Episode #41: The Pay Yourself First Rule
Tell me if this sounds like you. When you get paid, your bank account feels flush, but then some of your money goes to pay your landlord, some of it goes to the utility companies so you can have water, heat, internet. Some of your money goes to the grocery store so you can eat, some goes to the bar so you can socialize, and bit by bit the money that you earned goes to all these other people so that you’re left with nothing else in your bank account. Maybe if you’re lucky you have a little bit of money leftover each month which slowly builds up to a point that you decide you’ll pay it to an airline and an air B&B host so that you can have a vacation. Then you’ve gone right back to living paycheck to paycheck again. At the end of the day YOU never actually get paid for the hard hours of work you put in, because there’s no money leftover for you to keep. You’re just the funnel that this money flows through to other businesses and other people who get to keep more of this money than you do. And that just doesn’t seem right or fair, to you.
And you’ll say ‘but I have to spend that money in order to live, I need a home, I need food, I need to take a vacation’. And this is completely true, you do need these things, BUT there’s another thing we all need to live a happy and healthy life, and that’s financial security.
Having financial security is another necessity of life, just like food and water and shelter and rest. It makes you healthier and happier. It helps you sleep better, and stress less, and make better decisions with your money that improve your overall health and well being. And even though we’re not taught to need and crave this the same way that we’re taught to need and crave vacations, it’s a fact of life that having financial security hugely improves your overall well being, and by continuing to live paycheck to paycheck and never paying yourself first, then you’re denying yourself this very important need to have financial security.
Paying Yourself First
So, how do we fix this? This is where we start to talk about a concept called paying yourself first.
Paying yourself first is the first thing you need to learn how to do, in order to start creating financial stability and financial freedom for yourself. Paying yourself first means that when you get a paycheck the first thing you do is to pay yourself a percentage of that paycheck. This means you save it for your future. You don’t save it for a vacation, you don’t save it for going shopping, you save it for yourself and your future. Starting to build the habit of paying yourself first is the only way that you’ll ever be able to achieve financial freedom. It’s also the only practice that will ever help you buy a house, start a business, start a family with some financial security, and any of those other live events that you want to take part in.
Learning to pay yourself first is what’s going to make every other aspect of your life financially possible, so it’s the first thing that you need to learn how to do.
Some tough love about paying yourself first.
Now, here’s where I need to share some tough love with you. The objection that everyone has to paying themselves first is this. ‘But I barely have enough money to make it month to month as it is. How am I ever supposed to save a consistent percentage of my paycheck to pay myself first. This just isn’t possible for everyday people, I can’t do it’. BUT there’s something magical about this statement, and that’s that almost everyone believes this no matter how much they earn. People who earn minimum wage say this, and people who earn multi 6 figure salaries say this. No matter how much you earn now, and how much you earn in the future, if you don’t start the habit of paying yourself first now, while you don’t think it’s possible, then it will almost never be possible even if you become one of those six figure salary earners in the future.
Think about how many lawyers, or bankers you hear complain about how much they hate their jobs. How much it sucks their soul dry to show up at the office each day. But, they don’t quit and find something that makes them happy, because they can’t quit. Even though they’re earning massive salaries, they’ve created a lifestyle that sucks their paychecks dry just like you. And no, I don’t want you to sit there playing your tiny violin for the lawyers with their huge mortgages on their huge houses. This isn’t about them and what they earn and spend, this is about you, in the nicest way possible. It’s about what YOU earn and the choices that YOU can make to start paying yourself first and changing your financial situation.
Okay, so tough love speech over. Now we’re going to walk through how you can start building the habit of paying yourself first. We’re going to talk about how you can start doing this without suddenly depriving yourself of all the fun things in life, as well as what you should start to do with the money that you’re paying yourself with because just keeping it in a savings account isn’t actually going to do you much good.
My experience with paying myself first.
I have always, for my entire adult working life, paid myself 20% first. I started doing this in my early 20’s, and now I’m 29. This means I’ve saved a sizeable nest egg, and a lot of it is safely invested. What this means for my future is that when I run my numbers conservatively at a 6% rate of return, continuing to save and invest the same amount that I am right now from that one business, I’m set to have over $2.5 million dollars by the time I’m conceivably going to want to slow down my work at age 60. That’s incredibly powerful knowing that comes from just a few years of using my system of paying myself 20% first. And that’s just my very modest version of this story, I’m not making millions of dollars, I don’t have any sort of grand inheritance, I’ve just paid myself first for years and it’s created huge freedom for me in terms of my lifestyle and career both now and going forward.
The secret to paying yourself first
Now, I want to let you in on a little secret that I’ve discovered over the past 7 years of doing this. Since I started my first business, my profits have steadily and significantly increased every single year (apart from Covid, obviously that sucked butts). No matter what my income level is, I have always paid myself first with that 20% . And the secret I’ve discovered is that it was easier to pay myself first in the beginning when I was earning less and had more modest lifestyle requirements than it is now. When the business was young and making less, I was also young and needed less. My lifestyle was much more simple and had much lower costs. Now that I’m getting older, the costs of my wants and needs have gone up. I’ve added lifestyle costs on, like a mortgage, investing in better food, wanting to spend more on nicer pieces of clothing instead of shopping at value village all the time like I did when I was young. All of this adds up to make it easy to want to cut back on your savings rate, and spend a little more on your life.
