The Best Resource For Serious Budgeting: YNAB Review

Remember the song from the 90’s entitled, I Wanna Be Rich? The chorus about sums it up for most people, “I want money, lots and lots of money!” Having lots and lots of money isn’t always about earning lots and lots of money, it’s about using your money the right way. You can never earn more than you can spend. Using a budget in your personal finances can help you have more of the money you earn, instead of spending every dollar you make and living pay check to pay check. There are a lot of different personal financial management tools to help track spending, like Personal Capital and Mint. In this review I will cover a tool that is a little bit different because its focus it puts the budgeting process first and the tracking of expenditures second. While there are a few different budgeting tools, YNAB (You Need A Budget) is the one that has the tightest focus on what its niche.

Budgeting

I know most people hate the word Budget. Well, OK, so there are the financial planners and accounting geeks that are enamored with budgets, but for most people it sounds constricting and makes us want to immediately break free of any chains that it might use to tie us down. Honestly, I don’t love budgeting, but it is an essential aspect of any financial plan and I recognize that with a budget frees you from the bonds of debt and living paycheck to paycheck.

A budget can be something as simple as a piece of paper with your inflows and outflows on it, columns for categories and rows for goals. Another way to keep track of your money is through spreadsheets. I have used Excel for many years to keep track of our bills and expenditures. But merely keeping track of how you are spending your money isn’t budgeting. Because we are all “plugged in” so much every day and everything can be linked together, online budgeting tools are becoming better and better and more popular.

YNAB’s Four Rules of budgeting

Many online budgeting sources use phrases such as “create your personalized spending plan.” Focusing on how to spend your money will never help you have “lots and lots” of it. It’s bad advice. YNAB redirects you and teaches you four basic rules that change your spending and improve you budgeting.

1. Give every dollar a job

2. Save for a rainy day

3. Roll with the punches

4. Live on last month’s income

If your money has a job then it is working for you instead of controlling you. Don’t be fooled; budgeting is work. YNAB is a great program but takes time and effort to keep it updated. There are automatic filters built into the program that can help allocate your spending quickly but for the first month or two you have to really consider it a part time job and keep up with it in order for those filters to work correctly thereafter.

How it works

Getting an account with YNAB is pretty fast and easy. It is a program you buy and download for $60. However, if you are not sure you want to commit to it or if you are even going to like it, they have a free trial period that lasts for 34 days. It’s a really good offer. You can set up your account and get your budget rolling and decide after the first month if it’s going to be a good tool to help you manage your personal finances better.

Setting up your account takes time

Getting an account and setting up your account are two different matters. Plan on it feeling a bit time consuming for the first month or two. That is usually the part that scares most people off. “I don’t have the time to budget” they say. But they want more money. So maybe they consider getting a part time job. That would bring in more money, but in the end I guarantee they won’t feel like they have more money. Instead, if they learn to budget, save and invest their money it will be like the money is working the part time job instead.

Getting Set up with YNAB

After downloading the program, or signing up for the free trail at YNAB.com, there are a series of videos that clearly help walk you through the process. They also have emails they send you for the first week that help you in the beginning. They make the videos as interesting as possible, but honestly, this is budgeting that we are talking about, and so during this process my mind began to wonder a bit. Overall, the videos were very good but when I went to enter my data and set up my account, there were many questions that came up that I have to figure out and it took me several hours, but I didn’t let it stop me.

How to Start

YNAB tells you to start from where you are today. Don’t go back over past receipts, bank statements, etc. That will just be busy work. Start from where you are right now and move forward. What you do is you enter in your financial accounts first (bank accounts, credit cards, etc). Some online budgeting/money tracking sites, such as personalcapital.com, will allow you to link your bank accounts, credit cards, etc. to their site quite easily. YNAB does too, but it’s not as easy.

After you’ve set up your accounts you go through and create a budget by using either their preset categories and/or adjusting the categories to fit your life. You do your best to try and look ahead at what you are going to need that month in certain categories (ie…is there a holiday or birthday or special weekend that is going to cost more than your average week costs?) You set a budget on all your categories and then you try and stick to your budget.

Rainy Days

They have a section called your “rainy day” accounts which is where your money starts working for you. If you have money saved little by little throughout the month/year then when you have to spend money on a bigger purchase or repair, you will have money in your account and not have to pay a bank or credit card company to use their money. Your money is essentially helping you so you never have to pay interest, thus saving you a lot of money.

Throughout the month

As the month progresses and you make purchases, you record them and correctly categorize them to track the money correctly. Although part of YNAB is giving your money a job and letting it work for you, your biggest job is to stick to your budget.

Wants and Needs

It’s important to be able to distinguish between wants and needs. This is the biggest problem with people and their consumer debt. You see the latest Best Seller or a great pair of shoes that would go perfect with that new outfit. When trying to have more money by budgeting, you have to always be asking yourself, is this a need or a want? If you are always spending your money on your wants then you will never have money for your true needs, like that hospital bill or car repair. You will have to pay someone else to use their money to cover those needs and you will never have financial freedom.

The Dump System

One unique thing about YNAB is what I like to call the Dump System. When you go over your budget in a certain area, the program will take money budgeted into other categories and give it to the overspent category. That way, throughout the month, you will always see how much you have left to spend before going over budget overall. It dumps money from one category into the next if you haven’t been careful or if there has been an unseen expenses.

There’s an App for that!

Conveniently, YNAB has a free app that can link to your account through your google cloud. So that you can allocate purchases on the spot as you make them and not end up with several hours worth of work at the end of the day/week in updating your account.

