting paid;
  • car payments – another one for your bank manager or car dealer;
  • insurance – the insurance company will have that, thank you very much!
  • water and electricity bills – your utilities companies cashing in
  • a new coat – that’s your shop assistant and retailer getting paid.
  • Friday afternoon drink – the bar owner will happily hold out his hand.

And the list of course goes on and on. So where’s your payment? How do you benefit from the money that you earned? Of course you’re able to buy yourself a shelter over your head with that income by paying off you mortgage or paying rent, but that money is being paid to somebody else. With your pay you are also able to buy food and clothes and security in the form of insurance, but whilst you are purchasing these items, somebody else is also benefiting from you buying these products: they are getting paid by you. The one person who doesn’t seem to be being paid is YOU.

Now it would be ridiculous to say that you shouldn’t buy these items and stop paying other people, as you probably wouldn’t survive very long or have a miserable life living at the margins. That’s why this step isn’t called “Stop paying others”. Our society and economy are based on exchanging goods and services for money and it is a key part to survival, happiness and life. Instead “Pay yourself First” encourages you to – before anything else – pay yourself first before you start giving away your money to others.

Although you might not be able to change so much about the fact that taxes are taken out of your pay first (although of course there are some pension funds that will let you invest tax-free and then you could always consider moving to a lower tax state or country), you can pretty much make sure that as soon as you receive your net pay, that you pay yourself first.

How to pay yourself first? By setting aside money for you – to build a secure financial future, to grow your capital and net worth, to reduce debt and to improve your general financial situation, so that you and your family little by little gain more financial security and freedom. By assigning an amount of money to go to you, you give your future self an income, instead of spending it all and giving it away to others, you make sure that some of it comes back to you later.

This means that instead of having to work indefinitely in order to keep up with all of your creditors every single month, you can at some point stop working and enjoy the money you have set aside for your future self. It means that you have paid yourself forward and secured yourself a future income.

Whenever you get paid, think about how to pay yourself first. Set aside money in a savings account, invest the money in a pension fund, or pay down your debt so that you free yourself of those monthly creditor payments. Don’t allow yourself to come up with excuses like: “I don’t make enough” or “my bills are too high”. Find ways to reduce your expenses, to increase your income and remember that starting small is always better than not starting at all. Even small contributions add up over time, and by starting small you build a habit that when you finally reduce those expenses or increase your income, you can instantly increase contributions.

Step 82 – Pay Yourself First – in detail:

  • Brainstorm a list of how you already pay yourself first. How do you use your money to improve your finances?
    • Pension contributions
    • Savings accounts
    • Investments
    • Debt reduction
    • Saving money for a specific goal to avoid future debt.
  • Look at your overview of your fixed, variable and discretionary expenses, go through the list and identify one by one who you are paying every time you make any of these payments. Go through the full exercise and write down the beneficiary for every single expense. See how many people are being paid over you!
  • Give yourself a score of how well you are doing on a monthly basis out of 10, with 10 being “excellent” and 1 “poor”.
  • Set yourself a target monthly contribution or grading on how much to pay yourself each month.
  • Refer to Step 12 which gives a further breakdown on how to set yourself specific savings goals on a practical level.

Once you become familiar with the “Pay yourself first” concept and start internalizing this more, you’ll discover the true power of this wisdom that will keep you focussed on your mission to financial independence.

Read more about my 100 steps mission to financial independence or simply decide to take control today and join us on our step-by-step quest on how to make your finances work for you, starting with step 1.

 

Step 80: Your Savings Rate

Step 80 of the 100 steps mission to financial independence: Your Savings Rate
Step 80: Your Savings Rate

Now that you’ve got a bigger picture of your long-term financial goals, it is equally important to identify ways to achieve those goals. Hopefully by now you’ve set yourself some big financial goals to work towards to in the near future. These could range from earning some extra cash, becoming debt-free and paying off your mortgage, to reducing your work hours or retiring early.

