"One word: plastics." In the 1967 movie The Graduate, Ben Braddock -- a recent college grad -- is aimlessly facing his future when a middle-aged family friend gives him that career advice. It didn't inspire young Benjamin, but it was good advice at the time.
Similarly, I recall earlier in my career -- when I was just as green and rootless as Benjamin -- receiving one piece of advice from a mentor that made a significant difference in my life. This simple idea has helped me build up savings and has stood the test of time. I absolutely swear by it when I talk with friends and family about money.
For those just getting started saving, or anyone wanting to improve their financial shape, this one word is the best advice I can give you: automate. In personal finance lingo, automation means setting up a system in which a fixed amount of money is taken out of your checking account each month and deposited into a savings account, without you having to do a thing!
Automating your monthly savings has two major advantages. First, it eliminates the need to write a check or electronically send in money. You don't need one more thing to do, and even if you have the best intentions, we all get busy, justify why we didn't save this month, or procrastinate. Automatic savings take away all those traps and leaves little room for mistakes.
William of Ockham, the 14th century Franciscan and logician, knew this well when he came up with the principle known as Occam's razor: the best explanation is the simplest one. And automating your finances is the simplest solution to save for the future.
A second major advantage of automating your savings is that no matter what the stock market does, you continue to add in good or bad markets, and you are therefore a market agnostic. Some wannabe savers get caught up in "The market is too expensive right now, so I'll hold off," or "The stock market is really scary right now, so I'll wait it out." But if you automate your savings, that's all rubbish. You'll buy into a rising stock market sometimes or a falling stock market the other times, and over time, it will smooth out the market ups and downs (in other words, dollar-cost average.)
Here are some ways to automate your savings:
Whether you have a 401(k) or an IRA, retirement accounts are a great way to automate your savings. But before you start socking away in these tax-advantaged accounts, first save enough money in an emergency fund that could help you immediately should you lose your job or experience a surprise expense. Once your emergency fund is stocked, it's time to focus on the future. Few of us are saving enough for retirement, and with the average life expectancy getting longer, we are going to need more and more money to get us through our golden years. Setting up an automatic debit each month from your checking account or your paycheck into your retirement account is a no-brainer. To get started, with most retirement plans, you can set up an automatic contribution online, so check your 401(k) or IRA custodian's website, they should have instructions there. You will most likely need your bank's routing number and account number.
Try starting with a small amount of money each month, then as you get more comfortable with your cash flow, increase the monthly contribution. Do this consistently each month, and over time you'll be happy as the results add up.
Automate college savings accounts
There are many ways to save for college, but the main point is to do it. Each month, I have a certain amount debited from my checking account directly into each of my children's 529 college plan. I have that contribution from my bank set on my payday, so I know the money is there. But you can schedule the withdrawal any day of the month convenient for you. Here again, to set up an automatic contribution from your bank, you'll want to check the college plan's website or call them directly if you have any questions. You will need your bank account number and routing number.
College is ridiculously expensive, and will only increase in the future. Automating a monthly amount to a college account is like chipping away at a glacier: It will take time. So start as soon as you can. You can open a 529 account for your children as soon as they have a Social Security number. Better yet, open one now and change the beneficiary to your children when they are born. It's never too early to save!
Mortgage payments, with a little something extra
If you have a mortgage, odds are you are already on automatic bill pay. But can you add a little extra each month to pay down the principal? There's only so much money to go around -- I get that. But if you can eke out an extra $25 or $50 a month to shrink the principal, this will help you build home equity faster and pay down the loan sooner. You'll be surprised and grateful with the result. One extra payment per year -- spread out monthly -- can save you significant interest over the life of a loan.
If real estate brokers love to say it's all about location, financial planners love to say it's all about automating your savings. It makes your life easier, takes the guesswork out of planning, and adds up over time. There are many places to save, so it's best to build a hierarchy. This means start with an emergency fund for unexpected expenses or if you get laid off from a job.
From there, automate your savings into a retirement plan. Once you have kids, automate contributions to a college account. And if there is still money to spread around, consider adding a little extra to the monthly mortgage. In most cases, the best advice is simple. I like to keep it to one word: automate.