By Mark Huffman
ConsumerAffairs.com
January 14, 2010
After a year of scrimping and saving, in response to the Great Recession, some consumers may be ready to start spending again. But personal finance experts caution consumers to remember that debt is a four letter word. It's what got us into trouble in the first place.
"It's tempting for many consumers to throw open their wallets as a backlash against much of the restraint they showed throughout the past year," said Ethan Ewing, president of Bills.com. "But the best way forward for both individuals and the larger economy is a balanced save and spend strategy that can sustain households while eliminating dangerous behavior."
Over the past year, many consumers have renewed their commitment to savings in a way not seen in recent decades. This has allowed many families to add to or rebuild their nest egg while helping to reshape spending behaviors, and overall has been a healthy development for consumers, even if it makes economists a little nervous.
But now the economy seems to be slowly recovering. Families that have done without for the last year will have to evaluate the right time to begin making necessary purchases again or even when to loosen self-imposed spending restrictions.
Before going on a major shopping outing, take three steps that will help sustain savings habits, avoid piling up new debt and fulfill the desire to spend some of that hard-saved cash.
Step One: Assess
Engage in an honest dialogue about the state of your family's finances. Do you have a budget that is reasonable and workable long-term? Do you know how much you owe? Do you understand the implications of different interest rates and types of loans? Do you have excess cash to pay off high-interest credit cards? Do you have an emergency fund and plan in place? Know where the money will come from to pay for your purchases.
Step Two: Plan
Once you thoroughly understand your money position, decide on a set of financial goals and a realistic plan of action. As a family, devise a realistic monthly budget for 2010 that includes all income and expenses. As part of this budget, identify any necessary purchases that you know will have to be made during this year, such as a renovation, new car, or a new home appliance.
Establish a money goal for the family. Do you want to be debt-free? Do you still need to build a nest egg? Is college or retirement saving looming large? Set a realistic monthly contribution amount that still works within your expected budget.
Step Three: Execute
Choose a short-term savings vehicle so you can begin to squirrel away enough money each month to cover expected large purchases. This can be as simple as a savings account or CD -- just be sure there are no time requirements or penalties for early withdrawal. You should use a separate savings account for your family's nest egg.
Next, choose a longer-term savings vehicle such as a 401k, IRA, or 529-college savings account that will help you achieve your larger 2010 money goal. Establish a basic save-to-spend ratio for extra income after budget and savings expenses are covered. A one-to-one ratio might be aggressive, but find the right percentage that is appropriate for your family. Use this extra savings to grow your emergency cash fund or augment long-term savings.
For standard planned monthly savings contributions, set up an automatic transfer or deduction from your paycheck. If you don't realize it's gone, you won't second-guess the practice.
Identify ways your employer can help you save. Health Savings Accounts and matching 401k contributions are good places to start. While many companies are still avoiding pay raises or bonuses, benefits can contain compelling cash savings.
Pay down credit card debt first. This is often the most expensive debt, and can quickly grow unmanageable if you are only paying the minimum amount.
Keep Saving For The Future
Make retirement saving a priority. Many focus on college savings because that cost will arrive sooner. However, there are many other ways families can pay for college - scholarships, grants, and loans. If you have to choose, save for retirement first.
For your monthly bills, be sure that you don't miss a payment. One late payment can lower your credit score. Use online bill pay or email reminders if necessary.
Avoid raiding long-term savings. If you are in a pinch, find ways to make the most of your budget or put off big purchases for a few more months. It is substantially harder to replace long-term savings, and fees and taxes can erode your earnings.
"The key to responsible spending is to acknowledge core expenses, plan for necessary purchases, and establish a ratio of saving to discretionary spending," said Ewing. "It is unrealistic to expect total savings, but even with an improving economy it is dangerous to completely eliminate spending restrictions."
