By Dr. Danae McDaniel
This is Part 2 of a two part blog which discusses the personal attitudes and practical actions people take who demonstrate the ability to gain long-term financial success. This blog focuses on the practical steps a person can take in order to more efficiently acquire wealth over time. (See Part 1 for the attitudes needed to find financial success)
1. Live Below Your Means
A recurring theme of sound financial decision makers is not only living within their means, but below it. In order to live this out practically there are two critical behaviors that have to engage in the process, discipline and intentionality (see part 1). Living below your means is not about tracking finances in a strict budget sense. Instead, most people take the approach of spending less money each month than they make. The general trait of people who do this is simplicity. Rather than chase fads or purchase expensive things in order to gain status, the majority of wealth accumulators choose to buy solid products that last longer. In essence they buy the best brand and model instead of the most popular option. This decision creates the ability to have excess cash available to invest, save, or utilize for a future purchase need, thereby avoiding credit card debt.
2. Prioritize your spending
Today, fewer people track income and expenses at the detailed level of a budget. While I am still a proponent of a solid expense tracking tool, I can understand why people are opting to prioritize instead. Setting spending priorities engages the attitude of intentionality while creating scheduling space to live a learning lifestyle (see part 1). Prioritizing spending and saving tactics also creates the need to spend money in the highest priority areas first.2 For example, let’s say you have selected the following priorities:
· Monthly Bills (Mortgage, phone, utilities, etc.)
· Basic Living Expenses (food, fuel, medical, etc.)
· Savings & Investments
· Kids Activities
This priority schedule requires you to pay basic life needs first, build saving and investment funds second, and then enjoy the extras in life third. Overtime this approach has the psychological capability of motivating individuals to lower their bills and living expenses in order to enjoy more lifestyle fun. By placing the saving and investment category in the middle, you have a better chance of setting this money aside rather than spending it frivolously. Creating an auto-contribution to your saving or investment account each month can also assist in keeping your financial future a priority over day-to-day temptations.
3. Save Pre-tax and Post-tax
If you have a 401(k) or other pension option provided by your employer, then it is highly recommended to participate in these retirement programs. Pre-tax contributions allow for tax deferred accrual of investment gains and can be potentially drawn down when you enter into a lower tax bracket at retirement, thereby giving less money to the government. If your company offers a Roth component, then placing a portion of your salary into this program allows you to use after tax dollars now so that you enjoy tax-free distributions in your retirement years. For people who do not have company-sponsored programs, an IRA account may be your best option. You contribute with after-tax dollars and then take a deduction on your tax return in order to reduce your overall tax liability for the year (subject to an annual contribution limit and phase-out parameters). Individuals can also open a Roth IRA, using after-tax dollars now to enjoy tax-free distributions in the future.3
4. Live Without Consumer Debt
The fourth practical action that good financial decision makers take is living debt free. The type of debt most often described is consumer debt; mainly credit cards. This form of over spending on normal purchases can limit your cash flow and can impede your retirement goal achievement. I have a friend who lived debt free for several years. Over a three year period she experienced financial hardship and fell into debt of approximately $13,000. After her hardship recovery, it took 5 more years to pay down her debt. In order to do this, she had to engage in all five behaviors discussed in part 1 of this blog post. In addition, it took another 3 years of extra contributions in order to make up for her lack of ability to save and invest during the hardship years. As you can see by her story, three years of overspending created eight years of hard work. It is better to lower your lifestyle during hardships, whenever possible, than to incur debt during financially difficult seasons.
5. Always Consider the Risk
Living life involves taking risk. We take relational risks when we choose to become friends with someone. We take emotional risks when we reach out to restore a broken relationship. When it comes to sound financial decision making, risk must be considered. Diversifying assets, understanding the full cost of an investment selection, and considering the value of the investment can help minimize risk. Equally important is a comprehensive understanding of your financial plan and how your investment selections fit into your plan. Working with a professional, FEE-ONLY adviser can ensure that you have a workable plan that meets your goals while engaging in the least possible risk.
The best financial decision ever made utilized five behaviors and ignited five actions. While each individual decision was unique to the individual posts provided on Quora.com, they each displayed these same 10 characteristics which created the moment that brought them success.
Food for thought: What has been your best financial decision? Feel free to comment below.
1. The Best Financial Decision Ever Made (Part 1), McDaniel, Danae.
2. Your Money & Your Brain, Zweig, Jason.