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YOUR MONEY OR YOUR LIFE CHAPTER 1
Money and Your Mind Understanding and Taking Charge of the Ways You Spend
The key to making better short-term and long-term choices about your money begins with understanding your own approach to earning, spending, saving, and investing. To do this, you need to uncover the secret meanings that money, risk, and reward have for you. Once you’ve done this, you can begin developing a more positive and enriching style of financial management that you can really live with through easy and difficult financial periods.
A crucial step to understanding your own attitudes toward money is to recognize how you really handle money. The bad news is that many people are subject to self-delusions about their spending habits. The good news is that there’s a simple process you can use to do away with your distorted views no matter what they are. All that’s required is effort—and the will to humble yourself and face reality.
Begin by keeping a daily diary of your income and expenses for one month. No one—and I mean no one—is really capable of accurately remembering everything he or she spends money on from one day to the next, let alone from one week to the next. So keeping the daily diary or journal of your spending is important. As the poet Robert Frost, who had serious money quarrels with his in-laws, once put it:
Nobody was ever meant
To remember or invent
What he did with every cent.
So if you try to write down your money habits long after the fact from memory, I promise you that the picture you paint will be inaccurate. And it will probably be flattering— deceptively so.
And why an entire month? Because anything shorter doesn’t represent a serious commitment to change and is unlikely to capture a typical cycle of a person’s earning and spending. A spending diary for a week or two isn’t long enough to provide a real picture of how you spend.
Use a page for each day and keep them in a notebook. As you list everything you spend money on, record as well how each transaction made you feel and also a brief summary of what you did that day. You will find a sample form on page 12 for such entries. Feel free to make thirty photocopies to use for an entire month. And see the sample on page 13 of what a filled-in diary page might look like.
Record credit card spending at the time you make the purchase, not the day you pay the bill. Create a checklist so you don’t overlook online, telephone, or catalog purchases. Make a note of the day you pay mortgage, utilities, insurance premiums, and other bills.
If you’re married or have commingled finances with a partner, housemate, or family member (in this book, I’ll refer to all these situations as “partnerships”), you and your partner should each keep a separate diary. Then combine the information from each diary to form a single document.
If your partner refuses to take part in the process, then so be it. Don’t let that stop you. Go ahead and create your own diary. You’ll benefit anyway, and so will your partner. When your partner sees how much more organized and improved your finances have become, he or she may be inspired to join you the next time.
Use a notebook or a journal that is easy to carry. You’ll need to bring it with you wherever you go and record the expense immediately—otherwise you’re apt to forget. If toting the diary around feels awkward, try using 3 × 5 index cards, Then, at the end of the day, fill out your diary from the note card entries.
Does this sound like “too much trouble”? Well, that feeling is your first psychological checkpoint. If you believe you don’t have fifteen to thirty minutes available to write down your daily expenses, you’re building up excuses for remaining financially disorganized and out of control.
YOUR DAILY SPENDING DIARY
YOUR DAILY SPENDING DIARY
Date: June 15, 2009Sample
What You Did: Bus to work. Lunch with Susan. After work had a quick bite at a restaurant with Geoff. Home at 8. Watched television and went to bed.
How You Felt: Had a little spat with boss at work—what a pain! But felt better after talking with Susan at lunch. Great movie on TV. Looking forward to date with Trevor tomorrow. Life’s not so bad after all!
What You Spent: What It Cost: bus fare to work $ 2.00 coffee and roll 4.00 gasoline fill-up 30.00 lunch—sandwich, salad 8.95 dinner with friends (wine) 21.35 magazine 2.95 bus fare home 2.00 jacket from dry cleaners 4.00 TOTAL SPENDING FOR THE DAY: $ 75.25
The diary exercise will make you keenly aware of the money that seems to “disappear” because we mindlessly spend it and have nothing to show for it. When I went through the exercise, I was stunned to realize how much I spent on magazines and newspapers. Whenever I had time to kill waiting for a train or on my way to an appointment, it was so easy to buy a glossy or two to pass the time. Do that three or four times a week, and twenty or thirty dollars can vanish with little trace.
