Every single day we are faced with large and seemingly inconsequential choices. The cheaper, uglier shirt, or the stylish, more expensive one? Going out to dinner at your favorite restaurant or staying home and cooking yourself? A full ride to state college or loans at the elite private university?
What, Are You a Caveman?
As pointed out by Psychology Today, It is human instinct to seek instant gratification. Back when we were cavemen and women, we often did not know where or when our next meal would occur—our desire to survive and reproduce hinged on humans’ ability to obtain their next food source. Therefore, humans often snatched up the most immediate reward, often foregoing a larger, more plentiful, but delayed bounty.
From an economic standpoint, the point is that we as humans often will pay a premium for immediate gratification (food delivery), but often at the expense of monetary value.
So what does this have to do with fiscal responsibility? To build real wealth or income, we are often saving, investing, and spending wisely. By this token, we are foregoing immediate gratification to meet our needs later and not put ourselves in a disadvantaged situation – That is fiscal responsibility.
Anway, Let’s get to it. Here are 7 Steps To Becoming The Fiscally Responsible Person You Should Be.
1. Create A Realistic Budget
.Whether it is an excel spreadsheet, a google doc, or an app like Personal Capital or Mint. You will never become fiscally responsible if you don’t have an accurate picture of where and how you are spending.
Sure, most of us are spending money the majority of our income on a mortgage/rent, food, and car payments, and maintenance. Still, it’s those seemingly inconsequential expenses that tend to sneak up on you and where we need to be cognizant.
Also, create a sustainable budget. Don’t try to save 30% of your income when you know you’ll find yourself tapping those funds later.
It’s better to save 5% and know you won’t need it later rather than save 30% and risk using the money.
2. You Need To Know When To Say No
Everyone has FOMO. No one wants to miss out on vacation, a fun night out, or a dinner. But, if you can’t afford it based on your budget, it’s OK to say no.
Hopefully, you have friends that don’t pressure you to go out or spend money you don’t have. If they do, it may be time to reevaluate that friendship.
How To Deal With FOMO: Budget some fun money so when the occasion does arise, you have the funds to enjoy, and you don’t rack up a large credit card bill.
3. Save 8-15% Of Your Take-Home Pay
It is easy to spend your whole paycheck no matter how much money you make. Of course, some people save over 30% of their income, but they are the exceptions, not the rule. You can save money by implementing the following tactics:
- Having roommates when you can afford to live alone or buying a “smaller” house
- Driving used cars when you can afford a new one
- Choosing local vacations instead of flying somewhere exotic
- Buying groceries in bulk instead of going to a gourmet grocer
- Shopping at The Gap or Banana Republic instead of buying designer
- Buying gently used furniture (Kaiyo), electronics (Amazon), or clothes (Poshmark)
4. Understand Basic Finance Concepts
If you don’t understand basic financial concepts, it won’t be easy to become fiscally responsible in the first place. A great foundational book is Why Didn’t They Teach Me This In School by Cary Siegel.
In addition, you should also understand the concepts below:
- Compound Interest
- Simple Interest
- Time Value of Money
- Interest Rate vs. APY
- Stocks vs. Bonds
- Risk-Free Rate
- How your credit score works
- Different types of retirement accounts (401K, 403B, Roth IRA)
- Learn the importance of the right type of insurance
- Understand different types of personal debt
5. Regularly Contribute To Your Retirement Account
Even if you ignore everything else listed above, this is the one step you can take to ensure you will end up in an excellent financial position. For us regular 9-5’ers, it’s unlikely we suddenly get rich with the next tech start-up.
Luckily, there’s still a chance you can become 401(k) millionaire. According to Fidelity Investments, the number of 401(k) and IRA millionaires hit an all-time high in first quarter of 2021.
The article also goes on to describe that those who hit the millionaire mark had the following characteristics:
- Regular Contributions
- Long-Term Approach (Not Meme Stocks)
- Above average contribution percentage
The power of compounding will work wonders for you, especially once you hit $100,000 in investable assets. As Charlie Munger famously said, “The first $100,000 is a b*tch, but you gotta do it.“
Let’s look below:
If you invested $10,000 a year and earned 5% return it would take roughly
- 8 years for your 1st 100K
- 6 years for your 2nd 100K
- 4.5 years for your 3rd 100K
6. Pay Off Debt That Has a 5% Or Higher Interest Rate
Now, unless interest rates go negative, it’s doubtful the average consumer will ever be able to borrow at 0%.
A general rule of thumb is to pay off any credit card debt immediately. Credit cards often carry the highest interest rate and are often the leading cause of divergence from becoming fiscally responsible.
After credit cards, there tends to be a bit of a grey area about whether you should pay off your debt or invest. I made this neat table below as a general rule of thumb.
|Interest Rate||Pay-Off or Invest?||Types of Debt|
|<3%||Invest, money is basically free||Mortgage/Student loans|
|3 – 4 %||Probably Invest (Subject to Debate)||Student Loans, Car loans|
|4 – 5%||Pay Off (Subject to Debate)||Student loans, Car loans|
|5 – 10%||Pay Off, for sure||Personal loans (Unsecured), Student loans|
|>10%||Pay Off, are you crazy?||Credit Card debt, Payday loans|
There are no “right” or “wrong” answers (besides credit card debt) as everyone has unique preferences and circumstances. I paid off my student loans despite having an interest rate in the low 4s, and the feeling of the metaphorical shackles coming off was unrivaled.
Also, by paying off debt, you’re essentially getting a “risk-free” rate of return, so that is also something to consider.
7. Get Life Insurance & Long Term Disability Insurance
You could be following all the steps listed above, but should something unfortunate occur, all your hard work could go down the drain.
The types of Insurance I am referring to are Term Life Insurance & Long Term Disability Insurance.
Term Life Insurance: Your beneficiary gets a generally (tax-free) sum should you pass away unexpectedly.
Long Term Disability Insurance: Should you become disabled and unable to work for an extended period, you can receive payments to supplement your lack of a regular income.
I am a proponent of private life insurance and long-term disability. Employer-sponsored plans are generally inadequate and are often not portable (policies terminate once you leave the firm, potentially exposing you to a period where you are uninsured).
I recommend Ladder for Life Insurance and Breeze for disability Insurance.
If you are married with a family, it is wise to have a quality life and disability coverage. On the other hand, if you are single, you can probably go for a much smaller Life Insurance policy. Most Life Insurance plans begin at $50,000 in coverage.
The Bottom Line
Look, no one is perfect. It’s called personal finance for a reason. Everyone’s circumstances, needs, and wants are vastly different.
I hope you read this article and practice at least 2 of the fiscally responsible steps listed above. If you can do all 7, that’s great. However, no one turns into an expert/personal finance machine overnight.
When I was right out of college, my main goal was paying off my student loans while essentially ignoring the other steps, which one could argue was somewhat unwise..however, I think I am doing OK.
What steps did you take to become fiscally responsible? Comment below and let the Real World Personal Finance audience know.