Pay Yourself First

I first came across this idea in The Richest Man in Babylon by George S. Clason. Since then I have come across the idea in numberous personal finance books, such as Rich Dad, Poor Dad. If you haven’t heard of this idea before, read on because this is a simple but brilliant idea that can make you very wealthy. And if you have previously heard of the idea of Pay Yourself First,ask yourself this: am I practising it? Millions of people have heard of this idea, but few actually follow it.

The idea works like this: most people like the idea of saving part of their pay for some future goal such as a vacation or deposit to purchase a house. The problem is that when they get paid the first thing they do is pay their bills, purchase that item of clothing they’ve had their eye on, etc. Saving is basically what is left at the end of the pay cycle. And guess what? This is usually very little. People naturally spend until all their money is gone.

The cure, as you may have guessed, is to pay yourself first. You can think of it as forced saving. Before paying your bills, doing the food shopping, etc pay yourself a certain percentage of your wage (more on how much later). What you will find is that your spending will automatically adjust without any real effort. By having a little less money easily available you will spend a little less. Normally this means one or two less impulse buys (that you could probably fo without).

How much should you pay yourself first? Financial expert David Bach has suggested the following:

• Dead Broke: Don’t pay yourself first. Spend more than you earn.
• Poor: Spend everything you make and save nothing.
• Middle Class: Pay yourself first five to 10% of your income.
• Upper Class: Pay yourself first 10 to 20% of your income.
• Super Rich: Pay yourself first at least 20% percent of your income.

I sure know which one of these I want to be! So whats the easiest way to go about paying yourself first? I suggest that you open up an online savings account with a financial institution such as ING. You can then arrange for a particular amount to be debited from your bank account as soon as you get paid. The benefits of doing it this way are:

• You won’t even see the money: if you get paid and your account gets debited on the same day you won’t even notice that its gone.
• Higher interest rate: online savings accounts typically pay higher rates of interest than traditional savings acccounts.
• Delayed access to funds: ever heard of the old trick of freezing your credit card in a block of ice so that before using it you actually have time to think twice? Online savings accounts are just like that. Typically if you set up your online account with a financial institution other than your everyday institution there is a 1 or 2 day wait for funds to be transferred from your online account to your everyday account.

Look out for my followup post on this subject.