Eating out is another costly habit that easily gets out of control. The once-a-week dinner out easily escalates in price. One glass of wine becomes two glasses, then half a bottle; the occasional dessert becomes routine. Soon the fifteen-dollar meal costs twenty-five dollars, then thirty. And it doesn’t stop with a weekly dinner. You’re so busy that you find yourself ordering in once you get home or grabbing a take-out meal from the nearest shop rather than cooking at home—first one day a week, then two, then three. The same happens with lunch. And then there are the quick snacks, the coffee breaks with pastry, the weekend brunch. The damage to your bank account can be enormous. (And it doesn’t help your waistline, either.)
Three responses. I’ve found that most people who really pursue the diary exercise react in one of three ways.
1. Sudden surrender. Some are so shocked or disturbed about what they learn that they throw up their hands. Often they abandon the diary after just a few days. They quickly rationalize their failure to keep the diary by saying with a dismissive gesture, “Oh, it really doesn’t matter.” This reaction amounts to a refusal to take control and responsibility over your own financial life. In fact, it sometimes goes along with an attempt to blame others for your money woes: “Oh, I’d do better if it weren’t for my wife—she’s the one who really goes wild with the credit cards.” “It wouldn’t matter how much I spend at the hairdresser if only my husband made a decent salary—he’s the real problem.” “The trouble starts with the kids—they never stop begging for the latest toys they see at the mall or on television. How am I supposed to say no?” If you fall into this category, don’t expect sympathy from anyone. Whatever the causes of your money woes, they are your problems, and only you have the power to fix them. The key question is whether you have the will to act.
2. Rapid turnaround. Others find themselves learning about their money personalities and beginning to take control of their habits even during their diary exercise itself. By the end of a month, they discover—almost without trying—that they have a little more money left over, that they’ve cut back on needless or wasteful spending, and that they’re beginning to look forward to long-range saving and spending plans. These people were probably psychologically strong and well-disciplined to begin with, and simply unaware of how they related to money. Knowledge is the key to success for these people.
(Something comparable often happened among the people selected to appear on my television program. During the month or so that elapsed between the time they were chosen to appear on the show and the time we began filming their story, their financial problems miraculously started to improve. Simply paying attention to where the money goes seems to make a measurable difference. Around the production office, we called this the “Your Money or Your Life Effect.”)
3. Thoughtful analysis. The third group works through the entire diary exercise without analyzing their behavior or making any changes until the end of the month. For them, the diary process is a purely mechanical one. They jot down their spending each day without reflecting on it and forget about it until the next day. Only after a month do they sit down to add up the totals and compare what they think they’ve been doing with the reality of their spending. Then, having seen how bad their spending habits really are (whether in one or two selected areas or across the board), they make a plan for improvement. For this group, change is a matter of reflection and deliberation.
Whichever group you fall into, your reaction to the diary exercise will give you an indication of how you tend to deal with money issues. It’s a subject we’ll be returning to over and over again in this book.
After you’ve faithfully recorded your spending for a month, it’s time to take the next step: creating Your One-Month Financial Record. This is a record and analysis of how you’re actually spending your money, based on the diary entries. This record will become the basis for creating a budget you can use to improve your financial habits and money status over the next year.
To perform this analysis, you can use the forms on pages 20–24. Again, feel free to make a photocopy of the book pages for this purpose. Or, if you prefer, use any of the popular spreadsheet software programs. They can easily be adapted to this purpose, and they have the advantage of making calculations instantaneously.
If you use the forms we provide, you’ll see that the first page is for listing your sources of income. Most people have just a few income items each month. They’re usually easy to remember and keep track of. Enter income items for the same month as your spending diary on page 12. Only enter money you actually received during the month. And use actual take-home (a.k.a. net) amounts rather than “gross” or “pretax” amounts. (If you’re self-employed, estimate the amount you’ll owe in taxes and deduct that. Enter the remainder as your income.)
