I use a savings snowball philosophy. In an earlier post, you saw my savings goals for 2011:
1. Max out my Roth IRA – done in early April.
2. Max out my Roth 401(k).
3. Bump my emergency fund up by $4,000.
4. Save $3,000 towards a car replacement in 10 years.
5. Save $20,000 towards a down payment on a house.
Maxing out my Roth IRA is the first priority. This means that all available savings room each month and on each bonus goes towards maxing out my Roth IRA until that’s completed.
Maxing out my Roth 401(k) happens each month – I calculated the percentage of my gross income that needs to be saved each month to do that, set that number on my 401(k) custodian’s site, and left it alone. (Well, except when I got a raise – then I was able to lower that percentage a bit to still max it out over the course of the year.)
I want to have the savings to buy a house in 2015. Now, I don’t know if I will actually psychologically want to buy a house or not, but I would like to have the funds there just in case. Before I buy a house, I want to have a 12 month emergency fund. My emergency fund is $16,000 short of that, so each year for the next 4 years, I will snowball $4,000 into my emergency fund.
I want to buy a new car in 10 years, so each year I will snowball $3,000 towards that. That way, when it is time to replace my car, I will be able to pay cash. Also, at $3,000 per year, if I need to replace my car in 7 years, then I could buy a $21,000 car.
My last goal is to save for a down payment on a house. This goal is last because it has a more flexible time limit on it than the other ones. For example, if you don’t max out your Roth IRA or 401(k) in a year, that contribution room is gone. That is not the case with my house down payment fund. I am also flexible on the time frame when I will actually buy a house.
Why a savings snowball?
You might be asking, if I have the income to save this much each year, why would I do a savings snowball instead of putting $X aside per month for each of the goals.
Well, just like people trying to get out of debt, I like being able to cross amounts off of a list and say that I am done for the year!
I get about 20-30% of my year’s gross income in irregular amounts and dates. My monthly budget is less than my monthly net income, but considering that you take the 401(k) contributions off my paycheck, that doesn’t leave a lot of savings room each month.
It is nicer psychologically and easier to track if I am (mostly) only putting savings towards one goal each month. Then, when I see an irregular amount of income on an irregular date, I can throw all of it at the goals that haven’t been crossed off the list yet and in the process, hopefully cross off one or two goals.