Financial Foundation Key #4: Give to Charity

Giving away hard-earned money is not exactly an intuitive way to make more money, but I have experienced that benefits come in other forms to us and our families by generously helping out those in need.

Another good thing about charitable donations is that they can be deducted from your taxable income. Yes, you are still giving away some money, but you are actually giving away less than you think due to the tax savings you receive. In other words, $100 given to charity and listed in your itemized deductions, is really only a $75 donation for someone in the 25% tax bracket. The result is the charity receives the full benefit of $100 even though you only pay $75. So who pays the other $25? Well, that is indirectly paid by the government to your charity. So when considering how much to give to charity, remember that if you itemize your deductions on your income tax return, you are actually giving less. Which, in turn, means you can give more, right?

Money Magazine shares a few tips on selecting a charity if you don't already have one or two favorites you donate to regularly. Find the article here.

Keep on giving, because what goes around, comes around.

Financial Foundation Key #3: Build a Reserve

How many times have you wished that you had more money? Whether it is to make a fun splerge or to have more to pay monthly bills, it's probably safe to say that most people wish they had more money to spare, especially when times are tighter as they are in today's economy. Building a financial reserve will bring a greater peace of mind. It may also save you when that unexpected emergency comes along.

The key to building such a reserve lies in your action of diligently setting aside whatever amount is deemed appropriate on a regular basis as well as in in the principle of the Time Value of Money. Yes, setting aside a budgeted amount each week will increase your reserve over time, but just as important, the time value of money works on increasing it the form of interest or other returns.

What is the Time Value of Money? The basic notion is that one dollar today is worth more than one dollar in the future. No, this is not actually due to inflation, but rather that your dollar set aside today will earn a percentage return if invested or placed somewhere other than beneath the mattress. If you set aside $100 now in a savings account that is earning 1% interest, then you will have $101 in one year. You may say that doesn't sound like much, so that is why finding an investment with a much better return is important. A modest return may be around 6%, meaning that $100 returns $6 and turns into $106 by the end of the year. Not much better? Well, that is why consistent saving is the key. Compound interest then begins to work in your favor. $100 put into that same account in the second year means that interest is earned on the $106 and the additional $100. That result is interest paid of $12.36. The fist year only paid you $6 and now the second year is paying you more than double that. I think you can probably start to see the pattern and apply it whether you are adding that $100 each month, each paycheck, or each week. The interest or return you get begins to build on itself rather quickly.

Many organizaitons and universities use such a principle when obtaining grants to fund certain campus projects. The funds required to construct a building, for example, are obtained and spent while an additional amount to maintain the building into perpetuity is obtained. That doesn't mean that infitnite dollars are being poured into the building, but that an amount is set aside to pay for the maintenance of the building. The amount set aside earns it's own income in the form of returns that exceeds the cost of maintaining the building. In other words, the money is doing the work. Individuals can also slowly build up such a reserve on the same principle.

The key to building your reserve is to not spend it. This may sound obvious, but many find themselves wanting that little extra cash for a new toy. Limit the reasons to tap into this reserve, and spend it for emergencies only. Don't spend the rainy day fund on a bright sunny warm day or you may regret it when the clouds start looming overhead.

Financial Foundation Key #2: Use a Budget

A budget is sometimes considered the most despised tool for tracking your finances. No one really wants to lock themselves down to a budget that keeps them from spending what they want. But that is just it, some people may need something to keep them from spending more than they make. A budget is the only way to track your spending against an expectation or plan. Whether you follow a budget strictly or simply use it at the end of the month to see where your money went, it can be the most useful tool in your finance shed.

The usefulness of a budget lies in the accuracy of actual expenditures. If actual expenses are not tracked at the same level of detail as your budget, your budget is not able to report meaningful information at the end of a period. I've created my own Excel spreadsheet (available for download) of a simple monthly budget that can easily be customized to fit the categories that apply to your family. Also keep in mind that you will need to track your actual expenses at the same level of detail for the budget to be truly useful. In the end, you simply need to know whether you are spending more than you make.

You may notice that I've included lines in the budget sheet for investments. Budgeting monthly contributions to retirement accounts, education accounts for kids, and other savings for a rainy day is important to remember. Otherwise you may feel that you are living within your means, but in actuality you have nothing set aside for unexpected events or even expected events such as retirement someday.