Next, fill in the expenses pages. To do this, go through your monthly diary entries line by line. Sort your expenses into categories as shown in the form on pages 20–24. Read through the whole form before you get started. Notice that the various expense categories are numbered 1 through 58. (Don’t be frightened. Not all categories will apply to your situation.) This is designed to make it easier for you to match up your diary entries with budget categories. You can flip through the pages of your diary and label each entry with a number for the corresponding budget category. For example, when you find a diary entry for mortgage payment or rent, label that with the number 1. Then use a calculator or spreadsheet to total the amounts you spent in each category.
Alvin says …
Never count cash advances from credit cards, bank overdrafts, home equity loans, or unused balances on credit cards as “income.” These are not forms of income, as we’ll discuss in more detail in chapter 2. You’ll seriously distort your financial picture if you think of them that way.
Filling in the spending record form will be a fair amount of work, but most people get it done in an hour or less. (If your spending diary is orderly, that will make it much easier and faster.) Once the form is complete, you’ll be ready to study it to get a better handle on your real money habits.
Tweak the numbers … but with care. If you know that this month is not typical in some way, you may want to adjust your figures in particular categories. For example, if you stayed at home for a week because you had the flu (and therefore ate at home all week, spent nothing on entertainment, etc.), take that into account by increasing your spending in those categories to represent a typical month. By the same token, if this month’s spending includes a few hundred dollars on car repairs (something that happens only once or twice a year or so), reduce your spending accordingly. But beware! Don’t fall into the trap of convincing yourself that the bad habits uncovered by your diary are just a one-month aberration. We all tend to do this—like the golfer who’s convinced that the round of 85 he shoots once a year is his “real” game, while the 100 he shoots every other Saturday is due to bad luck. If you fool yourself in this way, you’ll miss the chance to really learn something from your diary exercise.
Analyzing your spending. Your end-of-the-month analysis should focus on these questions:
• What percent of your total income are you spending on housing, food, transportation, clothing, entertainment, and each of the other categories?
• What percentage of your total income do you spend on essential (nondiscretionary) items? What percentage do you spend on discretionary or impulse purchases?
• How does this breakdown represent your personal priorities?
• Can you make the changes that will enable you to accumulate money in savings and build the financial security you need to achieve your long-term goals?
Naturally, if you’re spending more money in a month than you bring in, red warning flags should be hoisted immediately. But there may be other signs of trouble as well. If you’re spending more than you ever realized on categories like entertainment, drinks, toys, and hobbies … if spending on luxury items is making it hard for you to find the money for necessities … if unplanned spending (“impulse purchases”) eats up a significant portion of your monthly income—then it’s time to take better control of your money. As it is, the gremlins are in charge, which means that your long-term needs and goals can only suffer.
Day-to-day patterns. Look for time patterns to your spending, earning, and saving. On Fridays, do you have a habit of buying four or five CDs or spending twenty-five dollars on cocktails? When you shop for groceries, do you buy a lot of food that looks good but ends up sitting in the refrigerator until it goes bad and must be tossed? Do you routinely buy a new item of clothing on payday because you feel you deserve it (although in truth you’ve done nothing special during the week)? Do you take your kids shopping or buy them gifts the Saturday after payday to compensate for your feeling guilty about being away at work? How is your spending affected by your moods? Are you more reckless in the middle of the week? Where are your money vulnerabilities?
Mental patterns. Also look for psychological patterns to your spending, especially your excessive spending in particular categories. When do you get out of control? Perhaps it’s when you get paid. Perhaps it’s when you have an argument with your spouse, your partner, your parents, or your kids. Perhaps it’s when you have a “bad day” at work or school or home (and feel you “deserve” a treat). Perhaps it’s when you’ve accomplished something—finished a project at work, or received a superior evaluation from your supervisor—and want to “celebrate” by spending money. By identifying these patterns, you can begin to take steps toward gaining control of them.
