How Families Can Get Control of Their Finances

by Steven H. Cobb, M.D., CFP(R)

After recovering from too much holiday festivity, what better time for families to resolve to get control of their finances? Sure, the prospect can seem about as appealing as a root canal, but families will be pleasantly surprised at how empowering a few simple steps can be when it comes to enhancing their financial security.

The "BIRDSWITS" approach - Well, to the best of our knowledge birds don't have wits, but let's start out with a simple but memorable nonsense mnemonic--"BIRDSWITS"-- to be sure we cover the essential subjects: Budget, Insurance, Retirement, Debt, Spending, Will, Investments, Taxes, Savings.

Budget -

The center of any family's financial plan is the balance between income and expenses. How "balanced" are you? Do you really know how closely your expenses and your income match? Establishing and maintaining a budget--a record of all sources of income and all categories of expenses--can be an enlightening exercise and your first step on the path to financial control. With either a spreadsheet or pencil and paper, list each category of expenses carefully and divide them into necessary (" fixed", or those you must pay, like mortgage, groceries, utilities, loan payments, insurance premiums) and discretionary (those items you choose to spend money on, like restaurants, travel, fancier cars, gifts, expensive clothes). If all those expenses add up to more than your income after taxes, you're headed for trouble- unless you either generate more income or start controlling your spending.

Insurance - We all hate to spend money on things we hope never to use, but being properly insured is an unavoidable exception. Examine the policies you have and ask: have you protected yourself in all the areas where you need insurance? The obvious ones may be covered, like state-mandated auto insurance, or homeowner's coverage if you have a mortgage. But if you have financial responsibility for others, like children or a non-working spouse, do you carry sufficient life insurance if tragedy strikes? Do you carry long-term disability insurance to provide income if you are injured or fall so ill you cannot work? Your employer and the government may provide some disability coverage, but it's often not sufficient if your disability is permanent, or it may not include inflation protection. How about excess (umbrella) liability insurance if you are successfully sued for more than the basic limits of your auto or homeowner's policy?

Finally, while you need enough insurance, don't overbuy and don't forget that its purpose is not to earn you money, only to replace what you lose in an unexpected event.

Retirement - The era of cushy pensions from a company where you've worked 25 or 30 years is disappearing quickly. You must save for your own retirement. In this area your main goal is to maximize the amount you contribute to your employer's retirement plan, typically a 401(k) plan. Painful though it may be, studies have shown overwhelmingly that the best approach you can take is to stash as much cash as possible into these plans, even if it means you'll have less take-home pay now. But don't stop there. Learn which investments in the plan are best suited for you, and then arrange for your contributions to be invested each pay period in those. One of the biggest mistakes people make is not putting enough money in a retirement plan, and the next is not investing it properly.

Debt - Ouch--here's a sore subject. One of the worst enemies of financial self-control is that little piece of plastic money in your wallet. If credit cards were named correctly they'd be called debt cards. Yes, I meant "debt", not "debit". Because, if you don't pay your entire balance on time each month, you are allowing a debt collector to charge you interest rates that years ago would be labeled usury (exorbitant and often illegally high interest). What to do? Examine your budget and really work to avoid unnecessary expenses that throw your income expenses balance into imbalance. Cancel all but one or two essential credit cards. Tear up the credit card offers mailed to you.

Spending - Your spending habits can often dictate how secure or insecure you will feel about your financial position. Some may remember the advice about "counting to ten" before responding to something that angers us. Try the same approach with your spending. Before opening your wallet, ask yourself if you really need that grande latte for several dollars, or might you get the same benefit coffee provides if you buy it by the pound and brew it yourself. Could you sacrifice dining out by just once or twice a month? And with all the reasons to quit smoking, we shouldn't need to mention the financial benefit of not spending $4.00 a day on a package of cigarettes.

Will - For starters, have you created a will? If not, you have plenty of company, since some surveys have shown up to 7 of every 10 people die without one, a situation called "intestate". Ah, but those people actually do have a will, courtesy of the government of the state where they reside. Yup, the same folks whose statehouse antics regularly tick you off have established rules that determine who receives all the money and property it took you a lifetime to accumulate. You must have a valid will so you decide who receives your assets. If you can't afford an attorney to prepare your will and several other important estate planning documents, at least create a will using one of the forms available on several websites (try googling "create a will" and you'll find some to compare; be sure the forms are legally acceptable for your state). While you're at it, consider completing those "other" documents.

Investments - We covered this in part under Retirement, but remember that you should try to invest money in addition to your retirement plan. Exploring the methods to determine the proper investments for you (your asset allocation) is beyond the scope of this article, but how you invest is often more important than how much you invest. While it's certainly possible to use the do-it-yourself method, proper analysis of the multiple factors that drive optimum asset allocation often is best done by a trained, impartial financial advisor.

Taxes - Whether you prepare your own tax return or let a professional do it, resolve now to maintain good financial records. If you even think a form or a piece of mail might relate to taxes, save it in an accessible place. That applies to checks, purchase receipts, credit card bills, tax bills, pay stubs, acknowledgments from charitable organizations, etc. Even better: if you have a scanner attached to your computer, scan those items into your hard drive and back up the scanned file to a backup drive.

Savings - We just discussed Investments, but how will you invest if you haven't saved any money other than in your retirement plan? What will you use for an emergency cash reserve if you're laid off or face sudden unexpected expenses? Resolve now that every pay period you'll transfer up to 10% or more of your take-home pay to a money market account at an institution that has a division that allows you to invest the money in mutual funds, stocks, and/or bonds. Even better is to have your check deposited directly into that account, then use the account to "feed" a separate checking account you can use to pay your bills. Keep the cash in the money market portion of the account until you've accumulated an emergency reserve equal to 6 months worth of your essential expenses (rent/mortgage, groceries, insurance premiums, utilities, property taxes, loan payments, credit card minimums). After your savings have covered that reserve, you can consider using any excess for other investments, in conjunction with the investment plan you've established.