Crash Budgeting

Posted By Paul

As someone who has spent nearly all of their adult life budgeting, saving towards goals, AND trying to live a fairly healthy lifestyle, I was intrigued by the thoughts that came to me after reading the following article:

Why Budgets Fail: Leave My Latte Alone

It's a list of reasons why people are unable to stick to budgets and ways to help. I noticed the entry in the article called the "Gung-Ho Backfire":
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The Gung-Ho Backfire - You set up a strict budget and then wonder why you can't stick to it. By trying to cut spending too drastically, you create an unsustainable budget that is sure to buckle under pressure.
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I realized that the unhealthy approach described here was like the "crash diet" for saving money, where you create a goal that is so hard to maintain that you are practically guaranteed to fail.

For example:

I had a friend who was carrying some credit card debt that they wanted to eliminate (a great goal for sure). I was talking with them about the budget they had set up and discovered that they had set a goal of putting aside a certain amount of money each month to pay off their credit cards (I think it was something like $500 a month). I told them that I thought this was a great goal and since their debt wasn't huge they figured that they would be able to pay it off in about 6 months at this rate.

What actually happened? Well the first month went well. They managed to hit their goal and pay down their debt by $500.

The next month an unexpected car repair came up and since they didn't have a "rainy day fund" set up that had to come out of the money they hoped to set aside for their credit card debt.

The month after that they decided to splurge a little since the last two months had been all about saving, saving, saving. So they went on a shopping spree that ended up eating the savings for that month.

Things got worse after that and before long the budget and goal were simply forgotten.

I realized just now that this whole experience felt a lot like someone who was going through a crash diet.

By creating this specific savings goal my friend had slashed their budget to the bone. They had left no money for incidentals or the occasional bit of fun. Sort of like the crazy diet where you decide you'll only eat celery in anticipation of the pounds melting off of you.

The car repair was kind of like the holiday season or the vacation where you find it impossible to stick to your diet. So you get discouraged and feel like a failure, and you feel like maybe the goal is impossible.

The month where they decided to treat themselves is like the cheeseburger and ice cream sundae splurge after the miserable time spent on your crazy diet.

What follows is the same phenomenon you see with crash diets where the person can't stick with the diet and ends up quitting early. They often lose the dramatic results they gained at the start of the program (my friend quickly re-accumulated the credit card debt and then some).

At the time I thought the problem was that my friend didn't have the discipline to follow through on their plan, but now I think that a big part of the problem was that they set their expectations too high (just like with a crash diet).

You might be able to live the "pinch every penny" lifestyle like that for a while, but when you just can't keep it up anymore you give up on the plan AND the goal. This is too bad since the goal was probably attainable if you had just been able to accept a more moderate change with less dramatic results.

By creating such a hefty savings goal my friend had put budget constraints on them that were so strict that they couldn't follow them for more than a couple of months. If they had set a savings goal of $250 a month they might have been able to stick with their program and payoff their debt. Sure it would have taken twice as long but they would have reached it. It's the same way with a more moderate weight loss program where you make more moderate changes. Your results won't be as dramatic but at least you'll create a system that you'll be able to live with and maintain.

Maybe the problem with "crash dieting" and "crash budgeting" is that the goal is to create a temporary process so that you can fix a problem and then forget about it. What you really need in both cases is a long term plan that you can maintain so that the results actually last.

Article: 6 Money Dilemmas

Posted By Paul

Found a cool article on CNN Money today that listed some of the classic "which should I do" scenarios and gave suggestions and information.

The six scenarios the article talks about are:

1) Pay off a credit card OR fund your 401(k)

2) Save in a Roth 401(k) OR a regular 401(k)

3) Lease a car OR buy a car

4) Prepay your mortgage OR invest

5) Buy a home OR rent a home

6) Take Social Security early OR late

Here is the link to the article:

Six Money Dilemmas

Debt is not your friend

Posted by Matt
My last post was about balancing your budget and living within your means. The biggest hurdle for some people to get to that point is the amount of money they have to spend each month on what is called "debt service". This is just a nice way of saying that the things you purchase on credit own YOU.

If your "extra" income is going to pay off your debts, then you might not be to the point yet where your income is greater than your expenses (they should be at least equal). This is an okay place to be temporarily. Just make sure that you have cut your expenses as aggressively as possible to maximize the rate at which you are paying off your debt, and, above all, stop spending!

Jumping ahead a little, you should also be starting to think about your savings. Even if you are putting as much money as possible toward your debt, try to maintain a small cushion of cash in a savings account. That will allow you to stay on track should any unavoidable expenses (think essential car repairs or prescription medications) pop up unexpectedly. You're not really saving yet, just setting aside a cushion.

The accepted wisdom is that you should pay off what is considered your "bad debt" (mostly the high interest stuff like credit cards) first, but my opinion is that you should consider eliminating student loans and car loans, too, ahead of schedule, if possible (mortgages come later).

I discovered that personal finance progress seemed to accelerate as long as I just kept making smart decisions. Balancing your budget might only get you slightly ahead each month, but pay off a creditor and suddenly you have even more money available and your credit score is rising, which opens even more doors.

Once I had my new job, a paid for used car and the promissory notes from my student loans in hand, I really started feeling great financially. I could finally start SAVING (discussed in my next post.)