Savings: Easy As Pie!

By in Budget, Debt, Guest Post, Saving, Tips | 9 comments

Guest contributor, Alexandra from Real Simple Finances.

There are few things I enjoy in this world more than pie. Aside from being really delicious, pie also serves as a great guideline when designing savings plans. After all, who doesn’t want a big piece of financial pie?

Saving Pie Chart

Savings Pie Chart

My favorite pie is apple, whereas my husband prefers pumpkin. Just as our tastes differ, so might your financial pie differ from the examples I have shown here. These pie charts are meant to be guidelines and hints, but are no substitute for professional financial advice.

By creating an income, expenses, savings pie you gain an understanding of where your money is going. Only then can you figure out whether you’re on track to meet you financial life goals

First, know your pie. You must understand your income and expenses pie to become a saver.

1. The Pie Categories

Essential Spending

The first, and probably largest, piece of your pie is taken up by essential expenses, such as cost of living (read: food and shelter), transportation, and expenses that are necessary to continue your employment. If you live somewhere expensive, such as NYC, then your essential pie is going to be larger than if you live in St. Louis.

Discretionary Spending

Things that are not essential include cable, your daily latte, and magazine subscriptions. Don’t worry – those fall into your discretionary spending category. This is the category that holds all the expenses for fun and lifestyle enhancement situations.

Watch out, some of you may consider certain discretionary expenses essential.

Saving

Finally, you need to save a piece of your pie to, well, save! This portion of your pie will focus on your savings accounts – any accounts you might have, such as an emergency fund, retirement funds, and education funds for yourself or your dependents.

You can get fancy with the savings part of your pie and divide into smaller savings categories such as emergency, college fund, down payment, vacation, retirement etc.

Debt Elimination

I also propose an optional fourth piece of the pie for those looking to eliminate debt: the extra payment slice. I will talk about how this fits into the pie as a whole in one of my examples below.

2. Where Are You Now?

You cannot move forward without assessing your current situation. While I do not think it’s necessary to create a budget, you do need to see where you stand as far as your finances are concerned.

Tally up how much money you spend in the first three areas of your pie – your essential expenses, discretionary spending and saving categories –  Then, divide your total in each category by your total take-home (post-taxes) paycheck.

For example: If your take home pay is $2,500 each month (roughly $30,000 per year), and you spend $1,150 on your essential expenses, then: 

46% goes to essential expenses (1150 / 2500 = 0.46 = 46%).

If you allocate $500 each month to savings accounts, you are aportioning 20% for savings (500 / 2500 = 0.2).

Finally, it looks like you’re spending a whopping $850 on your discretionary spending category. Thus, 34% goes to discretionary spending (2500 x .34 = 850).

Of course, you should never have a pie that is made up of over 100%.

If you do, that’s bad – it means you are overspending, and need to reevaluate your finances.

If you have credit card debt which isn’t paid off at the end of the month, your spending is surpassing your income. That’s when you need to make a life decision about your financial future.

Do you want to be in debt or do you want financial security?

3. Envision Your Dream Pie

Getting your pie together will help you stay in control when your financial life isn’t going the way you wanted it to. Having a structure that keeps you accountable will help you rise up to meet emergencies and unexpected situations when need be.

Your dream pie, no matter what flavor it is, should include an essential expenses budget of no more than 50 percent according to Laura Shin at LearnVest . Included in the essentials budget is a maximum of  30 percent to housing, leaving an additional 20 percent for other essentials like your car, insurance, and perhaps heating oil (a brutal reality for some of us!). If you are in debt and have payments – student loans, car payments, etcetera – then you may need to allocate up to 60 percent of your budget for this category, depending on how much money you owe.

The essential expenses category is pretty straight forward; the others can borrow from each other as need be. You will see how quickly things can become complicated – but hold on!

Next, you should be aiming to save at least 10 percent of your income. This is the absolute minimum. Preferably, your savings will be higher – from 20 to even 30 percent. As long as you have an emergency fund with at least 6 months of expenses in it, you can decrease the amount of saving while you pay off debt.

If you are highly in debt, allocating an additional 10-20 percent of your income to extra payments is beneficial.

