Becoming Fiscally Fit
Getting fit takes planning and patience. Whenever you want to make a change you have to find out where you are, decide where you want to be and then come up with a plan to get there. Each step is crucial in the process to becoming fit. That goes for both physical and fiscal fitness.
The basic formula for weight loss is calories expended > calories consumed. Similarly, the basic formula for financial success is Income > Expenses. Without that formula being true you can't save money which means you can't invest which means you can't build wealth. For the past five years or so my wife and I were doing extremely well. We were DINKs (dual income no kids) with solid income, relatively low expenses and excellent free cash flow for investing.
However, we've let things get a little bit out of control with some of our spending, mainly purchasing a little bit more house than we need and purchasing a new car for my wife. Life happened as well over the last 1.5 years and our debt is now around $50k excluding our house. Of course the downside to having debt is that it increases your required spending each month. Our monthly debt payments, excluding the house, come to about $1,100 which is way above our comfort level.
So now we know where we stand, but where would we like to be?
We both want to get back to regular saving and investing, but we're currently running very close to breakeven each month. That means our investing is on hold which slows down our progress towards financial independence.
Getting rid of the debt will free up a lot of cash each month to and would be a large cushion between our income and expenses. That's vital when you add in that my wife is pregnant and we'll be losing her income since we both want her to be a stay at home mom.
I mentioned earlier how the basic formula for financial success is Income < Expenses and our ultimate goal is to get back to that point with as large of a gap as possible. Once we get our gap back we can resume our progress towards financial independence.
So how do we get there?
Luckily none of our debt carries a high interest rate with the highest around 3%. So at least we're not getting killed in the meantime.
Our plan is to use all excess cash flow each month to aid in paying down our debt balances to get them back to zero. We'll pay the minimum amount on all of our debts each month and on the smallest balance we'll pay whatever extra cash flow we have each month to that balance. Once the smallest debt is gone we'll move to the next smallest debt armed with the minimum payment for debt 2 as well as the now freed up minimum payment from debt 1 and any extra cash flow we have from each month. So on and so forth as we move further along and eventually get all of our debt paid off.
I set up a quick spreadsheet to give me an idea of how quick our debt could be gone. Assuming that we only pay the minimum payments and aren't able to throw any extra cash flow or windfalls, tax returns for example since we'll be getting that shortly.
Using the minimum payments alone our debt will be gone in 44 months! That's a bit longer than I'd like, but keep in mind that this assumes we only use the minimum payments and roll them over to the other debts as we get some paid off. We should be able to make quicker progress by throwing tax returns and extra cash flow towards the debts.
While we'll be losing my wife's income in June the great thing is that we have two other sources of income besides my own day job. Thanks to past years of saving and investing we have a hefty portfolio that provides over $5k in annual income. I also have my side hustles that have steadily seen their income increase each year and I hope to push them up to $5k of additional income for 2016. That extra $10k will go a long ways toward getting us out of debt even quicker.
We aren't currently in the fiscal shape that we'd like to be; however, we know what our goal is and most importantly have a plan to get there. We're excited to have a plan in place to rid ourselves of these burdens. Even though I fully expect more curveballs to be thrown at us along the way we'll cope and adapt as they come up. Recognizing where you stand and where you want to be are the most important steps toward improving your finances.
I was recently introduced to Credit Card Insider, an educational resource that helps people understanding credit scores and what credit card is the right for them.
What plans do you have to improve your financial situation for 2016? Do you have any debts you need to pay down before you can resume investing?
Image provided by Sira Anamwong via FreeDigitalPhotos
Image provided by Stuart Miles via FreeDigitalPhotos