My first introduction to savings and
investing was watching my parents manage the envelope system. The process
was simple; divide your take home pay into three parts: savings, room and
board and spending. Each expenditure would be put into separate envelopes,
and deposited into a passbook savings account, a checking account, or left in
the envelopes to be used for specific expenses. Many families managed their
personal finances by using the envelope system. If you tried spending beyond
the amount in the envelope, the items just went back at the cash register.
If you did overspend, you had to redistribute the cash in the remaining
envelopes. It was a zero sum game. Using your savings was discouraged, since
that was rainy day money, for college funds and for keeping you out of the
poor house when you became old. The system worked well; it was a disciplined
approach to savings and spending.
Prior to the past one or
two generations, the majority of seniors who lived beyond their working
careers found that old age meant living in substandard conditions. Life was
not fun for them and living in poverty was miserable. No one wants to go
back to those days! That is why social security was started. Currently, the
newscasters and lawyers are preaching that the social security system is
broken and benefits will not be available to you when itís your time to
collect. That is not true! If you paid into social security, you will
receive your benefits! At the end of the day, the government controls the
treasuryís printing presses, and they will just print more money if
necessary. We are the wealthiest country in the world, and the government
will honor its obligations! Social Security, however, was only created to be
a safety net to prevent seniors from living on the streets and dying of
starvation; it was not created to make you wealthy.
While this website
discusses many more modern and sophisticated financial planning concepts,
the principles behind the envelope system hold true today. High school and
college graduates need to establish a pattern of regular savings. Taking a
portion of every paycheck and saving it, is the key for financial wellness.
People are motivated to save for a variety of reasons: A car, engagement
ring, wedding, vacation, house, furniture, college, retirement, whatever.
There are a few financial concepts that are critical to understand. First,
as mentioned above, itís imperative to establish a program of regular
savings when youíre young. Second, time is on your side. For young adults,
the time value of money works in your favor. You probably have seen the
banking advertisements: if you save $2,000 per year for 50 years, at 8.0%,
you can retire with $1.1 million. Third, you also need to understand the
differences in investing in a pretax or after-tax mode. There are
substantial penalties for withdrawing savings from tax deferred accounts. If
you have a short-term need, for instance, to buy an engagement ring, savings
in after-tax dollars is preferred. If youíre saving long-term for
retirement, then a pretax account is recommended. Some planning is involved.
Young adults should start saving now, and get into the habit of paying
themselves first. Itís imperative that you develop an additional cash flow
that will supplement social security when retiring. The envelope system was
so popular because its underlying financial principles worked. The savings,
living, and spending model is still sound financial management. Enjoy the
remaining sections of this website, but
remember, finance is a life long study.