Money has been the gooey centre of many a philosophical debate – does it buy happiness or is it the root of all evil?
Let us not forget how a single unit of exchange completely revolutionised the bartering system and allowed us to store value and, more importantly, transport it wherever we needed to in our pockets.
We are a consumption-driven society and economy. The advent of debt allowed us to move cash flows through time; consume now and forgo a portion of our future income.
The cost of this service is the interest we must sacrifice for immediate consumption as well as pay to the facilitator over time. Debt is a necessary evil, but has managed to ensnare many unsuspecting consumers in terms of mounting repayments.
According to Forbes , if you had $10 in your pocket and no debt you would be wealthier than 25% of Americans today.
We explore the answer to the question, “Where should all my hard-earned money go?” The answer is a bit tricky depending on your life stage, but once you have a budget, measuring it by this simple rule will show you the areas you need to pay some serious attention to.
In essence, your budget should be allocated to three buckets that represent the 50/20/30 rule.
You should be spending no more than 50% of your net salary (after taxes) on non-discretionary spending. These are usually the big-ticket items such as a bond repayment, rent and/or car but also include all payments you are contractually obliged to make (they are non-discretionary as you don’t have a choice). Some other examples are a gym or cellphone contract.
You should spend no less than 20% of your salary on securing your financial future. Your goals here should be to get out of all high-interest debt (store accounts, credit cards etc.), establish an emergency fund to cover unforeseen expenses and ensure that you have adequate security funds (retirement and education provision). Note that in terms of priority this bucket should be filled before calculating your discretionary spend. Higher fixed costs should therefore not come at the expense of savings, but discretionary spend.
You should spend no more than 30% of your net salary on discretionary items. These are the day-to-day items such as groceries, shopping, extra-mural activities or entertainment. You may be thinking at this point that it may be quite difficult to survive without food (why have we classified this as discretionary spend?), but you are able to control how you buy food (eating in versus eating out) and what food you buy (luxury versus discount stores).
The timing of the above exercise is vital; saving 20% of your salary right from the start of your career gives you an excellent chance of retiring with your desired standard of living – every year delayed increases the amount of savings you would ultimately need to make (the size of the second bucket).
Having structure to your saving and spending patterns can add dramatically to your quality of lifestyle.
Firstly, you may be surprised to learn that the R1 000 a month you are splurging on a cappuccino addiction is actually delaying your retirement by a few years. Or, if your net income is sufficient, you can get rid of the guilt because we all know it’s worth it!
Secondly, paying your contractual obligations first builds a great credit record which can save you a lot of money on interest charges. A 1% difference in interest rate on a R1m home will save you R25 0000 in interest over a 30-year term.
Finally, having your financial affairs in order will give you a sense of accomplishment. Taking control of your financial affairs and not dreading the results of the ATM “print receipt” option can be quite liberating.
*Paul Nixon is head of investment product enablement: global investments and solutions at Barclays Africa.