Tired of living paycheck to paycheck? Reduce your income. That's right, take a pay cut - an artificial pay cut.
I believe most people live week to week, needing their next check because they do not know how to save. A check comes in, the cash is in hand, and we spend it. As Americans, we learn to spend, spend, spend. It's the American way to compete with your neighbor and buy things to fulfill a short-term desire. Generally, if we have money sitting around, we're going to spend it.
This is why I recommend artificially reducing your income. Savings is really nothing more than a safe spot to store or even "hide" money from ourselves and our poor spending habits. The challenge is forcing ourselves to do this every week, especially once we see the cash. So, I found a solution that works for me. Direct Deposit.
Yes, I know a lot of people use direct deposit; it's nothing new. Not everybody with direct deposit saves though. This is because the money generally just goes to a checking account where we have easy access to it, the whole amount. The trick isn't direct deposit itself, but in automating multiple direct deposits to different accounts.
If you setup your pay (and most employers will do this for free) such that it goes into at least two accounts, it is very easy to force yourself to save. All you have to do is put a fixed percentage into a savings account (at least 10%), then the rest in your checking. Notice I said to fill the savings account first, then put the remainder in your spending/checking account. This is a crucial attitude shift that will drive good savings behavior. I'll explain more about this in a later post, but the key take-away is to always pay yourself first.
You can make this as simple or complex as you want, but the point is to automate it. Speaking from personal experience, most of us don't have the self-control to set aside savings each week. But if you set it up once, and let the bank do it automatically, savings just becomes routine. You take on the mindset that only checking is accessible for expenditures, and adjust your spending accordingly.
As an example, I split my direct deposit into four accounts: checking, cash savings, brokerage/investments, and Roth IRA. Let's start with the Roth. Starting in 2008, the maximum contribution limit is $5,000/yr. In 2007, I put $100 per week into a holding account ($100/wk x 52 wks = $5200 dollars) so that at the beginning of 2008 I would have $5K available for my retirement account. I'm doing the same thing during 2008 for next year's contribution. The next part of my pay is deposited into savings and brokerage accounts; the brokerage account being more for long-term savings, and the cash account for unexpected expenses, or the occasional gift for a friend. (You could also create a CD or CD ladder). I live off of the remainder, which gets dumped into my checking account.
If your employer or current bank cannot handle multiple direct deposits, I'd suggest setting up an account with an online banker, such as INGdirect. You want to make sure the bank is insured by the FDIC, and offers free recurring ACH transfers. ACH stands for Automated Clearing House. It's one of the networks banks use to transfer money. INGdirect does offer this, and is very good at it. It has the ability to be a central deposit for you. You can have your paycheck deposited to ING, then setup ING to distribute a portion to your checking account on any time interval you want. You can do the same with your savings portion, or you can leave it in ING to grow. Banks like this generally offer very good interest rates also.
After you start doing this, you'll never notice the savings portion missing. You just come to expect a smaller paycheck each week (essentially you're paying yourself the remainder after savings). Then, when it's time to make a big capital purchase, or an unforeseen expense arises, you won't have to worry about where the money will come from.