This is the exact opposite of what most people assume will happen in their lives. They assume they’ll get older, earn more money, and then have an easier time saving money. Unfortunately that’s not true, and that’s what keeps people from ever getting started with this, especially young people at the beginning of their careers who expect to be earning way more in their 40’s than they are in their 20’s. While it’s true that you will probably earn more money in the future, your lifestyle costs will also increase. Life gets more expensive as you get older, as you need a car, and a house, and start having a family, and want to take your kids on vacation. If you don’t start building the habit of paying yourself first now, it’s most likely not going to happen when you’re older because it’s going to be harder.
How to start paying yourself first if it seems impossible.
If this concept is massively intimidating to you, don’t worry. If you have no idea how you’re going to accomplish saving 10% or more of your income when you have precisely zero dollars left at the end of your pay cycle, don’t worry. It will be possible, and here’s what you’re going to do. You’re going to break it down and start small. Start with less than 10%, start with 1% if that’s all you think you can manage, and just start the habit of paying yourself first with that 1%.
Once you get used to paying yourself first with that 1%, then increase it to 2%, from there move to 4%, then 8%, then 10%. You’re not going to miss that 1% of your money, and once you’re used to doing that, then you’re also not going to miss the additional 1, or 2, or 3% of your income. You’ll naturally adjust to living on a little bit less as time goes by, especially if you follow this next step and automate your savings rate so that you don’t see that money sitting in your everyday spending account, and therefore aren’t tempted to spend it on starbucks, or sweaters, or even more toys for your dog.
Automating your system
Let’s be honest with ourselves here, most people suck at being diligent. Consistency and sticking with things aren’t really strengths of human nature. This is why so many people struggle with fitness, or healthy eating, or starting a business, because everyone gets excited about these things and starts off strong, but the follow through is lacking.
So, when it comes to getting started with this routine of paying yourself first, don’t plan to rely on flexing your diligence muscle to make it happen. Set yourself up for success and automate it. Making it easy on yourself and automating it is the only way to make this happen unless you have some superhero diligence muscles and your kryptonite isn’t ‘being too tired’ like the rest of us mere mortals.
If you earn a traditional paycheck, then automating it is really easy. All you have to do is calculate what percentage of each paycheck you want to save, and set up an automatic bank transfer for that amount of money to be taken out of your account and transferred into your savings account every single time you get paid.
If, like me, your income is variable because you run a sole proprietorship or you currently work in the gig economy, then you’ll have to do it manually, but turn it into a system that you follow every single time. For example, in my wedding photography business, every single time I deposited a payment I immediately logged into my online banking and transferred 20% of that straight to my savings before I did anything else. The key here is to never let that money sit there waiting to be transferred, because honestly that’s the same as letting it sit there waiting to be spent.
So, start small and plan to increase your savings rate over time, automate your savings system so that human nature doesn’t fail you, and then you’re ready to move on to the final step of this paying yourself first process which is getting your money to work for you.
Making your money work for you
So, you’ve started paying yourself first and the dollar amount in your savings account is growing. That’s awesome, but now what? To answer that question, we’re going to look back at my story about paying myself first. I shared with you that if I’m super conservative with my growth estimates and never increase my savings rate beyond where it is today at 29 years old, I’ll have over $2.5 million dollars saved. Now, dollar for dollar, I’ll never save this much money by doing this. In fact I’ll barely save even a tiny fraction of $2.5 million dollars, I just don’t make that volume of money. The way that I’ll get this much money, is by investing the money that I do save into the stock market, and letting it grow.
Now I’m a fan of classic stock market investing techniques, but this isn’t an episode where I’m talking about investing principles, so I want to acknowledge that there are other ways of earning returns on your money. The key idea to understand is that in addition to paying yourself first, the way that you start to achieve true financial freedom is to learn how to make your money work for you.
So you can decide how you want to make the money that you’re saving go to work for you. But I’ll give you a few examples of what I’ve chosen to do with my ‘pay myself first money’ over the past few years. When I first started paying myself first, a significant portion of my savings went towards building up an emergency fund so that I was safe and secure. This fund is in a high interest savings account where it earns hundreds of dollars a year in interest. Some of my savings has gone into the stock market where I’ve bought fractions of companies that are using my money to actively work and grow and turn my money into more money so that I earn returns from my investments. Part of that savings rate went towards buying our first real estate asset which has already appreciated a huge amount since we first bought the home, meaning if we were to sell it tomorrow we’d make significantly more money than we paid for it.
You’ll notice that all of these examples include making my saved money grow. These are all examples of how paying yourself first allows you to have money that you can then put to work so that you can earn more money. And this is how wealthy people become more wealthy every single day, because their dollars are working and earning them more dollars. This is the final step to take in your paying yourself first plan, and this is what will allow you to achieve actual, real financial stability and financial freedom for your future.
So, I want to do a quick recap of what we’ve just covered because this is important. I recommend grabbing a pen and maybe writing this down, because this framework is going to be very helpful for you to follow.
The paying yourself first blueprint
Start by deciding to pay yourself first no matter what and stick with this.
Decide what portion of your income you can afford to save. Try to increase this percentage over time, with the goal of eventually saving 20% or more of your total income. A
Automate this process so that your money gets saved automatically without you having to remember to log in and do it, because nobody’s got time for that.
Choose to put your money to work for you so that your dollars start to passively grow into more dollars.
Sit back, continue to pay yourself first, and watch as you slowly shift from living paycheck to paycheck to becoming wealthy.
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