Why exactly do so many people still have debt or no financial or pension plan for their future? Ask anybody in your environment and a vast majority will say that they just don’t have enough money to pay off their debt or to throw at their pension fund. They’ll tell you that they might plan to pay off their debt as soon as they get that promotion and accompanying pay raise. But by now you probably know that even when they get that increase in income, they still most likely won’t be using that money to pay off their debt, nor will they tuck it away and use it to invest in their pension. They’ll simply spend it on new things and without them even realizing it, their lifestyle will gradually inflate to a new level.

And are you maybe still telling yourself a version of this story as well?

Let’s think about how you can speed up your savings goals. Simply speaking and as we have already discussed in earlier steps, there are generally two ways to increase your savings:

  • increasing your income
  • decreasing your expenses

The disadvantages of looking at achieving your savings goals in this way however is that it is easy to focus on the finding excuses for not saving more: “I don’t make enough money”, “If only I earned another $1000 a month”, “It’s so much easier for my neighbor, he earns a lot more than me”, or: “I wish I didn’t have a mortgage for 30 years, it’s a big expense each month”, “It’s easy for you to say, I came out of university with a $50,000 debt”, “I have two young children, do you know how expensive they are?”…. And the list goes on and on and on. Continue reading

Step 55: Discuss Finances with your Partner

Step 55 of the 100 steps to financial independence: Discuss Finances with your Partner
Step 55: Discuss Finances with your Partner

I admit that this step should have probably been way earlier on in the list, since if you share your household and finances with your partner, then discussing money matters and making sure you have the same short-term and long-term goals in mind is essential to not only achieving your financial goals but also keeping your relationship healthy and happy. At the end of the day if you are trying to save, invest or grow your capital whilst your partner is more of the “let’s spend it all now” school, you likely both wind up frustrated with each other, meaning both your financial goals and your relationship happiness will take a hit and suffer at some point.

Sad but true: finances and a lack of shared financial goals or financial compatibility are not uncommon reasons for people to end a relationship, so let’s get this sorted once and for all and make sure that you and your partner discuss your individual and joint financial beliefs and goals. You might not have exactly the same ideas about how to spend or save your money, but discussing will at least create more understanding and hopefully pave the way to an agreement that satisfies both and leaves some (financial) room for both to do your own thing.

Of course it might be that your partner is not into finances at all and is happy for you to take control of the (majority) of the money decisions and responsibilities. If that is the case, it might sound easier in the short-term to simply assume that role not inform or even consult your partner, but remember that long-term this might not be in the interest of neither your relationship nor of your finances. Continue reading

Step 28: Keep 50% of any extra money

Step 28 of the 100 steps mission to financial independence: Keep 50% of any extra money
Step 28: Keep 50% of any extra money

As promised, the next few steps will focus on how to speed up your savings process and reach your savings target faster with some simple ideas. Although the tips and habits will help you to build your living fund faster, they are not meant to be just one-off ideas. If applied over time, they will help you to keep progressing towards new financial targets you have set yourself, even if they have since become other or bigger goals.

The first one of the tips – Keep 50% of any extra money – is an easy one to understand, yet as often is the case when it comes to money, difficult to implement, as it requires you to resist the temptation of instant gratification and instead needs you to focus on the long-term advantages of self-control. Continue reading

Step 26: Open a new savings account

Step 26 of the 100 steps mission to financial independence: Open a New Savings Account
Step 26: Open a New Savings Account

Now that you know all about the power of interest over time, are building (or have built) your emergency fund and have started paying down your debt, we are moving on to a new area of your finances: your savings. In the next few steps we will look at your savings in greater detail, but the first step for today is to open a (new) savings account.

Looking at the title and this introduction you might think can skip this step as you maybe already have a savings account, which you are of course free to do. But opening a new account starts with investigating what’s on the market and I recommend you at least read through this step and potentially still consider opening a new account, as it never kills to have more than one savings account, especially if they don’t involve any costs, and because it can be helpful to have different accounts allocated to different savings goals. Apart from that, it is also a good habit to compare saving accounts from time to time, to make sure you are still getting the best deal. And if you find out you aren’t getting the best conditions possible, it is a good moment to consider changing your savings money to a new account. Continue reading