I'll also note that there are several applications that can assist in budgeting, tracking actual expenses, planning, and reporting such as Quicken. These tools are obviously full of more tools than a simple spreadsheet, but they usually require additional time commitments to make them useful. One online tool is Mint.com, which is a free site to help you classify your income and expenses automatically by syncing up with your banks and other financial institutions. I've recently opened an account to test it out, but need to play around a little more to see how useful it can be. At first glance, it will at least consolidate your bank and credit card activity (and any other activity with a financial institution within its database) and show some helpful reports to know your standing. Of course, the reports are only as accurate as the data used to create them so be aware of how certain expenses are automatically being classified. Mint.com is also being acquired by Intuit, the maker of Quicken, so there may be changes ahead for Mint.com users once Intuit decides how it wants to integrate Mint.com into its product offerings.

Hopefully some of these tools help you in managing your finances in a way that works best for your family.

Financial Foundation Key #1: Avoid Debt

This sounds like a simple suggestion on the surface, but if you are already being swallowed by the jaws of debt, you probably find little solace in this advice. You have learned the hard way that debt can be all-consuming with interest that never sleeps or takes vacation.

First, for those who have no debt, you are among a small percentage of the population. Going into debt is necessary for the average person to purchase a house. Not many people have enough cash lying around to buy a house over the weekend. This debt is obviously permitted even if you want to live on a strong financial foundation. The keys to the debt incurred for a house purchase is to do your research on interest rates, keep a good credit rating, and ensure that your monthly payment will fit within your current budget. Many web sites offer mortgage payment calculators to assist with this, but don't forget to factor in your other monthly expenses when comparing to your monthly income. If your monthly mortgage payments exceed your monthly income when added to your other monthly living expenses, you may have to either reconsider your home purchase, or find a less expensive home. The days of a starter-home do not have to be a thing of the past.

Now, if you already have plenty of debt to share with others, you may need a plan to help you get out of it. Although this can seem overwhelming, one simple principle can be applied to eventually rid yourself of the stress of such a burden. A debt elimination calendar most effectively illustrates the idea. Using the example below, you can easily create a spreadsheet with a column for each debt in the elimination plan. The idea would be to put the debt carrying the highest interest rate on the left in order to pay it off first, while still meeting other debt payments. As the higher interest-carrying debt is paid off, additional cash is freed up each month to put toward the next debt column. Individual circumstances and timelines will obviously vary depending on your personal cash inflow and payment requirements. Another key is to pay as much as your cash inflow and budget allow, not just the minimum payment. For example, if you are able to pay off all credit card debt, which usually carries the highest interest rate, as you begin the program, you are making a good investment since you will save yourself all the money that would have been paid in interest in the future. Be sure that your debt elimination sheet is consistent with your income and budget.



I think this is a mindset that needs to be one of the keys to building a strong financial foundation. It's not a one-time get-out-of-debt-and-I'm-done solution, but rather is a frame of mind that has to continue whether we are deep in debt or not. Helping build that financial foundation will help you withstand any economic storm.

Keys to Building a Strong Financial Foundation in any Economy

Building a strong financial foundation for you and your family now and down the road isn't just built on making more money. There are five keys that need to permeate our thinking and drive our actions. Focusing on such principle-based keys help create the right frame of mind that changes our financial behavior. Only then can one truly build a strong financial foundation that can withstand any economic storm that comes our way.

Key 1: Avoid Debt
Key 2: Use a Budget
Key 3: Build a Reserve
Key 4: Give to Charity
Key 5: Teach Others

These may seem straight forward on the surface, but finding personal ways to apply these principles in their truest sense can take a long time to master. We will be diving into the details in the future to help us all build a strong financial foundation that can withstand any economic conditions.

Take Advantage of an FSA or HSA

Whether you are employed or self-employed, you want to take advantage of a Flexible Spending Account (FSA) or Health Savings Account (HSA) to pay for healthcare expenses using pre-tax dollars. This saves you at least the amount of money that you would have paid in income taxes on the amount you set aside for these plans. You will have to check with your employer to determine which plan may be offered and details for setting it up.

Better to Over-estimate than Under-estimate:
Yes, at the end of the plan year you lose the amount of money left in your account if it is not spent. But remember that unless that amount exceeds the amount of tax you would have paid on that income, you are still better off. A quick example may help illustrate: Assume you are in the 25% tax bracket and estimate eligible healthcare expenses of $1,000 for the plan year. Your income tax savings by contributing to an FSA is $250 ($1,000 * 25%). If you only spend $800 of your $1,000 in the FSA during the year, you still save $50 ($800 - $750). By spending the entire $1,000, you end up saving the entire $250.

