Hello blonglings! Welcome back to my blog.
On this glorious day, I’m going to be introducing a new category on my blog called ‘Books and Your Money’. Here I’m going to share with you details about personal finance books that I read and apply to my life. I’m going to share with you about what I learn from them, how I use the learnings and some places where I may disagree with them based on my own personal finance belief. For now, I plan on making this a monthly section, but if my reading speed rises or if you guys like this, I might push it up to bi-monthly. Happy reading!
The innagural post for this section is going ot be on one of the first personal finance books that I read and enjoyed. It’s the ‘Automatic Millionaire’ by David Bach. Written in 2005 the books is primarily centred in a context of pre-2008 US. It talks about building wealth over a long term horizon, with the power of automation. It truly imbibes the spirit of ‘out of sight, out of mind’. It also leans heavily on using real estate as a strong pillar for your financial castle, which may or may not be very applicable to a lot of our contexts. While the book does believe in long term wealth building, some of its principles may be quite apt for people like me who are interested in FIRE (Financially Independent Retired Early). Let’s dive right in!
You can’t spend what you don’t see. This is the base and the crux of the book. That’s it! Goodbye and thanks for reading this post.
The book believes in philosophy of ‘paying yourself first’ and automating those payments out of your sight so that you never factor this money into your expenses. This completely evades the whole dependence on your discipline and self control because making your savings and investments automatic, takes away the recurring decisions you would otherwise have to make. The more opportunity you have to make the choice, the more likely you are to fumble.
Another key proponenet of this book is building the mindset to save. And the mindset can always start small. Even if you can’t save the ‘expert recommended’ percentages at first, start from somewhere. It could be as low as 1% of your income, but just start.
Watch the small stuff
In the book, the author talks about how courtesy our spending habits we are on the constant cycle of ‘go to work- make money-spend money- go back to work’. He says that to break this cycle, you have to start small. He talks about the concept of Latte Factor, which simply puts involves identifying the small expenses you make everyday that by their nature are avoidable such as a coffee and a sandwich from your neaby coffee shop. In principle you could make coffee at home and have your breakfast at home. These supposedly small amounts of money when saved over a long term can actually amount to a lot. Attack these and you can pave a way for a richer life! Those few thousands a month when parked into a place with compound interest can amount to a ton later!
For instance, when I read this, I attacked my monthly subscriptions and as you know from my previous post, I brought them down to less than half of what I used to spend on them. Honestly, I never even realised that I was spending close to Rs. 6000 a month on subscriptions for content I wasn’t even consuming. While Rs. 3000 a month doesn’t seem a lot to some people, it was a start.
Key takeaway 1: Recognize that no matter how much money you earn you can be rich. Just know your Latte Factor and tackle that.
Paying yourself first
One of the most crucial sections of the book talks about how, you have to treat paying yourself as a priority. It has to be the first thing you do with your paycheck. Yes, even before food and rent! Paying yourself first in the context of the book, involves siphoning off some of your gross income into a retirement account for investing into your future. The book talks about using your gross income to invest in your retirement and thereby bringing down your tax liability. While the application is more US and UK centric, doing so can be likened to investments in PPF, ELSS and NPS that we can make under 80C to bring down our tax liabilities and save for our retirments. Good tip no doubt!
A fun section where I disagree with the book is that the author doesn’t believe in budgets. His belief is to automate savings and then spend the rest of your money as you please. For eg: if you save 10%, spend the 90% as you please. You’ll learn to live without the 10% and manage within the 90%. However for a recovering shopaholic like me, a budget becomes key so that I don’t spend therapy money on a pair of new shoes. Contrary to the author, I enjoy budgeting and I find it exhilerating when I’m underbudget and have saved more. My budgets have also given me a better idea about my savings potential. But that’s just me. If you hate budgeting too, then you’ll like his stance against it. That’s the one thing about personal finance: One size does not fit everyone! Find your size!
Key takeaway 2: The secret to creating lasting financial change is to decide to Pay Yourself First and then Make It Automatic .
Automating the process
David Bach talks about Automation for the simple reason that savings should not be dependent on discipline and self control. If every month you decide at the start that by the end of the month you would have 20% saved, chances are high that you’d have less than that, if at all. Self control is extremely difficult to maintain, particularly in the stimulus charged environments we live in. It is very easy to swipe up a debit or credit card to buy the latest thingamabob and eat money out of that planned 20% chunk.
So simply put, automate your bank account into putting in the money into your savings instruments in the first few days of a month. They’re out of your sight and thus, out of your mind. Now you can use all the other money to pay your bills and buy thingamabobs. Automating also doesn’t have to be a large percentage. You can start with something as small as 1% and build up to the bigger numbers gradually to reach a percentage of close to 10-15% on an average or even higher.
The book also talks about diversification in your retirement fund between various categories of assets depending on your age. For this section alone I would suggest you read the book because it’s very interesting. The section is not glamourous at all, contrary to what a lot of people would want investing to be. There’s no recommendations on short selling, no recommendations on quadruppling your investment in a month but plain simple diversification between five investment categories (cash, government and corporate bonds, income investments, growth investments, growth and income investments, and aggressive growth investments.). David Bach is extremely right when he says, “Mananging your money should be boring!”