So, Go To Hawaii Already!

If you are looking to have more money, then you need a budget. And you need to be willing to give it regular time and management in order for it to be successful. It will hurt in the beginning, especially when it comes to not purchasing things because you recognize them as wants instead of needs. But the more you do it and stick to your budget, the more money you will build up in your rainy day accounts, bank accounts and investment accounts. And then when you have the money you can see a good deal on a trip to Hawaii and say, “Yes. I need that now.” And you will have the money to pay for it and you will be able to truly enjoy your vacation because the financial part of it will not be stressing you out.

YNAB Summary

Advantages

1. Tight focus on the budgeting process that has proven results. YNAB says that those who follow their four rules see on average a $200 turnaround in their spending.

2. Easy to use software

3. App that syncs up with your home computer.

Disadvantages

1. No Direct connection to your bank. It’s tough to get things updated if they are not all in the same place. They have way to add bulk information from a file but no direct connection to your bank. Here’s what they say about it:

We’ve found the direct connection to banks really pulls people away from their money (psychologically). We don’t have any plans to add direct connect into the software–from a philosophical standpoint–as the further you are removed from your money, the easier it is to remove your money from you. Conversely when you are completely aware of the flow of your money then your money tends to fall in line with your actual values much easier. (That’s where you find contentment.)

If you can get past the lack of a direct connection, I think you’ll love their software.

Whole Life Insurance and The Infinite Banking Scam

Is infinite banking a scam? If you consider permanent life insurance to be a scam, then it’s a scam. I don’t, but I know that some do.

While I don’t think it’s a scam, it can feel that way for a few reasons, not least of which is the pushy salespeople.

The Be Your Own Banker, Infinite Banking, and Bank On Yourself methodologies have been around for a long time because they are whole life insurance policies marketed as financing and banking tools. The real question to ask is whether you should purchase permanent life insurance. Generally, you should simply purchase term insurance.

Permanent life insurance should not be your first “investment” and is best suited for those looking for additional ways to pass money to their heirs or for those who need permanent insurance due to age. It’s an estate planning tool or a way to get life insurance if you are past the age where term insurance is a viable option. Be Your Own Banker  / Infinite Banking looks to turn permanent life insurance into a retirement plan and perhaps a means of financing major purchases. I recently sat through a series of meetings with a Be Your Own Banker life insurance broker to understand what it is all about and if I could use it to finance a major purchase that would require a bank loan.

The basic concept in Infinite Banking is that you would fund a whole life insurance policy and use the cash value of the policy purchase permanent life insurance and tack on a paid up additions rider. This allows you to borrow against the cash value of the policy. In theory you could then pay off your car loan or use it to finance your business. As a financing vehicle it could potentially be cheaper than getting a loan from a bank. As an investment vehicle, studies show that you are better off putting your money into a balanced portfolio. If you’re not sure how to create one of those on your own check out Personal Capital or MarketRiders and they’ll do it for you. A risk adjusted portfolio will have better returns over time.

I ultimately decided not to purchase the product primarily due to the high up-front cost of purchasing whole life insurance, the 7% fee that would be scraped off the top of my investment, and my personal confidence in earning a return equal to the compound average growth rate of 9.3% by investing in the market.

The counter-argument was that to achieve that tax savings, the lower fees, and guaranteed returns achieved by purchasing whole life insurance were a safer and better investment. One of the main components of achieving that return was the purchase of a paid up additions rider. By adding that rider, the cash value of the policy increases, allowing for better returns.

Major Selling Points

1. Forced savings plan

2. Guaranteed returns

3. Secure financial institutions

4. Interest free loan

5. Tax free withdrawals

Major Drawbacks of Infinite Banking / Permanent Life Insurance

1. Cost – Here’s where I balked. The initial cost is quite prohibitive and the money injected was not accessible for a number of years. Perhaps if the returns were better over time it would’ve been easier to take the bitter pill.

2. Forgoing High Returns in the market. While I understand the calculation, I believe that by investing in a low cost 401k plan with a diversified mix of assets that are rebalanced over time, I can still out perform the projected permanent life insurance.

The returns were our main disagreement. I argued that the average return generated by stocks is about 10% since 1928. The salesman said that we should use the most recent 30 years of data. This actually took the returns higher, but we brought it back down by layering on a crippling management fee of 3.0%. Fees average between 1% and 2% on 401k plans so the 3% was overstated.

The Be Your Own Banker concept (is trademarked!) will appeal to people who do not want any risk.  They’d rather have a fixed return, even if it is potentially lower than what is available on average from the market. Purveyors of the Be Your Own Bank concept run through a series of calculations with you to “prove” that you’re better off putting your money into permanent life insurance than into your 401k. And in many cases they are right. There are a lot of people who do a very poor job of managing their finances. They end up in a 401k with high fees and the wrong asset mix for their age and risk tolerance. In turn, this creates a financial tsunami that buries them when they need their money most!

I had a generally positive experience with the salesman. We disagreed but he was not disagreeable. I can see this concept appealing to some people but would not recommend it unless market risk puts you into a catatonic state or you simply will not ever save unless forced into it. Know that this is not a true savings account and your money is not immediately available. Instead of going with permanent life insurance, embrace some risk and you will see higher returns. Be confident that you are not throwing your money away by putting into your 401k. The life insurance industry calls this strategy, buying term and investing the difference. It’s a good strategy. Automate your savings and work towards specific investing goals (Betterment style investing). You’ll achieve them and end up with higher returns in the long run.

There’s a great discussion over at the White Coat Investor site. The good stuff is in the comments.