Automate your savings with Pre-authorized Transfers
Pay yourself first
The best trick I use to build savings is called the pre-authorized transfer. It works on the principal that you pay yourself first, before your bills or before you buy depreciating items. Simply put, you get your bank to transfer your money between 2 of your accounts automatic every time you get paid. This is how it works:
It’s pay-day and your work deposits your paycheque into your chequings account. As soon as the money hits your account, a portion (you pre-determine) is automatically transferred out and deposited into a separate savings account you’ve setup specifically for this purpose. The key is, this all takes place before you have a chance to spend anything, and it happens without you having to manually transfer it. You can then use the remaining money to pay your bills, buy groceries, eat out, go to the movies, or spend how you want to enjoy your life. When we need to do things manually every month, we tend to forget, or regret having to login to your online banking, or even worse you find an excuse not to transfer the money.
3 Reasons why it works
You pay yourself first. Period. Money comes in, you pay yourself first (transfer into your savings account). After all, what’s more important to your financial independence than paying your future self money. Pay yourself before spending your money on material processions that depreciate in value (worth less). If you want to achieve financial control over your life, you need to make saving and investing a priority. The best way to do that is to do it first.
It’s automatic. I’ve said it before and I’ll say it again - if managing my own finances took every waking second of my day, I wouldn’t be all that interested in it. A long time ago, I went to the bank and set up my pre-authorized transfer to move a set amount of money every 2 weeks (on pay day), into a separate account I use for investing, savings, buying assets etc... You can now do that online - it's fast and easy. I don’t even realize it happens, I don't miss the money and it builds savings so much faster than you can possibly imagine.
Psychology. As humans, we experience bigger changes in life more drastic than smaller ones. This too applies to our finances. We all have a financial thermostat - that number where your bank account usually seems to hover around. It’s different for everyone, but we all have a number. When our account rises above that number, we feel rich. Suddenly we can go anywhere, do anything, top up that gas tank, or buy that new phone we didn’t really need - but we sure did want because it was new and shiny. Then our account drops below that number and suddenly survival kicks in, we start saving money, buying food on sale, eat out less, maybe skip the party on Friday night until we get paid again. Do you ever wonder why you can’t seem to grow that number higher to somewhere you’ve never seen it before? It’s all about lifestyle. I promise, you won’t even notice these pre-authorized transfers (small at first), and it won’t impact your lifestyle one bit. Over time you can increase the amount that is transferred automatically until you are saving a ridiculous large percent of your paycheck every 2 weeks. Again, you make these small changes over time, and you won’t even notice the money isn’t there to spend. It’s something quite magical.
To go a bit deeper into #3, if you’re a bit hesitant or worried when you first setup your automatic transfer, pick a small number:
$50/month = $600 a year
$100/month = $1,200 a year
$500/month = $6,000 a year
$1,000/month = $12,000 a year
$2,000/month = $24,000 a year
$3,000/month = $36,000 a year
Wait, I can already sense your hesitation - if you take away $1,000 a month from yourself, how can you possibly survive? It seems impossible - you still need to pay your mortgage or buy groceries? Or at bare minimum, enjoy life which means eating out, having a beer, taking a vacation, travel the world...
Like anything else in life, you have to start very small, build your habits, and grow from there. If you do it properly you won't experience disruption to your lifestyle, you'll actually start to feel better, like you have more control, more buying power and more freedom. I'll explain this more in another post.
What seems impossible at first, will become easy over time - that is a promise. Just start small and grow the number slowly.
When you start this process, you’ll be consciously aware the money is being transferred out of your account, this is a critical time to exercise self control - the key is to not to touch that money. Think of it as already “spent”.
You’ll find a way to continue living as comfortably as you always have with your current lifestyle. It’s the way that lifestyle works - you naturally priorities things that are most important to you first. All the things that you’re worried about having to give up right now - you won’t have to. The second year into it - crank up the number to something a little higher. By then you’ll be so familiar with the process that you will probably try and push yourself - increase your pre-authorized transfer by a few hundred dollars. Got a new raise? Don’t spend it, increase your number even higher. Before you know it, you’ll be saving so much money it’ll make year 1 seem like a joke.
What I did
I’ve been doing this since I got my first job at 15. Back then I was working hard and saving $20 automatically every 2 weeks. I still enjoyed my childhood - I paid my cell phone bill, went on dates and hung out with friends. I enjoyed life, and there was a tremendous sense of confidence that came from financial stability.
By my early twenties I was a student in university, paying tuition and buying books like other students. The only thing that may have been different, was that I got a job and worked hard every summer to cover my educational expenses. I spent 4 years in undergraduate and 2 years in graduate school, each year I raised my automatic transfer number up just a little bit.
When I graduated, left university and got a full time job as an adult, I raised the number up even higher, because now I had a real job and made real money. I bought some comforts now that I was an adult, but I didn't go crazy. With a full time salary came the security that I could expect payment every 2 weeks, which only helped streamline the method.
For the beginner saver, I advise you to avoid thinking of this technique as losing your money, instead think of it as putting it aside into a badass machine that will grow it beyond comprehension. Your future self will thank me. Know that you're going to enjoy the money someday, and when that day comes, it will have grown tremendously - for more on this see the post about compound interest.
So what do I do with that money?
Whenever I tell a beginner about this method - they usually agree but hesitate because deep down they feel that this will take something away from their current lifestyle.
“But I still want to get my Starbucks every day”. That’s cool - so do I.
The biggest misconception about this is that your lifestyle is going to take a major hit because you’re saving so much every month. That’s not how this works. Year after year I increase the percent I transfer out from myself and save/invest for the future, and every year I live a slightly more lavish lifestyle.
The key word here is slightly - but don’t get me wrong, as a true millennial I love buying the latest in tech, traveling the world, eating out at fancy restaurants, and for those who know me the best - I love drinking coffee. Check my instagram feed - I’m buying coffee at least every other day, if not daily. And it's definitely the over priced stuff. Now, I can already hear the hardcore frugal savers up in arms yelling - “You’re spending too much on coffee! What a waste!” and you’re probably right, I do spend an excessive amount of money on overpriced coffee, but we all find balance in life.
I find that I can save money consistently, as long as, I feel like i have the freedom to do what I want - and what I want most in this point in my life is to enjoy an overpriced green tea latte hand prepared by the local barista. I mean, check out my Starbucks app, I've got so many stars I literally have 5 free drinks waiting for me, do the math. I've gotten to a point in my financial journey, where spending becomes guilt free because I know (100%) that I've saved, and continue to save a large % of my income.
Because you will naturally priorities according to your individual lifestyle, you will still do all the things you love to do currently. For me, as I increase my automatic savings, I find I impulse buy less on Amazon - something my wife appreciates anyway.
Just remember, before you buy new shoes, a new phone, a car (all the things that depreciate in value) you ought to pay yourself first. Even before you pay your bills. Pay yourself first. Read that last sentence again.
If you're interested I first learned this method from a book called “The Wealthy Barber” by David Chilton, a best-seller. I highly recommend giving it a read - it certainly changed the way I thought about money. I continue to use the principles it talks about to this day.
If you're looking for more info I recommend checking out this book by David Chilton. It taught me so many lessons getting started, many of which form the base foundation of my investing style today. Years later, I'm now primarily a passive investor, which means I don't stress about my investments when I go to sleep at night knowing my money is working for me.