Key Takeaway 3: Start small but start!
My favourite section of the book! Emergency Funds! The rules for this are very simple as per Bach:
- What helps you sleep at night: Your emergency fund needs to be a size that will ‘help you sleep better at night’, knowing that even if things were to go kaput, you’d have something to tide you over in the short to medium run. So anywhere between 3-24 months, depending on your risk tolerance
- Don’t touch it and put it in the right place: The books mentions an anecdote about a man who parked about 30 months of emergency fun in a suitcase in his backyard. That’s not just crazy but also wasteful. Think of all the lost interest and returns! I park my emergency funds in high interest savings accounts or fixed deposits, because of ease of access, safety of pricipal and consistent returns. You can find your preference too!
- Automate contributions: After reading this book, I decided to build my emergency fund in a recurring deposit. Whenever I’d tried it in the past I would nearly always break the deposit, pay the penalty and shop. Because I would put money into it as per my convenience, it felt like something I could mess around with. It didn’t feel serious. However, now that I’ve automated my emergency fund savings, it feels more systematic and formal and I don’t dare touch it.
Key takeaway 4: Decide, park and automate!
This book was written before the crash of 2008 and thus heavily relies on the US real estate boom. However, to report on the book completely, I will cover this chapter as well even though it may or may notwork in the Indian context. Bach recommends that housing expenses should be 29% of gross pay. He also recommends three ways to pay off home loans and shorten their lives by about 5-10 years.
- Bi-weekly payment plan: Bach says that by paying once every 15 days, by the end of the year you would have made one whole additional month’s payment which siginificantly shortens the payment period
- Extra month: If your bank does not allow for this, you can pay a 13th instalment each year and achieve the same thing as the first way. However, the important thing is that the extra payment should not attract a penalty and should go towards the principal.
- The 10% Increase: This method simply involves increasing your monthly payments by 10% more and cutting down as much as seven years off your payment plan
Again, I haven’t done these and don’t know about their validity in the Indian context. If I do try them out, I’ll keep you posted. If you’ve tried them out then do let me know in the comments!
Credit card debt automation
Bach provides some insights and tips into paying off credit card debt too. He also provides a balance between savings and paying off too. His rules are:
- Stop digging further: Basically put, stop spending for more unaffordable stuff on your cards and digging yourself further in!
- Lower your average debt: This step talks about finding out the rate of interest on each credit card and then consolidating it, hopefully to the lowest interest rate. Again, not too sure if it works in India, but where ever else it does: it sounds pretty smart!
- Pay for the past, pay for the future: This is the probably the one tip that I would take from this book regarding debt repayment. It suggests that if you intend on saving 10% of your gross income every month for retirement, split it into half and put each half into pension funds and debt repayment respectively. This half towards debt repayment is in addition to minimum payments. As the author says that this way one pays for the past as well as the future.
- Make it Automatic: I’m not going to repeat this, because you get the point.
Make giving back automatic:
- Commit to it: Commit to a fixed percentage on a monthly basis, if you’d like to.
- Automate it: Again, the author’s mantra to life.
- Research where your money is going: When choosing where to give back, do your due dilligence and research.
- Keep track of how it is being used: Follow up with the non profit to see how your contributions are making a difference.
The book is a light read and makes some very key and practical personal finance points. While there may be concepts in the book which aren’t applicable to different countries, the basic principles retain the validity across the board.
My differences with the book
- Budgeting: My only and major difference with the book is its stand on budgeting. However this is my personal preference because I find budgeting fun. As a recovering shopaholic a budget gives me both a direction and a snapshot which works for me because it helps me discipline myself. To someone else it could be just as tedious and boring as the author describes it. So, find your own rhythm and preference with budgeting.
What I took away from this book?
- The power of automating: The primary focus of the book remains on the power of automation. To someone like me who wouldn’t like to depend constantly on self control or discipline, automation is the key to building wealth since I set it and forget it. I may have to rebalance some of it once in a year but otherwise, it’s essentially self fulfilling. As a believer of FIRE, I definitely thing automation can help me circumvent around my desire for instant gratification since the money goes out of sight and out of mind on payday.
- Paying for the past and the future simulatanouesly: This was the second concept that stuck with me. As someone on a furious spree to pay off my consumer debt, this concept triggered a new approach to pay off the debt in me. While I haven’t given it a go yet, I think I’d definitely like to calculate and see how following this would impact my interest amount and tenure.
What I would like to explore
- Homeownership: The principle of home loan pay off as suggested by Bach is something I would like to give a try and whether it would work out with our banks.
- The investment pyramid: The investment pyramid suggested by Bach looks fairly comprehensive at each age group and with due research I’d like to definitely see if it fits in my investment pattern.
That’s it for today. I hope you like this new section and feature. Let me know your thoughts on it! Until next time!