Whether it’s a down payment on a home, a vacation, a wedding, or even a car, many Americans find it challenging to save for major expenses. Luckily, there are simple approaches to properly develop a savings plan for any of these simple financial goals.
You do have a budget, right?
To pay for any expense, every household should have a budget. At its simplest, a budget allows you to monitor and modify your spending. On the other hand, a budget allows you to comfortably afford your necessities and indulge in a few frills while also tackling debt and building savings. “If you don’t know how you’re spending your money, you may waste what you’re saving on shortfalls,” says Diane Bourdo, a CERTIFIED FINANCIAL PLANNER™ and president of the Humphreys Group in San Francisco. “But if you have a budget and know how you spend your money, you can adjust your budget and easily save for goals—or you can take a realistic look at whether you temporarily need more income, or take other measures to save.”
Most financial advisors would say there are many approaches to creating a budget. In particular, many would agree with Senator Elizabeth Warren’s recommendation that people budget their income into a “pie” according to the “50-30-20” approach: 50 percent of your income pays for needs, 30 percent for wants, and 20 percent for savings and debt repayment. Regardless of the approach, applying a consistent amount of funds on a timely basis means each household will have some “wiggle room” for discretionary (wants-related) spending.
Defining your goal
Once you’ve established your budget, make sure you know the full cost of that item or experience. In addition to the advertised sticker price, consider any taxes, processing fees, shipping duties, or other incremental costs, and then add those all up. This is your goal.
Next, decide when you can achieve it based on your existing budget and how far you’re willing to go to save for it, and consider making minor adjustments to your existing household budget, says Bourdo. Typically, a short-term goal is one that can be achieved within three years and a mid-term goal is one that takes longer than that. In addition to looking at the total amount and when you’d like to make your purchase, determine if your goal will be a one-time expense (for example, plane tickets, new car, a new suit), or a recurring expense (quarterly tuition for a class, monthly car insurance, etc.).
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Add saving into your budget
Once you know your budget, when you’d like to make your purchase, and what type of purchase it will be, don’t forget that what can also make a difference in your financial status is how you choose to pay for these items.
More often than not, relying solely on credit cards for major purchases will likely result in you paying more money than what you originally budgeted for due to interest. Given this, it’s more preferable to develop a savings plan to pay for major expenses. Depending on how much time you have and how much you need to save, different types of financial products and accounts may make sense.
To amass money over time, your savings account is likely your main avenue. At many online and brick-and-mortar banks, you can open an extra savings account at no charge. Yes, this means you could open a savings account just for your goal. Through automatic withdrawals or direct deposits into your savings accounts, you can earmark money for your goal and watch it grow.
If you’ve got a healthy savings account and can wait at least a year to purchase your one-time expense, consider putting money aside for at least 12 months or more until it’s time to buy into a CD (Certificate of Deposit). Widely available at most banks, CDs will pay you slightly higher interest rates than a basic savings account.
Many Americans fail to save sufficiently for emergencies, let alone planned goals. The current American savings rate is 5.7 percent. While this low savings percentage may reflect the fact that some investors are emphasizing debt repayment and may be trimming “good debt” like student loans, it indicates that many people don’t have a lot of room for saving for major purchases. But all is not lost: Investors can manipulate their discretionary spending, trading out some immediate wants for short-term expenses.
Trade Your Everyday Wants for Something Special
If you will need to save for a goal over time, you’ll most likely need to re-assign some of what you’re spending on day-to-day wants. Let’s examine this using the 50-30-20 budget approach.
Let’s say there’s a two-person household with an after-tax income of $7,200 per month. According to “50-30-20,” this couple would have $3,600 for needs (such as but limited to housing, car payment, utilities, medical expenses, etc.), $2,160 for wants (i.e. travel, dining out, gym, cable, shopping, charitable giving); and $1,440 for savings/debt repayment.
If this couple aimed to put $12,000 toward a wedding in 15 months, they’d need to save $800 per month. They could achieve this by simply cutting back their everyday discretionary spending and applying any unused portion to their wedding fund. To make it easier to save $800 per month, they could make the following budget adjustments and not have to rely on credit cards:
- Skipping an out-of-town vacation and visiting friends within walking distance, driving distance, or public transportation (+$200/month)
- Cleaning their house themselves instead of paying a housekeeper (+$200/month)
- Dining out less (+$150/month)
- Down-shifting to a lower-frills or home gym (+$125/month)
- Borrowing books and movies from the library or renting online instead of in the bookstore or movie theater ($25/month)
- Handling their own landscaping ($100/month) instead of hiring a service.
“When you’ve managed your money so that you can afford one of your discretionary goals, the feeling of reward is so much better than just charging that purchase—and paying the price later,” Bourdo notes. “It really comes down to working with a budget, and taking advantage of the resources within it.”
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