YOUR ONE-MONTH FINANCIAL RECORD
For the month of ________________ in the year _______________
Next, use the form on page 28 to create a One-Month Spending Summary. (A filled-in sample is shown on page 29.) You’ll calculate:
• What percent of your total after-tax income is spent on fixed expenses versus discretionary expenses?
• What percent is spent on each expense category? (You can use a spreadsheet program to create a pie chart or a bar chart to illustrate the relationships between these expenses.)
To calculate percentages, divide the amount spent on a particular category by your total monthly spending. Multiply the result by 100 to convert it into a percentage. For example, in the sample summary on page 29, the amount spent on “Home” is $1,455, and the total monthly spending is $4,671. Using a calculator, you’ll find that 1,455 ÷ 4,671 = 0.31. (Actually, the result is a very long decimal, but only the first few decimal places really matter.) Multiply this by 100 and round it off to the nearest number, and you get 31 percent. (Because of rounding, the individual percentages won’t necessarily add up to 100 percent.)
Naturally, no two people will have spending percentages that are exactly the same in every category, nor should they. There are no absolute “right” or “wrong” percentages. But you may spot numbers that are clearly out of line—that is, spending patterns that reflect disordered or incorrect priorities that are hurting you.
Danger zones. Here are some of the typical trouble areas I’ve encountered with the individuals and families I’ve worked with. How many of these sound disturbingly familiar to you?
• Clothing. Since clothes vary so much in style and cost, from the very basic to the highest of fashion, spending on clothes varies a lot, too. (We all know people who could easily spend half their income on shoes alone!)
• Food and drink. Many people on Your Money or Your Life let their spending on food and drink get out of control, especially from take-outs, restaurants, and bars.
• Entertainment. This is another category where spending can vary wildly. One night of “painting the town red” can cost as much as most families spend on entertainment in a month. Be careful about your spending in this area. It’s all too easy to get carried away and wake up the next day with a severe financial hangover. Look for ways to scale back every now and then.
• Toys for children. Naturally, how much you spend in this area will depend on whether you have children, how many you have, and their ages. But it will also depend on the attitudes you want to instill in them. In families where the parents behave as if toys are symbols of acceptance and love, or as if having the latest plaything is the only sure way of having fun, the demand for toys tends to become an ever-growing pressure. Beware: The fun quickly vanishes when the bills can’t be paid and the pressure starts to mount.
• Christmas and other gifts. Here, too, the attitude and spirit that prevail within the family are crucial. Don’t fall into the familiar traps of regarding gifts as evidence of love, or of using gifts as a way of competing for attention and favor, or of trying to make up for eleven months of indifference with one month of lavish generosity. Ironically, many families have been broken apart by overspending on Christmas gifts in a misguided attempt to “buy” family happiness and harmony.
• Personal beauty, including cosmetics and other beauty supplies as well as trips to the salon or spa. I’ve met individuals who have a powerful and costly weakness for the latest and most lavish lipsticks, nail varnishes, face creams, and other beauty treatments. Believe me, a daily walk in the fresh air (or even a weekly tumble in bed) will do far more to put the roses back in your cheeks!
• Do-it-yourself projects, especially updating a kitchen, redecorating a living room, redoing bathrooms. Home projects can be classic “money pits” that can suck up cash with no apparent limit. (We’ll talk more about this trap in a later chapter devoted to finance and your home.)
• Cell phone or PDA bills. If you don’t have the right plan for your cell phone usage, you will be amazed at how quickly the cost of a few “chitchats and smiles” (paraphrasing Aretha Franklin) or text messages can mount up. On the other hand, your plan could be way in excess of what you need. I, for example, was able to reduce my monthly phone bill by nearly 50 percent because I discovered I did not use half of the minutes in my plan.
As I’ve said, these are some of the most prominent money trouble spots I’ve encountered on my program while analyzing people’s spending habits. But your trouble spots may be different from any of these. Now is the time to look for them and begin to deal with them.
