In Part 1 of our 5-part series, we introduced the concept of Your Financial Freedom Point (article here). This is the point in your life when, if you have planned and saved well, you are able to choose to keep working, quit working, rebalance your ratio of work to leisure, or start a second career. It is when your investable assets and passive income will be able to recreate your standard of living.
In Part 2 of our 5-part series, we defined the Five Uses of Money (article here). Every dollar you earn can go one of five places: Use it to Live, Give, Owe Debt, Owe Taxes or Grow (save). P&A can help you quickly determine where your dollars are going by using our Five Uses of Money Tool. This is a crucial first step in determining an appropriate savings strategy to work towards Your Financial Freedom Point.
In Part 3 of our series, we define the Five Money Management Principles. It is important to pause at this point to understand where these principles, and the aforementioned Five Uses of Money concept, come from. The Bible. Centuries old, they are simple, straightforward and once understood and implemented will help you streamline decision-making and be content under all economic conditions.
Money Management Principle #1: Spend less than you earn.
Easy enough, right? Perhaps in theory, but this is the biggest challenge that most face in their financial lives. In a society where we are constantly bombarded with marketing messages to upgrade our stuff and “keep up with the Joneses”, there are a lot of social pressures to spend. Furthermore, we are enabled to spend more than we earn through the use of credit cards. If we only used cash on hand (or cash in the bank), it would be impossible to spend more than you earn. But through the use of debt, namely credit cards, achieving principle #1 becomes very challenging. For married couples, it is imperative to be on the same page with respect to spending habits. One way to get there is to utilize the P&A Savings Needs Analysis Tool. Stay tuned, it is the next article in the series.
Money Management Principle #2: Avoid consumer debt.
If you have any challenges achieving Principle #1 in your financial life and are not able to save and live as you wish, cut up your credit cards. You don’t need them. Even if you have mastered Principle #1, you should limit yourself to one or two credit cards and pay them off monthly. The “points” lure is what draws consumers in, but actually, the credit card companies have us bamboozled. With most cards, you get $1 in rewards for every 100 points. You get 1 point for every $1 you spend. So, they are kindly giving customer’s back 1%….but the average credit card rate in 2015 was 15.07%. Even if you have an extra special point structure and get 3% back, you are still behind the curve by 12.07%.
Consumer debt is irresponsible debt as it doesn’t have an asset tied to it. Responsible debt does have an asset tied to it, a mortgage or a short term loan against your investment portfolio are good examples. As long as the ratios are prudent (debt to income of 65% or less) responsible debt can be used to your advantage especially in the current low interest rate environment.
Money Management Principle #3: Set long-term goals.
At the core, setting long term goals is the process of creating of vision of where you want to go in life and how you are going to get there. Below is a good anecdote to the power of having a vision/direction:
Three boys came hiking to an open field and decided to have a contest to see who could walk the straightest line. The first two boys studied each step, carefully putting one foot in front of another. When they looked up they could see they had zigzagged or arched off in one direction or the other. The third boy walked a perfectly straight line and did it with much more speed. How did he do it? He kept his eyes focused on a single tree in the distance and simply walked directly toward it. While most people may be paying attention to what they are doing or where they are going day to day, it is only when you have goals set out on the horizon that you can directly and expeditiously advance your life in that direction.
There is great power in knowing which direction you are heading in life, and in your financial life. Determining Your Financial Freedom Point and understanding Your Five Uses of Money are the first crucial steps. Inevitably, there will be bumps in the road that take your eyes off the tree in the horizon but knowing that there is a “tree” to re-focus on will allow you to get back on track much quicker when issues do arise. Mario Andretti was once asked for advice he would give to young race car drivers. He simply said, “Don’t look at the wall.”. In other words, focus on the opportunity and not the danger in life.
Money Management Principle #4: Give generously.
Giving generously and unconditionally breaks the power that money can have on us.
This is so important, we are going to state this again. Giving generously and unconditionally breaks the power that money can have on us.
If you are reading this article, compared to the rest of the world your net worth is in the top 2%. We have plenty to the thankful for and giving back is not only the right thing to do, it gives us a high degree of purpose and satisfaction.
Knowing Your Five Uses of Money, Your Financial Freedom Point and by using the P&A Savings Needs Analysis Tool you can understand the amount of blessings to bestow on others without sacrificing the health of your financial future.
Money Management Principle #5: Build cash flow margin and save.
After achieving the first four principles, you now have cash flow margin in your financial life to save and grow for the future. The avenues with which to accomplish this are vast. Unfortunately, the financial services industry has provided too many expensive and inefficient options using tax breaks and “guaranteed” returns as bait for unsuspecting investors. However, most people achieve everything they want in their financial lives with an annualized investment return of 7-10%, while maintaining full access to their monies (i.e. no strings attached, deferred sales charges, etc.). A balanced investment portfolio of publicly traded stocks and bonds will help you achieve this. Yes, we are biased as this is our area of expertise. But, we are biased with historical facts on our side:
Since 1953 there have been 42 different 20-year rolling periods of time. Of those 42 periods of time, 100% of the time the stock market has delivered a positive return. In fact, the worst 20-year rolling period of time still delivered a 6% annualized return, and the best period delivered 18%. The odds are overwhelmingly in your favor. You may however, need an emotional surge protector (P&A) from time to time to keep you fully invested through the challenging times, because in order to achieve those returns you need to stick with it.
In the next part of our series, we will show you the components of the P&A Savings Needs Analysis Tool and how it incorporates Your Five Uses of Money. It will help you find your ‘tree’ on the horizon.
Five Money Management Principles
Ron Blue Library LLC 2015
All worldwide rights reserved.
Used under license by Kingdom Advisors, Inc. 2015
