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Tuesday, January 04, 2011

Mental Tricks and Extra 2% in Your Pocket

The first paychecks of January 2011 should be arriving soon, and for those that fell behind with the news, a bill passed both houses which will put an additional 2% in your pocket. The social security withholding rate fell from 6.2% to 4.2%. Medicare withholding rates remain the same (1.45%), as do the employer's portion of withholding (7.65% total).

I was able to confirm that those of us who are not subject to withholding, but rather pay the Self-Employment Tax through Schedule SE will also see our rates fall 2%, from 15.3% to 13.3% (effective rate of 14.1% to 12.3%).

It is unfortunate that the taxpayers still have no real certainty, but the taxpayer should have more money in their pocket in 2011, up to $2136 per wage earner (Social Security Tax is paid on the first $106,800 of wages).

I believe that it is extremely important for individuals and families to understand the basics of tax. There is a lot of discussion out there if taxpayers will notice the extra money. Some experts believe that taxpayers will notice their paycheck is higher, but won't know why. And, not realizing that their "pay raise" is temporary, there is a real danger of spending the funds, or worse yet, making commitments that won't be so affordable come 2012.

Because the money is temporary, I think it is really important for individuals and families not to increase their consumption. I work with a variety of clients and the common thread I find amongst spenders/debtors is that new found money is already mentally spent before liabilities and savings are considered. Finally, I can get that new data plan! This 2% windfall will be a nice treat, but also has the potential to hurt the undisciplined or unaware.

Changing subjects slightly, a friend (hello to you!) sent me an article that starts with a mention of an MIT inventor that is attempting to create a prototype of a wallet that will become increasingly hard to open as one approaches the limits or exceeds their monthly budget. Cute! I love the idea.

The article goes on to discuss mental tricks people use to help "close the gap between good intentions and human nature."

I'd love to hear from my readers what mental tricks they use to control spending. The article mentions many of the usual mental tricks such as setting broad goals in terms of saving not budgeting (I think this becomes easier as a person realizes goals and starts to really see money and equity grow), making separate accounts and subaccounts (I love the setup at ING's online bank for this--highly recommended), paying yourself first through automatic withdrawals into savings, buying savings bonds through an employer and/or taking advantage of 401(k) accounts (all of the above is good advice).

I have a few mental tricks of my own in addition to those above. When we refinance our home loan around 18 months ago, we continued to make a similar mortgage payment. Besides paying off the mortgage quicker, this trick makes it easier to absorb future property tax increases. Another trick we have is not including interest income in the spending budget. We basically ignore that income until year end when we decide if we need to keep the income in the emergency fund or if we can put that money into a different type of investment vehicle.

Readers, please share any mental tricks you have and I will try to share in a future post. The more interesting the better! And if you don't mind sharing, what do you plan to do, or not to do, with that 2% savings in Social Security tax.

P.S. I have some posting ideas coming up, but I've hit another busy season here and due to the tax law changes, I have a bit of extra work cut out for this week. :)

20 comments:

tesyaa said...

If you're not maxing out your 401(k), the best thing to do with the extra 2% is to up your contribution by 2%. Another trick, especially for those of us subject to the AMT, who run the risk of underwithholding, is to up your withholding by 2%. I'm not good at calculating my withholding to the nickel. I'd rather overwithhold than the opposite - if I get a tax refund it's easier to put it aside in a savings account than to try to put aside $40 from each paycheck. YES, you run the risk of making an interest-free loan to the government - but what interest rate are you earning these days? Forced savings is good.

Isaac said...

It's not rational at all, but it seems to me that if you have a catch phrase to hang a decision on, it's easier to stick with the decision.

So, when I'm presented with a great price on an item I didn't realize I "need" until just now (say, a camera), I'll sometimes go all the way to the point of investigating and pricing alternatives, reading reviews, and maybe even putting it in a shopping cart to see what shipping will cost. When I come to my senses and realize that I don't actually need the item right now, I say the word "Defer" to myself. The idea is that I've lived without whatever it is until now, and it's money in the bank if I live without it for a while longer. If it turns out that I really need it, I'm sure I'll find a sale then. That whole train of reasoning is summed up in the one word, so it's not hard for me to convince myself pretty quickly that that's what I ought to do.