Finally, whatever is left is discretionary, yours to be spent how you like. This might make for some excellent motivation to pay off debt – when your student loans are paid off, you can spend more money on fun things!

Practice Pies

Let’s see a few of these pies in practice.

Example 1: Lilly, the student. 60/20/20 method.

Income: $1,500 per month (roughly $18,000/year) post taxes

Essential expenses:
Rent: $500
Utilities: $50
Gas: $50
Student loans: $300
Total: $900, or 60% of her take-home pay.

Savings:
Emergency fund: $100
Vacation fund: $50
Retirement: $150
Total: $300, or 20%

This leaves Lilly with $300, or 20 percent, of her take-home pay per month for fun spending. Lilly could also decrease her unnecessary spending to $150, adding the other $150 to her student loan payment, creating a 10 percent debt payoff slice in her pie.

Example 2: Mark, who lives at home.

After taxes, Mark takes home $3,500 per month (roughly $42,000 per year). He lives with his parents, but is saving to buy his own home soon.

Essential expenses:
Car payment and insurance: $500
Rent: $500
Total: $1,000, or 28%

Savings:
Retirement: $300
Emergency fund: $300
Savings account for a house down payment: $500
Total: $1,100, or 31%

Mark has only used up 59 percent of his income, making his situation quite enviable. Mark is definitely in a good situation to purchase a home, provided he watches what additional costs will be involved.

Spend a few minutes now crafting your income, expenses, savings-ideal pie and your future self will thank you.

Action Steps

  1. Create your current Income-Expenses-Savings Pie
  2. Create your ideal Income-Expenses-Savings Pie
  3. Review-Adjust the categories to align with your true priorities. Are you saving enough to meet your future goals?

What does your income and expenses pie look like?

Alexandra is the owner of Real Simple Finances, where she writes easy finance tips for real people. In addition to fighting off student loan debt, Alexandra is a university English Instructor and will be graduating in May, 2014, with her Master of Arts.

    9 Comments

  1. Excellent post Barbara, personally I want to be in a position where I save 80% of my income. Slowly but surely it’s happening.

  2. mmmm…..pie. I like to start with the saving and debt elimination piece of the pie, then move toward the other categories. If I know my plan of attack toward my goals is fine, then I can have all the pie I really want today!

    I love the practice pies. It’s cool to see your analogy in motion.

    AverageJoe

    February 4, 2014

  3. I like the percentage rule of thumb for spending and saving. I just haven’t been able to get it to work for me, yet. Soon, maybe. But where in the world do you find a place to rent for $500!? I think I’m living in the wrong city. ;)

    Little House

    February 4, 2014

  4. @Nick, That’s a laudable goal. What percent are you at right now?
    @Joe, So true, saving and debt elimination first. Then do whatever you want with the rest!
    @Little House-You are in California where everything is expensive. In the Midwest you could rent 2 homes for what you are probably paying in S. Ca. :)

    Barbara Friedberg

    February 4, 2014

  5. @ Barbara – I am at hovering around the 40% to 50% range at the moment. I’m always looking to cut costs and raise income. I use 20% of my time finding ways to cut costs and 80% of my time increasing my income and investing. Hopefully these actions should contribute to reaching that 80% level.

    • Nick, You have a very ambitious goal and I applaud you. Keep us posted on your progress! Although we’ve always been big savers, we typically hover around the 20% mark (not including investment income, which we always reinvest).

      Barbara Friedberg

      February 5, 2014

  6. @Little House: I’m living in the wrong city too, believe me. :) I’m looking to move up into the country, where I can find houses with 20 times the land for half the cost of my home now!

  7. I love the pie idea, especially thinking about what we eventually want our pie to look like! Most of our income is going to debt repayment (essential) presently, I can’t even imagine what it will be like when that’s not the case. I know we will want to save the majority, but giving is also important to us.

    Sher@fatguyskinnywallet

    February 10, 2014

    • Sher, I am certain you’ll feel awesome when your debt is repaid. We give a lot to charity as well. Although I’m very comfortable talking about money, I don’t disclose much about our giving.. I’m not sure why.

      Barbara Friedberg

      February 10, 2014

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