Winning the Lottery WON’T Solve Your Money Problems
Dear Rich Lifer,
There are three things you should never do if you win the lottery…
- Talk to the press.
- Take the lump sum.
- Quit your day job.
However how many jackpot winners follow this advice?
According to MIT, lottery winners are more likely to declare bankruptcy within three to five years than the average American.
The reason why so many jackpot winners go broke is because their relationship with money before their windfall usually sucks.
If you want to know how you would handle winning the lottery or even getting a raise – look at how you handle the money you have now.
Lots of people think, If only I made a bit more each month, everything would be better.
The truth is, generating more income won’t always solve your money problems.
More often than not, this is what happens…
A family living paycheck to paycheck with barely anything saved, comes into money.
Suddenly it feels like all the financial stress is gone. But slowly, new expenses start popping up under the notion that “we can afford this now.”
Expenses like more subscriptions, more expensive bottles of wine, more frequent phone upgrades, more expensive gifts etc.
After a few months of living like this, the family is back to barely making ends meet and nothing to show for in savings.
My point is that no one is immune to lifestyle creep.
However, the best way I’ve found to deal with it is something called reverse budgeting.
Reverse Budgeting 101
Reverse budgeting is based on the philosophy that to grow your net worth, you have to spend less than you make.
And in order to do that, you should be focused on saving rather than cutting your expenses.
You’ve heard the expression, pay yourself first. That’s reverse budgeting in a nutshell.
But surprisingly, it’s easy to mess up. Here’s how to set up a reverse budget – the right way.
Step 1: Do the Math
Figure out how much you need to save each month to reach your financial goals.
Start by writing down your short-term (five years or less) financial goals, the date you want to complete them by, and the expected cost.
Next, add up the expected costs of all your goals and divide by 60 (12×5). This will determine how much you need to save each month to achieve your goals.
After you do this, number your goals based on priority. This will give you a rough idea of where your savings will go over the next 5 years.
|Priority||Goal||Date of Completion||Expected Cost|
|1||Max out Roth IRA each year||$5,500 every year||$27,500|
|3||Pay off line of credit||June 2020||$10,000|
|2||Build emergency fund||May 2020||$6,000|
|4||Save for down payment on investment property||December 2023||$25,000|
|Total expected cost over five years||$68,500|
|Required monthly savings||$1,142|
Step 2: Automate the Savings Process
Most banks allow you to set up automatic transfers from your checking account to a designated savings account.
The withdrawal amount should equal your monthly savings goal you calculated in step one. Once the automatic transfer is set up, you’re done.
Now you can spend what’s leftover as you please. This is where the flexibility of a reverse budget comes in.
Rather than allocating dollars to various expenses every month, you can spend based on what’s important to you that specific month.
Most of your fixed expenses will stay the same but your variable expenses will be the ones you have to choose.
A question I get a lot is what if I can’t meet my monthly savings goal?
Two things you can do:
1) Reassess your goals and make sure they’re essential to what you want
2) Set up escalated automatic savings, which I’ll explain in our next step
Step 3: Escalate your Savings over Time
Here’s how this works: Let’s say you take home $5,000 per month after taxes. You calculate your monthly savings goal to be about 10%, or $500.
Losing $500 per month from your lifestyle won’t go unnoticed. So rather than force yourself to adjust your lifestyle immediately, you’re going to gradually increase your savings over time.
You can set up escalating automatic withdrawals from your checking to your savings account for as many months as you need.
For example, in the first three months, withdraw $50, the next three months $100, then $200 until you reach your $500 goal. This will adjust your 5-year timeline so keep that in mind.
But it’s a lot easier to adjust your lifestyle accordingly when it’s less of a shock.
If you follow these three steps the way I’ve laid out, it will force you to re-evaluate your monthly spending. Without realizing it, you’ll become more frugal because you can’t spend what you don’t have.
This is the power of the reverse budget.
There’s nothing wrong with wanting to make more money, in fact, I encourage it. But fix your relationship with money first so you don’t lose whatever you make.
To a richer life,