I recently responded to a post by Jane from Cash Fasting. If you haven’t read her blog, check it out. There is a lot of fantastic content, and you’re bound to learn something new. She was summarizing goal progress for Q1, 2017. She has many financial goals that she is trying to accomplish at once. This sounds very familiar to people who have many debts that they are trying to pay off at once. Unfortunately, it can be very difficult to accomplish several savings goals at the same time. This got me thinking, why don’t we apply the same strategies that we use to pay off debt to achieving financial goals?
The Debt Snowball Method
We’ve all had problems paying off our debts at some time or another. I’m still paying off my car loan. I had to pay off $15,000 in student loans. Some people have student loans, car loans, credit card debt, and mortgages to pay off. Managing all of these payments is not trivial. If you are lower income, you have probably felt like you will never escape from your debt. You’re lucky if you can pay your debt minimums and put food on your family’s table.
The Snowball method helps solve this problem. Basically, you pay the minimums on all of your debts. Any additional money goes towards the smallest debt. Once you pay that off, you take the extra additional money plus your old monthly payment, and apply it towards your next smallest debt payment. In no time, you’ll be completely paying off your debts. In fact, this is the the best way to pay off your debt. But is this strategy only for paying off debt? What if we use this optimization and apply it to our savings goals?
The Savings Snowball Method
The Debt Snowball method really helps many people escape from their debt. Yes, it is technically sub-optimal when you compare it to the Avalanche method; however, it compares well when you look at overall success which is what we should care about. Why shouldn’t we apply this to our goals? Can we actually treat our savings goals like debt, and optimize achieving these goals quickly while maximizing success? Let’s run through an example.
Let’s meet Alice. Alice has 4 primary financial goals:
- Add $3,600 to her emergency fun
- Save $1,200 in her Roth IRA
- Pay off $4,800 in credit card debt (at 0%)
- Pay as much as possible of their mortgage off
These goals are very common to most households. Everyone can probably have a bigger emergency fund, contributing to retirement is important, most people have credit card debt, and paying off a mortgage can help out your cash flow. Looking at these goals, Alice needs to save $9,600. This is $800 a month, a very tall order!
Luckily, Alice can afford this, but barely. After paying off all of her necessities like food, she contributes the minimum to each of these goals, with a little bit extra each month. This means $300 a month for her emergency fund, $100 a month for her Roth IRA, $400 a month towards credit card debt, and $0 additional towards her mortgage. If she sticks to her plan, she will hit her goals. As we all know, sticking to a financial plan is difficult. Little things always come up to sabotage your plans.
Let’s say that Alice has an extra $100 per month in spending money, and she receives an additional $100 a month in bonuses from work. She decides to take this $200 extra per month and throw it at her Roth IRA. This means during the first 4 months of the year, she will put $300 a month towards her Roth IRA which means she will accomplish her goal by the end of April. For May, she takes this extra $300 and throws it at her emergency fund, which she is now contributing $600 a month. A few months later, she will pay off her emergency fund early and now throw the additional $600 towards her credit card debt. This also gets paid off before the end of the year. Now, there is a month or two left in the year, and she can contribute to her fourth goal of paying extra towards her mortgage. She will be able to pay an extra $2,400 towards this.
Save More, Faster
This is the exact same strategy that you use with the Debt Snowball method. You “choose your battles” and pay off the smallest debts faster, so all of the good feelings associated with success push you to work harder. This directly applies to your financial goals. Alice definitely felt great about achieving her Roth IRA goal, and she was able to use this success to push her to achieve her next goal. In addition, it lets you pick harder goals. If you don’t believe this, consider the following: would you rather accomplish 1 goal every 2 months for a year, or accomplish 6 goals on the last day of the year? If you accomplish smaller goals every other month, it is very easy to keep going. If it takes you an entire year to achieve any goals, well, we all know how those New Years Resolutions go.
I’ve actually been doing this for awhile, I have minimum contributions for my house down payment fund and Roth IRA. Extra money goes towards my Roth IRA, and I’m going to max it out by the end of summer. I’ll use this extra money to supercharge my house down payment savings. Would you be willing to try out the Savings Snowball method to help achieve your financial goals? If you are, let me know and I can help you prioritize where you should direct the additional savings.