Another internal catch phrase I have is "DN;WB," which stands for "Don't Need; Won't Buy." It's an echo of the snarky "TL;DR" ("Too Long; Didn't Read") that I sometimes see on Internet forums. When I employ that snark against an attractive product I don't need, it adds emphasis and decisiveness to the act of passing it by.

rachel q said...

In a store if I see something that I like, first I leave the store, walk for 10 minutes. Sometimees I tell myslef to just wait a few days before buying it. More often than not, after 5 minutes outside the store I realise I can live as happy withou it than with it. If after 2 days I'm still thinking about it then I go back and buy it.

We have in our bank account an automatic deposit into our savings account. That makes it easier to set aside money for emergencies.

conservative scifi said...

I have three tricks we often use.

For the 2%, I simply increased my allotment to one of our savings accounts.

A second trick is to create different accounts for different purposes. So in addition to personal checking accounts, my wife and I have joint accounts to save money for cars (by saving in advance, we pay cash, not credit), for home repairs, for tuition (our biggest single expense), and college savings, so we can only spend what is left after these moneys are taken out.

A third trick is that every three months I use a ledger to track our financial progress and report it to my wife. This is partially so she knows where we are and partially a reminder of where we need to be for retirement, college savings, etc.

nephew of frum actuary said...

I'm actually changing my contribution this year only from a normal 401K to a Roth 401(k), so I will not see much, if any, increase.

This tax cut will have to be paid back as higher taxes at some point, so why not avoid the taxes now?

Plus I pay 2% less in taxes now than I would have to pay in other years.

Ariella said...

Good points, Tesyaa
Nephew, I think the Roth is a fantastic thing. I usually opt to put money in a Roth rather than traditional IRA. However, I did discover one year that I had exceeded the amount allowable at that year's income to the Roth. Then I had to recharacterize that contribution as a traditional IRA one.

Orthonomics, the wallet idea reminds me of a scene in a novel I read. The heroine put her credit card in a sealed type of container. But when she wanted to buy something beyond her other cards' limit, she smashed it open.

nephew of frum actuary said...

Ariella:

That is the advantage of the Roth 401K over the Roth IRA. The limits are like a regular 401K (I think).

Anonymous said...

I plan on increasing my monthly donation to the local jewish charity by $100. This way, I make good use of the increase and don't risk wasting it.

Retirement Actuary said...

To the one who said to increase your 401(k) contribution, I don't completely agree. Unless you're very close to retirement I think you should only increase to get the full match of your employer or if you're really not saving much for retirement. But, assuming you're already maximizing company money, there are probably other mediums of savings that provide for more flexible use of the money, especially if high school and college tuition is coming soon.

If you're in a high deductible health plan consider increasing your HSA contribution. A Roth IRA gives more flexibility in that you can take out your contribution amounts (without return) penalty free at any age once you meet the 5 year rule. Simply allocating an extra 2% of your base pay towards your regular savings is fine and of course if you have credit card debt that's where it should go first.

I've found that many people don't save enough for retirement and many save too much. If you're already maximizing your company match there may be more immediate savings concerns (like college) over retirement.

Miami Al said...

Disagree on the overfunding the 401(k).

If you aren't maxing our the legal limits on these accounts, you aren't oversaving.

Better to put the money in early, let it compound, and if you can't contribute anything the years your children are in high school, so be it.

College financial aid normally does NOT look at retirement accounts, it does look at non-retirement accounts.

Maxing out the HSA, does ANY upper income person carry an HDHP and NOT max out the HSA contribution?

Roth IRA normally carries an income limit, though this year you can convert regardless of limit, so you can convert. You can also do a Roth 401(k).

The distinction between the IRA vs. 401(k) is pretty immaterial. When you change jobs, you roll the 401(k) into the IRA anyways.

In theory: get employer match on 401(k), then fund Roth IRA, then fund 401(k) until legal maximum.

