1. Pay yourself first by setting aside money for your future retirement
2. Automate it using online banking
3. Buy a house as an investment and pay it off
PAY YOURSELF FIRST
Pay YOURSELF First - before you pay the government, before you pay your bills, before you buy ANYTHING, automatically set aside 10% of your paycheck each month for your retirement fund.
Cut out on UNNECESSARY expenses - look to your daily expenses starting from that bagel and coffee on the way to work, to the mid day croissant. Bach introduces the concept of 'The Latte Factor', which is, in essence, the concept of the time value of money - how much spending on a single latte each day can cost over a long period of time (to find out more, read my post on Why That Latte May Be More Expensive Than It Looks).
Work for YOURSELF - how many hours do you work for yourself? If you spend all your salary on your current daily existence, only to pump that life force back into another day working (and earning) for your employer, who are you working for? For example, with a 40-hour work week, what is your hourly pay? Based on the amount you save for your own future retirement, how many hours of work does that translate to?
How many hours did you work for yourself today?
Upon determining a portion of your paycheck to save, how many people will actually stick to it?
PROTECT yourself from yourself - it is human nature for people to seek gratification sooner rather than later, and for the future version of ourselves, well, we just don't feel very much for that guy. At least not while the latest iPhone has been launched. Hence, to protect yourself from yourself, the easiest way is to automate your savings. Before you even get to see it.
In the US, companies may match contributions made to your retirement plan. Otherwise, the IRA offers individual retirement plans i.e. traditional IRA and Roth IRA plans. The choice of IRA plans will determine on your level of income and the timing for payment of tax dollars i.e. traditional IRA imposes taxes on withdrawals while Roth IRA imposes tax on the onset (read this article on Traditional IRA vs Roth IRA)
In Singapore, compulsory contributions of up to 20% of an employee's paycheck are automatically deducted and set aside in a Central Provident Fund (CPF), earning interest of 2.5%-4%. These contributions are eligible for income tax relief and additional voluntary contributions up to $14,000 are eligible for further tax relief (see my infograph on How To Get Income Tax Savings While Saving For Retirement).
It is easy to automate contributions to these plans via opt-in with your company or GIRO payments through your bank. Your contributions will be deducted directly from your paycheck before you even see it!
"You can't spend what you don't see"
Save for EMERGENCIES - in addition to your retirement fund, which may have restrictions on when your cash can been drawn down, an Emergency Fund should be set aside for short term liquidity e.g. temporary unemployment, medical bills.
The 3 main rules governing the Emergency Fund are:
- Determine how much you need - how many months of salary do you need to feel secure?
- Don't use it - an emergency fund is emergencies, remember that.
- Where to put it - do not let the banks get rich from your money, research on rates offered by money market accounts and park your money there.
BUY A HOUSE & PAY IT OFF AUTOMATICALLY
OWN your home - home ownership is akin to a forced savings plan where, in exchange for mortgage payments, there is the potential for capital appreciation. In short, the idea of home ownership is to leverage on other people's money (the bank's money) to invest for capital appreciation, while getting tax breaks on your savings i.e. tax breaks on mortgage payments.
The key points on debt-free home ownership:
- How much can you afford
- Choosing proper financing
- Loan tenure
- Faster loan payments
ACCELERATE loan repayment - below is a summarised comparison on the difference between monthly payments and biweekly payments, as illustrated by Bach, which is the key to faster loan payments and saving on interest payments.
|Monthly Payments||Biweekly Payments|
|Monthly payment||$1,834.41||Biweekly payment||$917.21|
|Average interest each month||$1,139.97||Average interest each biweekly period||$372.41|
|Total interest||$410,388.12||Total interest||$291,226.69|
|Repayment period||30 years||Repayment period||23 years|
Alternatively, you can opt to pay an additional 10% on your monthly payment to achieve the same effect.
Key things to check with your bank before arranging for such payments would be (i) if these extra payments can be made without penalty, and (ii) if the extra payments will be used to pay down the principal loan amount instead of being held in a non-interest bearing account.
The above is an introduction to The Automatic Millionaire, a best seller listed on the Business Insider's list of 11 Personal Finance Books You Should Read Before You Turn 30. I found the book to be an easy read, providing clear and simple steps which can easily be followed by most people. Hence, I have introduced the key points raised by Bach in his book, along with examples or further explanations given in my related posts linked above.
If you have liked the points shared above and would like a more in-depth read with examples and resources shared by Bach, do purchase a copy of The Automatic Millionaire by clicking on the links. Please note that these are affiliate links, and at no additional cost to you, I will earn a commission if you decide to make a purchase.
You can also read similar introductions to Good Books on Personal Finance here.