The end of 2020 is just around the corner, and the New Year can’t get here soon enough. Whether or not you’re someone who sets New Year’s resolutions, it’s a great time to initiate change. Why not make 2021 the year you (finally) position yourself for financial success?
If 2020 has taught us anything, it’s that the world is unpredictable. And while many things are outside of your control, you have the power to take control of your finances. With this simple six-step program, you can make 2021 the year you begin to build lasting financial success.
The 6-step program for financial success
1. Create a cash reserve and emergency savings program
I don’t need to explain why an emergency fund is necessary. We’ve all just received a first-hand lesson in why having a cash reserve is essential. No one could have predicted a pandemic would sweep across the globe and throw everything into chaos. Remember, it’s often the things you can’t foresee that get you!
We don’t know what 2021 is going to bring. Heck, we don’t know what’s going to happen tomorrow. Having an emergency savings program is the first step to creating financial stability. It gives you the ability to live life without fear of losing your house or pulling the kids out of private school if something bad happens financially.
The goal is to have three to six months’ worth of savings in your emergency fund, but it’s okay to start small. Open an online savings account and automatically save into it via payroll deduction or automatic transfers from your checking account. The key is to automate the process and start building your lifestyle continuation plan immediately.
2. Invest more money for retirement and college
The next step is to bump up your investments to your retirement and college saving programs. If you haven’t started investing for retirement or college, the new year is a great time to build new, healthy financial habits.
If you’re in a 401k plan, increase your contributions by 1%. Now before you chime in with, “I can’t afford that,” check your skepticism at the door. Chances are you won’t even notice the difference in your take-home pay. If I’m wrong, it’s super simple to change back to where you were before. But, if I’m right, you may be able to retire a year earlier or be able to take an extra vacation every year in retirement.
In this example, the noteworthy change isn’t the “1% increase in 401k contributions.” No, it’s to get out of the habit of thinking, “I can’t.” When “I can’t” is your financial default – “I can’t save more, I can’t stop spending, I can’t make more” – it becomes a self-fulfilling prophecy.
What do you think the impact would be if you changed your default from “I can’t” to “I’ll try?”
You know, there’s an easy way to know for sure, right?
3. Reduce high-interest debt already on the books
Getting your high-interest debt under control is one of the best money moves you can make in the new year. There are different approaches you can take in your debt repayment journey.
Snowball method – Assess your debts and put them in order from the lowest balance to the highest balance. Aggressively pay off your lowest balance first while making the minimum payments on all of the others. Once you’ve paid off the lowest balance, you move on to the next lowest balance account. But, instead of just making the minimum payment, you add the amount you were paying on the first account to the minimum payment, thereby making a larger payment.
Like a snowball gathering snow and getting bigger as it rolls downhill, as you pay off each account, your payment gets bigger and bigger until you’ve paid everything off.
If you’re someone who needs to see progress to stay motivated on your debt repayment journey, this is a good plan for you. By paying off the lowest balance first, you feel a sense of accomplishment which is motivating and encourages you to keep it up.
Avalanche method – Order your debts based on the interest rates, from highest to lowest. Aggressively pay off the debt with the highest interest rate first while paying the minimum payments on all of the others.
This plan is best if you’re able to focus on the prize at the end of the game versus getting some wins along the way. Because you’re paying off the highest interest debt first, you will pay less in interest and shorten your payback period.
I find the snowball method to be the better of the two approaches. While the avalanche method works better on paper, in the real world – where you and I live – the snowball method wins. Hey, we’re humans. We need to see tangible progress if we’re going to stick with something as difficult and emotional as debt-reduction.
4. Avoid new debt
If you want to get ahead, you need to avoid taking on more debt. Do anything you have to. Cut up your credit cards, block your favorite online stores, and don’t buy things if you don’t have the cash in hand to do so.
If you don’t make enough to pay your bills each month, perhaps it’s time to focus on increasing your income. If you’re in a position to ask for a raise, do it. If there’s an opportunity to take on a higher paying role with your company, go for it. Perhaps you start that side hustle you’ve been thinking about – pick up some quick cash by selling things you don’t use on Facebook Marketplace – or even get a second job.
I’m not saying it will be easy, but it may be necessary. If you want to build lasting financial success, sacrificing in the short run is often the way to go. Whether that means spending less, working more, or both, it’s a proven recipe for success.
5. Create spending habits that align with your values
Once your debt is under control, it’s time to focus on what you’re doing with your hard-earned dollars. In other words, how you are spending your money.
The key to this step is to ensure your spending aligns with your values. Ask yourself, “What do I value? Who or what stirs my soul and provides me my fondest memories? What brings me my greatest levels of personal satisfaction?”
Is it time with your family, personal development, giving back to your community? The practice of values-based spending is about becoming more conscious of what you’re doing with your money and why. Moving forward, all spending should pass through your “values” filter. Constantly ask yourself, “Does this purchase align with my values? How does this add to my life?”
6. Know where your money goes
The last step is about money awareness and is a natural extension of the “spend your values” philosophy outlined above. I’m not suggesting you create a spreadsheet and input every nickel and dime you spend. That sounds too much like a budget and you know how I feel about budgets (see Budgets are Bullshit blog).
No, I simply mean knowing what your top 5 spending categories are. If you know your top 5 spending categories, you can then compare them against your values and determine how you’re doing. Without running the numbers, it’s easy to fool yourself into thinking you’re doing a good job when you’re really failing.
You can’t fix a problem you don’t think you have.