Today I want to introduce you to the “secret” technique used by millionaires who don’t budget.
Now, don’t get me wrong – budgeting every dollar is an amazing strategy. Giving every dollar a specific job, before you start spending, is hugely helpful in getting a handle on your finances. The majority of millionaires budget, according to Dr. Thomas Stanley of The Millionaire Next Door, but there’s a subset that don’t. Those that don’t create what the good doctor calls an “artificial environment of economic scarcity”. That’s a fancy way of saying pay yourself first, automatically, and just spend what’s left over.
Why explore both methods? Budgeting doesn’t work for the majority of America. Only 20% of people have a “real” budget where they actually track their spending and do all those budgeting things that you “should do”. So why does the personal finance world continue to push something that doesn’t actually work for most people? Instead of some perfect image of personal finance, I’m all about finding what actually works for you and your family.
I go back and forth between the two, depending on what I have going on in my life and my current goals. What’s the advantage and disadvantage of each? Let’s explore each, so you can pick the method that works for you.
The Argument For Budgeting
There’s nothing more powerful than knowing exactly where you’re spending your money each month. Figuring out exactly where your money is going, trimming down on categories not aligned with your goals and dreams, and telling it where to go can help you cut down on the unnecessary and bring your goals closer. Whether it’s paying off debt, saving for a home, setting aside money for college, starting a business, or buying a new car – a strict budget can help you get there.
Most personal finance books recommend budgeting as one of the first steps to getting your finances in order. I personally would recommend first tracking your spending for a month or two first, and then creating a budget, because otherwise your budget is going to be totally unrealistic.
Of course I can spend $75 a month on groceries for my family of 5! And $20 per month for electricity sounds right. We’ll never eat out or have any fun whatsoever – oh and I completely forgot that gifts cost money! And the car tax bill that comes once a year! Oh insurance, right…
If you already have a good record of your past spending from a checking account or credit card, you can use that information to jump-start your budgeting. I used strict budgeting when I was aggressively paying off debt following my husbands near-death from septic shock, and also when I started my mortgage payoff journey, and it was a very powerful tool. The more aggressive you want to be in your financial goals, the more budgeting is the way to go.
What Are The Downsides to Budgeting?
People that talk about budgeting as the key to reaching your financial goals often never talk about the downside. The main downside is that you need to stick with it over the long haul to be effective.
Most people have no trouble coming up with a budget, but their first pass is often wrong. They overshoot or underestimate certain expenses, forget completely about others, or they’ll find that they’re spending more than they make. All of these things can be discouraging to a new budgeter. They’ve budgeted every dollar and then suddenly a car repair is needed. Or they forgot it’s their mother’s birthday that month. Or the electric bill is higher than estimated, this month the oil bill is lower than usual, and so on.
You need to not only create a budget, but live it, in order for budgeting to work. You need to make constant adjustments as the month goes on, save in sinking funds for annual or semi-annual expenses (like car tax bills), Then you need to start over fresh every month. It’s no wonder that while 80% of Americans say they have a budget, only 20% actually write it down and keep up with it. This could be part of the reason that only 40% have enough in savings to cover an emergency of $500-$1,000.
The Budgeting Alternative – Automation
Interestingly you don’t need to budget to become a millionaire, or to achieve your goals and dreams. You can do what Dr. Stanley called “creating an artificial environment of economic scarcity”, or as David Bach says, automating your way to millionairedom.
How does this work? It’s simple:
- Get to know your goals and dreams
- Determine what amount you need to set aside each week or month to make progress towards those goals
- Automatically set aside that money in the appropriate kind of account(s) – an emergency fund, a debt-payoff account, a 529 college plan, your retirement account, or an after-tax investment account
- Live off whatever you have left in your checking account – guilt free
Why does this work? As they say, “out of sight, out of mind.” When you look at your checking account, if you see a big chunk of money just sitting there, you might spend it instead of putting it toward your dreams. It’s also simple and easy to keep up over a long period of time. In fact, some hard-core budgeters evolve to this method over time because it’s so simple.
You’ve already pulled out what you need to work toward your goals. Now you just pay all your bills and fund your discretionary spending out of what’s left in your checking account. No need to track, budget every category, or move things around as an unexpected expense comes through.
This works best when you automate your sinking funds too. Christmas comes every year? Transfer $10, $20, or $30 per week into a Christmas Club account, and when December comes you’ll be smiling. Have pets? Put $10 or $15 a week into a pet fund to pay for their inevitable vet visits. Car taxes, annual insurance bills, semi-annual tax bills, and the like? Set up a sinking fund for each one and automate your way to budget freedom. I use Capital One 360 – I’ve been a customer since it was ING Direct back in January of 2004 (over 13 years now!) and I’m very happy with it. You can open multiple accounts with different names for different funds. You can also do similar things with Smarty Pig, which pays an even better rate (up to 1.12%!). As of this writing, there are a few accounts paying 1.3% – Magnify Money is the site I use to find good rates (none of these are affiliate links, they’re all real).
The Dark Side – Ignorance
When automating, you need to be careful not to just ignore your spending entirely. I know, the reason you’re trying this instead of a budget is so you don’t need to track! But if you’re not careful you can find yourself with a bunch of leaks in your financial ship.
So when automating be sure to keep an eye on the expenses you’re incurring. Watch your grocery spending, eating out, subscriptions, discretionary spending, and more. Make sure to shop around for better deals on your recurring expenses (aka fixed expenses) – better rates on your debt, lower insurance premiums, cell phone bill, home phone, etc.
If you’re finding you’ve automated and don’t have enough “money at the end of the month”, you’re going to need to do strict tracking for a while to get back on track.
The Take-Away – Experiment With Your Life and Money
Believe it or not, there is no “one right way” to live your financial life. Rather than strict rules, I like to treat your personal finances as an experiment. And don’t be afraid to try one technique, then another, and to move back and forth between the two as your life and needs change.
If you’ve tried budgeting before and it didn’t work, or you wouldn’t keep up with it, don’t despair. Try automation instead and see if that works better for you. Or if you’ve been automating but you keep needing to tap your emergency fund, do a strict budget for a while. Use each method as a tool to help you achieve your dreams.
Did you notice how the word “secret” was in quotes up in the title? That’s because it’s really more of an open secret. It’s been written about, talked about, and discussed pretty thoroughly in the personal finance media. It never gets as much attention as budgeting, though, so I’m adding my voice to those spreading the word about this technique.
Here are a few great resources you can use to learn more:
- Money Guy Podcast – The One Thing You Need To Do To Reach Financial Independence
- Apathy Ends – Budgets Suck, Thankfully You Don’t Need One To Be Rich
- Millionaire Next Door
- Automatic Millionaire
I Want To Hear From You!
Let me know what you do – are you a hard core budgeter? Do you automate and spend guilt free? Or do you go between the two, like I do, as your life and needs evolve? Let me know in the comments!
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