How to Use Your Salary Each Month

For most of my twenties, i was never actively thinking about how best to use the money i had. All i was told was to simply “make sure you save some money each month”.

The importance of having a plan for your next pound of money is vastly understated.

Commonly, people who feel ill at east with their financial situation simply don’t know the optimal way to go about spending their hard earned money in a way that is both financially responsible longer term whilst also leaving some money left over to actively spend guilt free.

There is no set rule or approach that needs to be followed, and how to approach your finances does depend on both what stage of your financial journey you are on and what your goals are.

For example, for those struggling with debt, you may consider following the popular “Dave Ramsey 7 Baby Steps” (https://www.ramseysolutions.com/dave-ramsey-7-baby-steps).

With that said, today i’ll share my preferred approach to how to go about spending your money each month as food for thought for how you go about spending your own money.

A note before beginning

Before starting, it is worth mentioning that in the first instance it is imperative that you aim to have your fixed costs / core expenses (i.e which need to be paid each month) be no more than 60% of your take home salary (more preferably around 50% if do-able).

This allows you to be able to save and wisely use / invest some of your money whilst also having enough to be able to actually live your life and spend money on things that bring you fun and enjoyment

Examples of such fixed costs costs would include;

1. Housing (Mortgage / Rent)

2. Utilities & Bills (Gas & Electric, Water, Internet, Council Tax, Phone Costs, any insurance)

3. Groceries (This doesn’t include any eating out or going to restaurants)

4. Transportation (Car payment / insurance / breakdown cover)

5. Ongoing Debt Payments (i.e Credit Cards)

6. Subscriptions (Netflix, Amazon, Gym Membership etc)

If fixed costs are any higher than this, it becomes very difficult to utilise your money in order to build financial security and also be able to enjoy spending money on things you enjoy.

Should you find yourself in a position where fixed costs are above 60% of your take home pay, look to see where you can minimise these as much as possible. It may necessitate having to take some large steps in the short term such as changing your living or transportation situation.

With that out of the way, let’s get into the order in which you should spend your monthly paycheck in order to build a life free of financial stress.

Note, if you have already achieved any of the steps listed, you should move onto the step where you currently are and start from there.

Save 1 month’s worth of expenses into a starter emergency fund

It seems simple enough to say make sure you have money saved, but at the very least you need to make sure you have 1 month’s worth of normal monthly expenses saved up as a starter emergency fund.

As the name suggests, this money is set aside for those unexpected / uncontrollable events that occur in day to day life.

Be it having to buy a new washing machine, take your car to the garage, or pay for some unexpected medical care, having this emergency fund in place will stop you from having to go into any debt to survive / resolve any pressing issues.

Contribute to your employer pension match

If you are at a job where you employer offers a match for your pension contributions, this is where i would focus your energies next.

An employer match is where your employer will offer to match any pension contributions you make yourself to your pension scheme up until a certain percentage.

For example, if you have a gross (pre tax) monthly salary of £4000, and your company offers a pension match up until 8%, if you choose to contribute 8% of your salary aka £320, your employer will then also contribute £320 to your pension scheme, meaning each month there is £640 being contributed.

This is in effect “free” money that is being added to your pension retirement account and is a great benefit to take advantage of should it be an option at your job. If available, make sure you are contributing at the uppermost limit of the match percentage on offer.

*Note, this only applies to Defined Contribution Pension Schemes, if you are on a Defined Benefit Pension Scheme the rules and ways the contributions work will be specific to that scheme.

Aggressively pay off any high interest debt

Put simply, there is nothing more crippling to your financial health than continuously carrying high interest debt balances.

Most commonly these come in the form of credit cards, payday loans, car finance loans and personal loans for those already with a bad credit score.

For our purposes, i would define debt as high interest if it has an interest rate above 7-8% generally speaking.

Paying off high interest debt provides you with a guaranteed return on investment through the cessation of having to pay future interest payments.

I say the word aggressively for a reason. If you let high interest debt balances stay unpaid for years it is no exaggeration to say that you are potentially setting yourself up for decades of financial struggle.

Here, by paying only the minimum payment on £2,500 of credit card debt it would take you upwards of 25 years to pay it off in full, and you end up paying back in interest vastly more than you initially borrowed on the card in the first place.

Aggressive is the mindset that needs to be adopted. It may be painful and you may have to cut back on what you’d want to do with your money in the short term.

That’s OK. Deal with some short term inconvenience now to save yourself from a lifetime of it in the longer run.

Save a fully funded Emergency Fund

Now that you’re clear of crippling high interest debt, the next step is to build up a fully funded emergency fund in cash savings.

Common guidelines are to have between 3 to 6 months worth of monthly expenses in your Emergency Fund, though there’s nothing wrong with going a bit more cash heavy and having more saved. What this amount is depends on your own personal risk tolerance.

This may take a while to build up, but once it’s there and in place you can progress through life with the security that should you need it, you have the funds available to get you through when life throws a curveball at you.

As a reminder, this is an Emergency Fund, that means only use in case of an emergency. This money should be off limits to you unless something dire and unexpected occurs, it shouldn’t be used or chipped away at for choices of things you want like upgrading your living situation / going on holidays etc.

Start investing in an ISA / Increase your savings rate to 25% of gross income

Once you’ve reached this step, you’ve put in the hard yards and ground work to make sure you have a strong foundation. Now, you can start the more fun process of actively trying to build your long term wealth.

One of the most accessible ways to do this is by beginning investing your money through a Stocks and Shares ISA.

The benefits of using an ISA is that any capital gains you earn through money invested via your ISA account are exempt from capital gains tax, which is either 10% or 20% in the UK depending on whether you’re a basic rate or higher rate taxpayer

That would mean that per the below example, the investment gain you’ve made of £60,295 would not be liable to any tax

ISAs have an annual contribution limit of £20,000. As a minimum, i’d recommend everyone to invest a minimum of 10% of your income into an ISA.

I go further into my reasoning for a 25% savings rate is a good goal in one of my previous newsletters.

If you’re able to achieve this rate, you’re able to concurrently keep building wealth through investing your money in an ISA whilst also saving up money for specific things in your life i.e. saving up for a house deposit / a holiday abroad / a new car or whatever matters to you.

Once you’ve achieved this 25% savings rate and are regularly investing your money via an ISA, what you do next is fine to leave to personal preference.

You’ve already taken care of the core actions that will set you up for a life free of financial worry.

Common options at this point could be

1. Paying off low interest debt such as a mortgage / student loans

2. Look to invest further in assets that appreciate in value over time such as property / businesses

3. Increase your savings rate past the 25% to grow your investment portfolio at a faster rate

4. Save up money to start up your own business

5. Increase the amount of charitable giving etc

See you next week,

Zain

If you’re feeling unsure about your financial future, or if you just don’t have as solid a grasp over financial concepts as you’d like, i’d love to help via a 1:1 financial coaching session!

We will discuss your current situation, the potential challenges you’re facing and together come up with a plan of action to get you to where you want to be.

Please fill out the linked consultation form and i’ll be in touch https://eu.jotform.com/form/233086136375054