Paying yourself first is something that I’ve mentioned before.
But I haven’t yet fully explained its power to accelerate your journey to financial freedom.
Paying yourself first is what it says on the tin. You pay yourself before you pay the supermarket, the bank, the utility companies, the breweries, cigarette companies, gift shops, Premier League Football Clubs, betting shops, tattoo parlours, strip clubs and the tanning salon [delete as applicable].
If your salary hits your account at the end of the month…then, the next day, you sweep a chunk of it from your current (spending) account to your savings (freedom) account or online stockbroker. Ideally this should all happen on autopilot so you can “set it and forget it”.
If you are young / broke / at the start of the journey, the money that you pay yourself first goes as follows:
- repaying loan sharks (e.g. Frankie the Fist)
- clearing other expensive debt (e.g. credit cards); then
- building a cash emergency fund (e.g. 6m spending); then
- into wealth generating assets (eg Vanguard funds).
How much of your income should you be paying yourself first? As much as possible! At a 50% (after-tax) savings rate it takes 18 or 19 years until you have enough not to have to work again. Your percentage savings rate is far more important than the rate you get on your investments in terms of the time to get to financial independence.
How much is enough? Well, just as a simple example, the Vanguard All World High Dividend Yield ETF (VHYL) currently pays cash dividends of 4% a year. So a £500,000 pot pays you ~£20,000 a year, a million pound pot pays you ~£40,000 a year and so on.
What if you can’t yet afford to save 50% of your net income? No problem. When you’re just getting started, the amounts don’t matter.
What matters is that you are getting into this habit. Habits are incredibly powerful things. Let’s be honest, most of the time we are on autopilot. So if you have your autopilot set to “saving”, you will get rich(er)…its inevitable.
We all start with nothing. If you are broke you can start by paying yourself first…even if its only £1 a month. Then increase the amount as you get your income up and your spending down. If you can keep doubling the amount saved each month, after 12 months you will be saving £2,048 per month.
Again, if you’re young / broke / at the start of the journey and that point seems a long way off, you need to know that you’re capable of much more than you can currently imagine. When I started out on £12,500 a year, saving £2,048 a month would have seemed impossible to me as well. But it happened.
No one taught us properly about money. So there’s this idea out there that you should save whatever is left at the end of the month. Can you see the problem here? Most people don’t have anything left at the end of the month.
That’s partly because we’ve all been brainwashed into believing that spending = happiness and therefore if we’ve left any money unspent then we’re leaving happiness on the table. As I may have mentioned before, that’s horseshit.
The natural tendency is to spend until there’s nothing left, so by paying ourselves first we create an artificial environment of scarcity. People tend to keep one eye on their current account balance and adjust their spending to what’s left. Paying yourself first brings forward the point when we are “forced” to turn down the spending.
The Escape Artist does not advocate a policy of minimising all spending. No, I suggest you think like you are Chief Financial Officer (CFO) of your own life.
A good CFO understands the difference between expenses and investments.
Expenses are bad things and need to be minimised. The money that you pay for your electricity or water or gas or council tax is an expense. The less you pay, the better.
Investments on the other hand are good things. They give you a positive return. If you buy £1,000 of Vanguard fund that pays £30 of dividend income and goes up by £50 then your total return is £80. Your return on investment is 8% per year.
You should spend freely on things that are good investments.
Yes, investing in wealth generating assets such as shares or property counts as investing. But here are some other things that look like expenses but are actually investments:
- books (esp self development books)
- health spending (e.g. physiotherapy, pilates, strength training)
- useful training (e.g. to become a plumber)
- other useful education / coaching / certifications
- loft extension / basement conversion
- a bike you use for commuting / getting around
Here are some things that look like investment but are actually expenses:
- clown degrees (e.g. gender studies)
- fitting out your house (e.g. soft furnishings for the nursery) or garden (e.g. new fishing rod for garden gnomes)
- a subscription to FatFighters
- new car purchases (new cars depreciate insanely fast)
Paying yourself first is not just a financial technique, its a state of mind.
You create your own reality. I don’t mean you can just magic up money with your mind. But with the right mindset, you can change your world and your financial situation via your actions.
Remember that there are 2 types of reality:
1. Objective reality
This reality is independent of what we think. Like the laws of physics : gravity for example. If you jump out of a plane without a parachute, gravity pulls you downwards.
If you are falling from an aeroplane with no parachute, you can think positively. You can visualise yourself flying. You can flap your arms. You can Reach For The Stars all you want…but you are still gonna end up the same way.
2. Subjective reality
Subjective reality is shaped by what’s in our minds: our beliefs, expectations and perceptions.
This is the version of reality that operates in most of our life…and that includes personal finance (as well as work, relationships, health and fitness). In personal finance your thoughts create your reality.
If you think that saving is putting yourself first, then you’re more likely to save. If you believe that investing in the stockmarket is easy (it is) you’re more likely to give it a shot. If you believe its possible to get to financial independence, you’re much more likely to do what it takes.
Paying yourself first is a way of reminding yourself that you are more important than sofas, plasma screen TVs, cars, hotels, alcoholic beverages and ready meals. People should be more important than stuff. And you are a person too.
When people come to my house they often ask me if I’d like them to take their shoes off? To which I say: thank you but no need! The reason is that people are more important than flooring materials.
Now you may think that its obvious that people should be more important than stuff. But you should pay more attention to what people actually do in life rather than what they say. Actions speak louder than words.
Every time you buy stuff, you extend your time in The Prison Camp. So every time someone buys *SHINY NEW THING* they are prioritising the thing…certainly before their freedom and perhaps before their own good.
Every time you see a fat person buying a packet of Doritos, that person just prioritised Doritos before their own health. That is not paying yourself first or putting yourself first…even if it is being greedy.
In this sense, a lot of people need to start putting themselves first, before the interests of the Mega-Corporations that make
crap stuff. Beware the the propaganda of The Prison Camp. Despite what they say in the adverts, companies are not your friends.
We really need to get smarter about what is enlightened self-interest versus what is crass selfishness. Here’s Scott Adams on the subject:
During your journey to success you will find yourself continually trying to balance your own needs with the needs of others. You will always wonder if you are being too selfish or not selfish enough…When it comes to the topic of generosity, there are three kinds of people in the world:
- Burden on others
That’s the entire list. Your best option is to be selfish, because being stupid or a burden on society won’t help anyone. Society hopes you will handle your selfishness with some grace and compassion. If you do selfishness right, you automatically become a net benefit to society.
I’m not going to tell you to be selfish because most people associate that word either with hurting others or being crass and I don’t want that.
But I do want you to do what they say in airline safety briefings and apply your own oxygen mask before helping others.
To put it another way, I’ll use a phrase that I stole from someone smart. I suggest that you make yourself your own mental point of origin.
Paying yourself first is a gateway habit.
It is a gateway to saving more, sure. But its more than that. Its a gateway towards thinking about what really brings happiness. Its a gateway towards enlightened self-interest. It’s a gateway towards helping the environment.
And its a gateway towards making yourself your own mental point of origin.
The London premiere of the Playing with FIRE movie will be held on Wednesday 12 June at the Royal Academy for Dramatic Art (RADA) Studio Theatre, 16 Chenies Street London WC1E 7EX (nearest tube: Tottenham Court Road).
Doors open at 6pm and there will be drinks and chat before the film starts (at 7pm) and then a live Q&A session afterwards with the director (Travis Shakespeare) including The Mad Fientist and Millennial Revolution.
The tickets sold out quickly but I have a couple held back that we are releasing so email me on Barney@theescapeartist.me if you’d like to buy the last tickets (£20).