The following is adapted from “Your Money Vehicle.”
If you look back at the past week, can you name five things that you used money for?
Your list probably includes bills, a trip to the grocery store, and hopefully something fun. Maybe you got coffee with a friend or went to dinner with your significant other? You may have bought something online, or paid for another month of Netflix, and before you know it, the end of the month arrives and you haven’t met your savings goals.
What happened?
Many people spend money without thinking too much about where it goes. They spend mindlessly. But if you break down how your paycheck is spent, you’ll find that every dollar you earn usually ends up in one of five ‘Money Buckets’: Society, Past, Present, Future, and Compassion.
Let’s take a look at what each of these five buckets means and explore how you can use this straightforward system to manage your money.
Bucket #1: Society Choice
What’s the very first place your money goes after getting paid? To the government in the form of taxes. They’re likely even automatically deducted from your paycheck before you ever touch it.
Taxes are the cost of protecting and caring for everything between what you own and what everyone else owns. You may be asking if paying taxes is a choice or a law — well, yes, it is a law, but the choices you make decide how much you will pay and when you will pay them. For example, which deduction you choose, or which tax vehicle you use can determine how much you end up paying.
Paying taxes may not be fun, but think about all the things that taxes provide — emergency response from fire and police departments, repair of the roads that you drive on, funding of public schools; and many of the other services you use every day.
Bucket #2: Past Choice
Anything you know will be due even before the month even begins, is called a fixed expense. These expenses are decisions you have made in the past and regardless of what you do throughout the month, they will be due.
For example, every month, you can count on needing to pay rent or your mortgage, pay off your credit card statement, and pay bills for services like electricity, phone, and insurance. No matter where the rest of your paycheck goes, past choices are all but guaranteed expenses every month.
Bucket #3: Present Choice
Every day, you are faced with hundreds of choices, many of them involving how you are going to use your money. The choices that you make throughout the month are called variable expenses (as opposed to fixed expenses).
These expenses will rise and fall depending on your choices throughout the month. For example, will you bring your lunch to work or go out? Will you go to the movies this weekend or stream one at home? Will you buy new jeans or wear an old pair?
Tracking your present choices — that is, how you spent money today and when you chose not to spend money — will provide clarity as you get a grasp on where your paycheck goes.
Bucket #4: Future Choice
As mentioned earlier, many of us get to the end of the month, wonder where our money went, and then suddenly scramble to try to hit our goal of saving or investing. We end up looking at the choices we made throughout the month and wish we could take some back. But what if you could hit your goal first, and then go make your monthly decisions?
There are two ways to fill your Future Bucket:
- Saving: Protecting money you want to use for a specific purpose over the next one to two years.
- Investing: Putting money to work that has a long-term time horizon of three-plus years.
This bucket starts by filling up your Future Bucket with an emergency fund. This fund will cover your living expenses for a three to six month time period. This account is like having a spare tire in the back of your money vehicle; it will prevent a flat tire from ruining your trip. Look no further than the pandemic to see why this fund is so essential!
Bucket #5: Compassion Choice
Last, but not least, you have the Compassion Bucket, which is money you spend on others — for example, through charitable giving.
Research shows that when you spend money on others, you create social connections that will lead to greater happiness throughout your life, which is why the Compassion Bucket is also known as the Happy Bucket.
Today, you may not have the means to fill this bucket with your treasure (money), but instead, you can fill your Compassion Bucket by giving your time or talent through volunteer work. Just find something you are passionate about, and get involved.
The Money Bucket Strategy
Your next question is probably going to be “how do I divide my money into the five buckets?”
How you use your money is your choice, but the high-level strategy I recommend for young people breaks down like this:
- Future: 10% of your income
- Society: 25% of your income
- Past: 30% of your income
- Compassion: 1% of your income
- Present: 34% of your income
You’ll notice the order changed!! Pay yourself on the back first, even before taxes make sure you are taking care of your financial future. If you don’t, no one will.
Now, let’s assume you have a $50,000 annual income. You would spend $12,500 every year on Society Choice; $15,000 on Past Choice; $17,000 on Present Choice; $5,000 on Future Choice; and $500 on Compassion Choice. Simply apply the percentages listed above to your actual income to find your personal targets.
Now that you understand the five Money Buckets and how your paycheck fits into them, you’ll never again hit the end of the month and wonder where your money went. Instead, you can proactively choose how to fill each bucket and prioritize your money management.
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