Rules of Thumb

Things like Christmas and gifts, vacations, medical expenses, car repairs, clothing and home maintenance. When you pay a monthly bill it is easier to keep on track with your spending plan.

So the key is to make a monthly bill for every item in your spending plan. You set the money you have allocated for a vacation, car repair and other non-monthly expenses into a savings account. I refer to this as a buffer account. If you leave the money in your checking account you are likely to spend it on other things, and be short when you need it.

When you need to pay for a car repair, you transfer the monies from your buffer account into your checking account to pay the bill. The same applies for all the non-monthly expenses. You can keep track of your non-monthly expenses – accruing the monthly allocation and subtracting your expenditures, and keeping a balance in each expense category.

However, if you aren’t one for details, or you don’t have the time, you may want a simpler approach that you can maintain. Success in a spending plan requires your being consistent. An easier approach is to total the monthly allocation of your non-monthly expenses and transfer it into your buffer savings account. Pay all your non-monthly expenses from the buffer account.

This approach allows you to have ‘fun’ on your spending plan and not feel guilty or get caught short some months in meeting your bills.

I frequently am asked how much should be allocated on different budget items. I see so many variances in people and their likes and dislikes. Some people have 3 closets of clothes, others take extravagant vacations and some have great collections of art or coins or books. I think you need to make room for your own personality or you won’t keep a budget/spending plan.

There is a general rule of thumb to follow. Put 10% of gross income away for long-term goals like retirement and college. Put 20% away for debt reduction and cash reserves. And use 70% for monthly living expenses including the mortgage.

An easy way to accomplish the long-term goal portion of your spending plan is to have automatic deposits into savings or retirement accounts. Company retirement accounts like a 401(k) have payroll deductions. You may be able to have payroll deductions made into a savings account or you can do an automatic banking transfer. Making the monthly contributions automatic is helpful in obtaining your financial goals. It is the easiest form of budgeting.

20% of your income going to debt reduction and cash reserves is also a critical step. A cash reserve is different from your buffer accounts. While it is still a savings account, you use it in time of an emergency. An emergency is defined as something unforeseen and unexpected; something such as losing your job or being off work due to an illness. A sale at the department store does not qualify as an emergency.

Your cash reserve should be 6 months of your bare bones budget. I encourage you to keep the first $5,000 liquid in a savings account. The balance can be in CDs – probably longer terms to get a better interest rate.

Another rule of thumb is to keep your housing costs within 25% of your monthly income. A house is one of the biggest investments a person will make. You want to be able to do the necessary repairs to keep it functional and attractive. But you don’t want the house to become a ball and chain if you can’t easily pay the related bills. And you really don’t want to experience a foreclosure. While many are walking away from their homes, I wonder how many could have kept their home if they had stayed within 25% of their income.

High Rate Loans

Payday lending is a form of short-term lending without collateral to people with little or no liquidity, or a bad credit rating. Pay Day is a generic term. Companies in this form of lending go by other names, such as Cash and Go, Advance Pay, Loan Up and Cash Carry. Sometimes these are also called Accommodation Loans or Instant Cash.

Whatever the name, here is a statistic to show how prevalent they have become in a few short years (probably last ten years) in the US. There are some 22,000 companies in Pay Day business, making $40 billion in loans and collecting $6 billion in interest and fees. This number may already be dated, since more companies are coming on line.

REASON FOR PAY DAY POPULARITY

Here are the reasons:

As a business model, it is proven to be resilient and profitable. Diverse portfolio, small exposure, short term nature of the loan and catering to a sector few traditional lenders touch.
With Americans’ incomes not keeping pace with inflation, and increasing illegal immigration, there is growing need for Payday type loans as more and more people live from paycheck to paycheck.
While there is State level regulation on Payday practices, this form of lending is highly unregulated and as yet unchecked in any real form by Federal government. And State supervision is spotty. So no wonder new Payday type lenders are cropping up all over.
Because of small loans and not much oversight, entry barriers are low.

PROS AND CONS

Pros:

Easy terms, no collateral
Negative credit history is not an obstacle
Very local
Caters to a segment of population which has no other alternatives to cover their expenditures or budgets

Cons:

Very high rates of interest (although many States have Usury laws, so Payday lenders skirt it by calling these “fees” or “service charges”
Addictive. Since money is easily available, there is less incentive to save and forgo certain expenditures
Does not improve borrower’s credit history–whereas getting credit from a traditional source, even a store, and paying it down regularly will actually improve your credit rating and open up other doors to borrowing

WAYS TO AVOID PAYDAY

Get in the habit of budgeting your income and expenses and do it conservatively. This will help you manage your cash flow and enable you to predict it—that way you can find ways to either boost your income or reduce expenses. It also will help you to prioritize your expenses
Diligently note down your expenses
Try to put internal limits on when to use a credit card. I advised someone to not use a credit card for single-shop charges below $25. It is amazing how quickly she realized money was flowing through her hands. She never appreciated this when flashing credit cards, and making minimum payments.
Pay off all or most of credit card balance each month. Credit card companies are only a slightly softer version of Payday lenders.
I prefer loan from a friend or from family although I realize it is not always possible
Treat Payday as the absolute last resort, before bankruptcy. That will help you strengthen your resolve to avoid them as long as possible
Get Credit Counseling. Like someone who wants to lose weight must seek professional help, if you are unable to balance your checkbook, you need to see a professional financial advisor.
See if you have an asset that can be monetized. It may be jewelry you do not use or a house bigger than you can afford. This is the absolute first step to repairing your financial health.