By the way, I do practice what I preach. I keep a one-month financial diary periodically just to see how my spending habits have changed over time. During a recent stay in London, my diary revealed that I’d fallen into the habit of spending an alarming amount on taxis. How did it happen? Without realizing it, I had become a little lax about my time management. I had stopped walking or using the subway, finding it easier to jump into a cab even for short rides. The problem, of course, is that fares of eight to twelve dollars quickly add up, especially on a busy weekday when I have several appointments to keep.
Thanks to the diary, I recognized the problem before it got out of control. I’ve gone back to walking and using more public transportation. Why not? My costs are lower, benefiting my wallet, and the extra exercise benefits my waistline.
YOUR ONE-MONTH SPENDING SUMMARY
YOUR ONE-MONTH SPENDING SUMMARY
Financial fitness. For many people, dealing with financial issues feels a lot like struggling with their weight. In fact, many people who work successfully on their finances with me for my television show end up getting their figures under control at the same time—without even trying.
I think this is because both of these areas are fraught with emotional baggage. Many of the same anxieties, needs, wishes, fears, tensions, disappointments, and dreams we associate with food are also associated with money.
As you study your one-month spending summary, look for psychological “hot spots”—things that make you feel anxious, tense, guilty, angry, or vengeful about money. Money is apt to be a distraction from the real emotional issues that drive your behavior. You may discover that you’ve been spending to make yourself feel better, to attract others, to get revenge, to show off your status, or to buy love. Circle the items on the summary that you find yourself feeling strongly about and think about what they mean. If you share your financial (and personal) life with someone, talk about those hot spots with him or her. Simply becoming aware of the psychological weight that you attach to financial and material things can often help you begin to master that burden.
So far, you’ve been studying your past and present financial behavior—how you currently make and spend money. In the process, you’ve learned quite a bit about what makes you tick, and about the personal and financial weaknesses that have gotten you into trouble in the past. Now it’s time to use what you’ve learned to create a spending plan—a budget—that will help you take control of your financial behavior in the future. What you want is a budget that is realistic, responsible, and one you can live with—a plan you can really carry out that will give you a chance of reaching all your personal goals, both day by day and over your entire lifetime.
You may have tried to create and live by a budget in the past, only to give up in despair. That’s a common experience. It happens for many reasons. Sometimes people create budgets that are too rigid, austere, or complicated. Sometimes they fail to adjust their budgets as their needs, priorities, and abilities change. Sometimes they try to follow plans that have no connection to their own psychological realities. And sometimes they are simply “undisciplined,” which is usually another way of saying they have an unexplored inner need to ruin their own financial plans.
I want you to learn from the past and succeed. Develop a spending plan that makes sense for you. Review and think about it; adjust, revise, and improve it as often as necessary until you feel comfortable with it. Your budget must be a living document that you can not only follow but enjoy following.
Making adjustments to changing conditions is a continual and necessary challenge. As I write, most of the world is living through a deepening recession. Several months ago, when people first got an inkling of the coming downturn, I tried to anticipate its effects on me by trimming my spending. I restricted myself to eating out no more than once a week, and I bought new clothing only when it was absolutely necessary. Around the same time, a friend and his wife decided to get rid of one of their two cars for much the same reason.
Adjusting like this before disaster strikes gives you a comforting feeling of being in control of your own destiny rather than helpless. I’ve noticed that feeling out of control often makes people angry, which leads to bad decisions.
Sometimes a degree of self-denial is essential. If you’ve developed bad spending habits, there will be a period of adjustment as you break those habits and develop better ones—and that means pain. But the pain should be offset by an increasing sense of accomplishment or satisfaction: pleasure that comes from having more money in your pocket or purse, more savings in the bank, smaller or no balances on your credit cards, and fewer burdens on your conscience. And through it all, you should be able to allow yourself an occasional reward—a special treat, an evening out, a purchase “just for fun”—without smashing your budget or shattering your growing sense of control.
Start with your One-Month Spending Summary. Use this as the basis for a new monthly budget. Your budget will be a spending plan that lays out guidelines you’ll follow for how much to spend in each basic category in the months to come.