Eligible Expenses:
A quick Google search can retrieve several lists of eligible and non-eligible healthcare expenses. In general, you can plan on including any over-the-counter (OTC) medications, doctor visits copays, prescriptions, or other essential medical expenses. You can find a rather specific list here.

Assets to Appreciate

There is no lack of options in today's world on which to spend or in which to invest your money. I'd like to propose that you ask yourself one simple question before letting go of that money: "Will the asset I purchase appreciate or depreciate over time?" This simple question can affect what you end up buying when you really stop to think about it.

Let's take two assets for a comparison. Both a car and a home would show up on your personal balance sheet as an asset when purchased. Of course, you may also have a liability on that balance sheet in the amount of the financing or mortgage, but I'd like to focus on the debit side of the transaction (excuse me for the accounting speak). These are two assets that have real value at the time of purchase. Now let's look 20 years down the road from the time of purchase. The car is now worth a fraction of what you paid and is, thus, a depreciating asset. If you were a public company, you would have to record a depreciation expense every year to show that the asset was losing its value.

The house on the other hand may fluctuate in price over those 20 years, but most likely will be worth more that what you paid for it, thus appreciating in value. Again, if you were a public company, you would not be recording a depreciation expense each year because the value is not being lost. Rather, when the house is sold, the amount on the balance sheet becomes the amount you receive for the sale.

These are pretty simple examples, but make the point that an appreciating asset is obviously a better purchase than a depreciating asset. We all understand and know this intuitively, but do we really stop to think about it before every purchase. If we focus more on spending our money on appreciating assets and minimizing the purchase of depreciating assets, we set ourselves up for much greater wealth in the future.

Make Interest Work in Your Favor

We often think of interest rates as the rate that we have to pay in the process of paying off a mortgage or other debt. Interest is a two-way road: those paying it are paying it to another party who is earning it. The best place to find yourself is on the earning side of interest. It can kill you when you have unpaid credit card debt because it never sleeps or takes a break, but if you have money invested in the right vehicles, it will also work for you.

I encourage you to keep a checking a savings account for your primary banking needs. Choosing the right bank or credit union depends on the interest you can earn and what free services are offered. Today, most basic checking accounts provide most services free of charge, but the savings accounts typically offer very low interest rates. As such, keep only the minimum amount of cash on hand at this institution to ensure you are not charged any fees as well as to cover your cash needs for at least a couple of months. The cash need can be determined based on your monthly expenses and should be there in the case that your income is stopped (due to loss of job or other emergency).

The remainder of your money should be invested wisely. Enough should be kept liquid in money markets to cover for a rainy day or rainy 6 months, but this can be at a larger institution such as Vanguard. Transferring money to your bank accounts can usually take place in a couple of days so the cash is close at hand, but is earning a much better rate of return. Vanguard is one of my favorite institutions as they have a wide range of investment choices and possibly the lowest fees of anyone.

Longer term investments are a whole different can of worms so I'll open that one up later in the future.

Financial Software

Software has changed our lives. I remember the day that my mother sat me down and showed me how to balance a check book when the monthly bank statement came in the mail. Since she is quite compulsive, she is one of those who goes through the statement line by line to ensure that it matches her own record exactly. If not, the discrepancy was always found in order to reconcile the two.

This is a healthy habit, but luckily software and the Internet allow us to dramatically reduce the time involved. I encourage people to download monthly bank, credit card, or other statements and reconcile them with their own records. The least time-consuming way to keep your own record is by using Quicken, MS Money, or some other financial software. These have the capability of downloading the activity for the statement period into the software (which matches your monthly statement) and assists you with the reconciliation between the two (often it can be automatic). A brief review of the charges is then sufficient to complete your reconciliation efforts and ensure your own records/software is up to date.

The other great benefit of software applications such as these, is categorization of income and expenses that allow you to easily see monthly expenses and track against a budget. This is especially critical when that budget is tight. Being familiar with where you stand financially will lead to better, and more frugal, purchasing decisions.

Check out your software options with the following links:
Quicken
Microsoft Money

Free trials are common so you can even test each of them out before making a purchase.