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Monday, December 14, 2009

4 ways to cut expenses

To achieve financial freedom, increasing income and cutting expenses must go hand in hand. There's no need to be a scrooge to cut expenses though. Below are 4 methods which we could employ to reduce our expenditures immediately.


1) Pay Yourself First

Many people like to spend first, talk later. The first thing they do with their monthly income is to spend before saving. Both committed and impulse expenditures come before everything else. Only what remains at the end of the month is saved. Usually, budgeted expenses don't work if expenses are placed before everything. Something else might just cropped up to cause you to spend whatever remaining you have, be it necessary or impulse expenditure.

The Pay-Yourself-First habit should be adopted. Take a fixed amount out of your income every month and put it into an investment or savings account.... then spend whatever is left. In other words, save before spending. As in the book "The Richest Man in Babylon", you won't feel much difference if you set aside a mere 10% of your income every month. Your life wouldn't be much different.

But doing this manually requires discipline! What if you don't have much discipline?

The easiest way to solve this problem is to make such savings automatic. The following could be done:

i) Get the bank to automatically transfer 10% of income into a savings account where it is not easily accessible.
ii) Buy an ILP/savings plan through your insurance agent and pay monthly through Giro.

Note: In Singapore, there's an option of buying the STI index through Philips Securities Share Builders Plan (SBP). This plan takes a fixed sum of money from your bank every month, and plough it into the index etf immediately. It's a form of dollar cost averaging.


However, if you have any debts, it would be wiser to take 10% of income to pay off part of the debt first, then the next 10% to savings/investment account. Finally, you can choose to spend the remaining 80% or save part of it as well. This is also a 'teaching' from "The Richest Man in Babylon".



2) Take charge of your expenses!

List down your expenses and study them. Try to identify where expenses can be cut. What may seem like a necessary expense could actually be cut at times; necessity is subjective sometimes.

You could be surprised that by doing so, you could eliminate expenses that over the long ter, will save you millions. Expenses that could be cut are

i) Impulse expenses, stuffs that we buy on impulse for instant gratification, after which would not make much difference to our lives
ii) Unnecessary expenses, i.e. buying things we do not really need, but buying just because it looks cheap.

With the power of compounding, the few extra hundred dollars you could save a month from reducing expenses will have a amazing impact on your future wealth. A $300 monthly savings would accumulate into >$300k in 30 years, assuming an average of around 7% p.a. The more you save, the more the power of compounding would work for you.

Try this out on an excel sheet to witness first-hand how powerful compounding such a small monthly could be.



3) Procrastinate in buying stuff

Before buying anything, always consider the opportunity costs. Do you think the stuff you are buying is absolutely necessary (subjective)? Would you regret getting it?

Consider your income as well. How long would you take to earn back the money you would spend on this stuff? Procrastinating here helps.



4) Buy discounts

We could save an additional 5% to 20% if we buy certain things only when there's a discount, or by buying in bulk, hence enjoying a mini economies of scale. Source for discounts if you can.

Example: I bought my protein powders recently with a nice discount to the selling price. I have managed to source for a consistent 8% discount after I discovered that one of my friends was the distributor of the products.

Another example: My mum buy clothes only after Christmas, after Chinese New Year and during the Great Singapore Sale since there are many discounts. She buys with a 6 months to 1 year horizon... Her new clothes (and mine as well) for the Chinese New Year has already been bought quite a long time ago, and stored neatly in the cupboard.

Note: The Chinese wear new clothes during Chinese New Year.



So, we have 4 simple ways here in which expenses could be reduced immediately. Although I mentioned procrastination in buying stuffs, do not procrastinate in cutting your expenses! Start now. It will only materialise if you take action immediately.

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