Pay yourself first.
When we work, we get paid (unless we’re being charitable with our time). Payment is fair compensation for the value we’ve added and to reimburse us for our efforts. Who we then decide to pay is the big crossroads in personal finance which tends to lead us down one of two major paths.
Who or what do we value?
We have two choices for what we can do with our money:
- Spend it – which is to pay others, or
- Save it – which is to pay ourselves
To pay ourselves is to KEEP SOME of our hard-earned money for ourselves, because we’ve worked hard and deserve to have something left to show for it. Furthermore, we deserve to pay ourselves ahead of anyone else including our landlord, the car dealership, or the government for that matter (yes, you can! Wait for it…).
Some might argue that blowing it on what we want, like a new car for instance, is to also pay ourselves. But let’s be really clear: we are paying the car dealership, not ourselves. Yes, we have a shiny new car to show for it which feels like payment, but you have just paid yourself with something that is worth less than what you just paid for it at the dealership and is further depreciating every day. If this is a payment to yourself, it’s a bad one.
How do we really pay ourselves then? To best pay ourselves we:
- Preserve our money, and/or
- Invest it in appreciating assets, and
- Do so as well as possible with help from our friend, Uncle Sam.
More on each of these:
Preserve it: Simple put, this is putting money into savings. A high-yield savings account or money market fund will preserve it with very modest earnings (interest or dividends of around 2% currently). Putting your money into one of these accounts is a sure bet to keep it safe.
Buy appreciating assets: Alternatively, and preferably, investing it into something with higher growth potential (along with higher risk) is an option too. If you are going to spend it on something, make it something that will grow in value. Cars do not grow in value – they drop. Homes, houses, land, stock investments and mutual funds…these assets are much more apt to grow in value. Now keep in mind that paying into a mortgage only pays yourself a small amount (principal) as the majority of that payment is going to the bank (interest).
Let Uncle Sam help: Whether you are preserving or investing the payments to yourself, these are most efficiently done with tax-advantaged savings accounts which allow you to invest more for less of your money. With these accounts, the government provides a tax break, on the front end in the case of 401(k) or IRA contributions. The tax savings provided by the government serve to fund a portion of your investment. For example:
$1,000 contribution to a tax-deferred account
-200 tax-savings (assuming 20% federal and state income taxes)
= 800 reduction in your paycheck
If I offered you $1,000 in exchange for only $800, you would take it, right?
(If your answer here isn’t “hell yes”, go get your head checked)
THIS is how to really pay yourself.
Pay yourself first at: