How to Save: The Capital Elements “Savings waterfall” approach and the ultimate guide to help your journey towards becoming a world-class saver.

Managing your expenses and creating a savings plan are crucial for achieving your financial goals. Whether you’re looking to save up for a down payment on a home, pay off debt, or save for retirement, having a savings plan can help you reach your objectives faster and with less stress. This blog will explore a step-by-step approach to managing expenses and creating a “savings waterfall” that prioritizes your financial goals.

Non-Discretionary Expenses

The first step in managing your expenses is to identify your non-discretionary costs. These are the non-negotiable monthly expenses, such as rent or mortgage payments, food and groceries, essential services like utilities and insurance, and any payments associated with income-generating activities. Identifying these expenses first is critical, as they are necessary to maintain your living standard.

Retirement Contributions

The second step in managing your expenses is to evaluate your retirement contributions. If your employer provides a match for retirement account contributions, target contributing the maximum amount eligible for an employer match. This can help you maximize your retirement savings and take advantage of free money from your employer.

Emergency Fund Account

The third step in managing your expenses is establishing an emergency fund account. Aim to contribute until there is cash to cover at least six months of your expenses. This should be a separate account, not used for any monthly payment that is recurring or an impulse purchase.

Debt Repayments

The fourth step in managing your expenses is to evaluate all personal debts and develop a payoff strategy. Identify the all-in cost of each debt and list the obligations in terms of expense (cost of debt). Then create another list ranked on the size of the debt.

• Speak to all debt providers and get an agreed-upon minimum monthly payment amount without additional charges or fees.
• Make the minimum payment.
• Once you make the minimum monthly for all debts, you can use the avalanche and snowball methods to pay off your debts.
  • The avalanche method involves paying additional available amounts to the highest-cost debt. In contrast, the snowball method involves paying additional available amounts to the lowest amount debt.

HSA/HSBA

The fifth step in managing your expenses is considering contributing to a Health Savings Account (HSA) or Health Savings Brokerage Account (HSBA) if you have a High Deductible Health Plan. Contributions made to an HSA account have what is known as the “triple tax benefit.” This means that tax contribution is deductible in your year of contribution, growth in the account is tax-free, and there are no taxes on distribution for qualified expenses.

• Qualified medical expenses are pretty comprehensive and one of the most common financial expenses incurred over one’s lifetime, so it’s worth looking at the possibility of making the possible contribution.
• The HSA contribution limits for 2023 are $3,850 for self-only coverage and $7,750 for family coverage. Those 55 and older can contribute an additional $1,000 as a catch-up contribution

Outcome-Based Investment/Saving Strategy

The sixth step in managing your expenses is to develop an outcome-based investment/saving strategy. Start by identifying the near and medium-term “outcome” based goals. For example, a young couple renting might have “homeownership” as a medium-term goal. Financing the college education of your children can be another goal.

• Identify the retirement needs of yourself and your spouse. Do a rough calculation of the life expectance and calculate the expenses you will have in retirement. Estimate social security and/or other retirement income you are eligible for and estimate the “gap” you will need to fund with investments.
  • We suggest looking at various costs through three stages of retirement names “go-go,” “slow-go,” and “no-go.” Estimate social security and/or other retirement income you are eligible for and estimate the “gap” that you will need to fund with investments
• Now, gain an understanding of the “Tax Buckets.” There are three main that cover tax deductibility in the current year, tax deferral of growth components and the treatment of distributions, and the type of tax applicable (Capital Gains or Ordinary Income)
• Once you understand the above and estimate the various goals devise a strategy to invest.
  • If retirement savings are a priority – Maximize the contributions to retirement accounts with tax advantages. Suppose you feel the US fiscal policy will increase taxation over time. In that case, we recommend speaking to an investment professional about structuring a “Back-door Roth IRA” strategy to minimize tax on the distribution.
  • Suppose retirement income is not the main priority. In that case, you can devise a strategy to save/invest in getting the outcome of your goals. There are various solutions for college funding, and a detailed plan with an appropriate account is recommended. Taxable brokerage accounts or pure savings mechanisms can be structured for other goals.

Risk Management Framework

Protecting your assets and income is critical to your overall financial plan. It is crucial to have appropriate insurance coverage to protect yourself and your family from any unforeseen circumstances that may arise. Here are some key considerations when it comes to risk management:

• Home and Auto Insurance: Adequate insurance coverage is essential to protect your assets in case of an accident or damage to your property. Make sure you have appropriate coverages in place for your home and vehicles. An umbrella policy that covers all potential liabilities is also recommended.
• Disability Insurance: Your ability to earn an income is your biggest asset, and a disability can significantly impact your financial security. Review the disability coverage available through your employer and understand the benefits available to you in case of a disability. If you are in a specialized industry with specialized skill sets, consider getting a comprehensive disability policy.
• Life Insurance: Life insurance is a financial tool to protect your loved ones in case of an unexpected demise. Consider the various financial goals you have to fund until retirement, and based on your budget, get an appropriate cover. Term Life is the cheapest form of life insurance. We recommend getting a policy to cover the expenses of your spouse’s life until your children reach the age of 24 so the family’s finances are secure.
• Medical Coverages and Long-Term Care (LTC) Insurance: Medical expenses and long-term care needs at an older age can be a significant financial burden during retirement. Understand expenses not covered by Medicare/Medigap and consider getting an LTC policy at a younger age to receive additional benefits.

Structured Solutions

Once you have covered the basics, you can look at more structured investment solutions at a retail level. These solutions can help you diversify your portfolio and potentially achieve higher returns. However, remember that these investments typically come with higher fees and risks.

• Accredited Investor Status: Once you reach a particular net worth and income threshold, the IRS classifies you as an accredited investor and makes you eligible to participate in a broader range of private investment classes. Currently, the net worth requirement excluding primary residence is USD 1mn, and the income requirement is $200,000 (Individual) or $300,000 (With Spouse/Partner).

Overall, creating a savings waterfall is a comprehensive approach to managing your expenses and saving for your financial goals. It requires discipline, planning, and ongoing evaluation of your financial situation. By following these steps, you can create a financial plan that is tailored to your needs and helps you achieve your long-term financial goals.

Remember, it is never too late to start saving; every little bit counts.