From all the self-analysis you’ve already done, you may have some excellent ideas as to how you’d like to alter your past spending practices. If so, now is the time to turn those ideas into concrete plans. Here are some specific recommendations that can help you.
• Plan for saving. As I will discuss in more detail in chapter 3, your budget ought to make it possible for you to save about 10 percent of your monthly take-home pay. For most people, this is an amount they won’t even miss. As you look through your spending diary, I’m sure you’ll be able to find places where you can save this percentage or maybe even more. (It’s easy to calculate 10 percent of any number: just move the decimal point one place to the left. For example, 10 percent of $1,900.00 is $190.00.) So start your budget with a line labeled “Saving,” in which you pencil in 10 percent of your monthly income. Now work on filling in the rest of your budget so as to keep that line intact! (We’ll talk about what to do with your savings in a later chapter.)
• Trim your fixed costs. List these costs as tracked on your Spending Summary. You may not be able to change many of these, but look for opportunities to save. To take one example: Is it possible to reduce your spending on transportation? Maybe you can get by with one car rather than two. Or perhaps you can cut down the amount you spend on gas by combining two or more chores into a single trip; by walking short distances rather than driving; or even by trading in your old car for a more efficient model. Scrutinize each line in the same way.
• Get control of your discretionary spending. This is where the greatest opportunities for reductions are likely. Study each spending category carefully. Look for instances where you are spending money without receiving much physical, psychological, or emotional benefit in return. Do you accumulate magazines with little chance to read them? Cancel the subscriptions and save a few dollars a month. Do you own shirts or blouses you’ve scarcely worn? Buy clothes only when you really need them and save a few more dollars. Are three nights out with friends each week getting a little stale? Cut back to one night and you may enjoy it more—while saving even more. And as for that smoking habit, try adding up all the money you’ll save if you can break it once and for all.
After jotting down preliminary spending figures for each category, add them up. Have you managed to arrive at a total at or below your monthly take-home salary? If so, congratulations—you have a spending plan that should work, at least on paper. If not, study the numbers again, looking for additional cutbacks to balance the budget.
I just used the word balance, and indeed that’s the key word. If your budget isn’t truly balanced—not only fiscally but also psychologically and emotionally—it probably won’t work. Your budget should reflect your personality, priorities, interests, and dreams. When spending cuts are needed, trim the things that don’t matter to you while keeping as much as possible of the things you really care about.
You may have a consuming passion few people share. If so, your budget ought to accommodate it. I know a woman who collects “snow globes,” those glass bubble-shaped souvenir items that make a little snowstorm when you shake them. She finds them at yard sales, auctions, curiosity shops—you name it. Nancy could never really live with a family budget that didn’t allow her to buy a snow globe or two from time to time. Of course, it would be irresponsible for her to budget $100 a month for her hobby—she and her husband have relatively modest incomes and two strapping children outgrowing their clothes almost monthly—but $20 a month is affordable, and essential for Nancy’s mental health and sense of fun.
Live by a budget that allows room for a little self-indulgence. Sometimes a little “luxury” makes all the difference between happiness and depression—and can even save a challenged relationship. My coauthor, Karl, and his wife, Mary-Jo, lived through a number of financially painful years when their three children were small and their jobs weren’t very lucrative. But they made a special point of finding the money to go out for dinner alone together once a week. Some weeks it was all they could do to pay a local teenager to sit with their kids for an hour while they went out for a hamburger or a pizza. Yet having the opportunity to treat themselves in this small way—and, more important, to have a little private time for a relaxing chat—made a crucial difference in their marriage and family life.
So the art of improving your spending habits is a kind of balancing act. You need to balance:
• Consistency … with flexibility
• Self-discipline … with realism
• A sense of control … with occasional selfindulgence
One step that will do a lot to help you trim needless spending is to reduce the amount of credit card interest you have to pay every month. That means cutting the burden of debt that may well be dragging you down financially. In the next chapter, we’ll look at how you can accomplish that goal.