OTOH, it is more important that you put the money into a retirement account where you won't touch it than you have it in the perfect account. You can always roll it over later.

Anonymous said...

What about dumping the 2% into the principle on your mortgage payments? This will allow you to own your home faster, freeing up your salary later on to pay for college. Seems like a good bet to me! If your mortgage rate is 5.0% that is a risk free 5.0% Return (I know, there are some tax savings). Where else can you earn that, risk free? Sounds almost like Madoff, too good to be true?

Sugar Plum Faygie said...

Of course, the most important thing to do with the 2% is to add it to your 401(k) - I ought to be putting away 17% rather than 15%.

But since Metrocards in New York are going up and higher commodities prices is raising the cost of basic groceries, I will probably have to spend the extra on necessities.

Luckily, I can occasionally treat myself to an extra. My extra is ballet, and though I'm surely the only reader of Orthonomics who goes to the ballet, I want to tell you how I beat the high cost of Lincoln Center tickets.

I managed to avoid buying the ONLY SEATS LEFT - for $140 - and instead nabbed excellent seats in the middle of the orchestra for only $55. (There goes my 2%!) If your audience is interested, I will be happy to post my Super Secret Source for ballet bargains.

Just Looking Layah said...

Here's how I go "shopping" for after-holiday sales: I go to the beautiful shoe and bag store. I see a lovely handbag reduced one-third. I examine it, I try it on my shoulder and pose in the mirror. I ask if it is going to be reduced further. I think, I have one almost like it at home. I put it back in its museum-like setting against the backlit wall.

Next I try on a pair of lovely leather boots, knee high. So comfortable. So perfect. And on sale! Then I think, I have leather boots at home, in fact I have them in both black and brown. I put them back in the box.

I go upstairs to the beautiful sweaters on sale in my favorite store. I touch the wool, examine the fabric content tag for a hint of cashmere. I closely study the price tag. Reduced 40%! I have sweaters at home, in many colors, with the nub just a bit worn. I put the sweaters back and tell the saleslady, "Just looking."

I go home without any packages at all and announce happily, "I've been shopping!"

That's how I save money on after-holiday sales.

megapixel said...

Ha Layah you sound like me. MY greatest accomplishment is coming home from shopping empty handed.!
Usually if I want something, I leave it in the store. If I am kicking myself all night for not buying it, I go back the next day. I usually dont.

Anyway my second method of talking myself out of stuff is telling myself: you already have black shoes, a black skirt, black tops, etc. why do you need another black skirt?

Bklynmom said...

Sugar Plum--I love ballet, but I have not been in years. I would love to hear your secret!
While on the subject of ballet, some performances at Lincoln Center in NYC offer student discounts. I don't remember off the top of my head exactly which ones do, but I know the NY Philharmonic allows a student (including elementary school up to some age post-college) to buy two tickets at a discount, either a few hours before the performance or on line with code "rush." You need a student ID to pick up the tickets, and of course, parents can pay for the kids who are students. The cost becomes $12.50 a ticket. My high schooler needed to attend a classical music concert for a school assignment; the savings was a huge bonus.

Sugar Plum Faygie said...

To Bklynmom -
I am happy to share the Super Secret: Vouchers from School Theatre Ticket Program (you don't need to be a student). They are available on the counter at the NYC & Co. tourist office on Seventh Avenue near 53rd Street. There are two offers: $55 for orchestra seats (the two seats on the side, ordinarily $95) or $15 for 4th ring seats - $20 ordinarily. (I would avoid 4th ring if possible as too high to enjoy.)

The second way to get vouchers is by mail, by sending a stamped self addressed envelope, specifying the number of vouchers you would like, to:
School Theatre Ticket Program
1560 Broadway
Suite 1113
New York, NY 10036

This is the way I have had wonderful seats to the ballet for many years. The website is schooltix.com.

These vouchers are for New York City Ballet only; American Ballet Theatre is never reduced.

You can get substantial reductions on many NY Philharmonic concerts through the same source, just specify NY Philharmonic vouchers. It is best to buy at the box office with the voucher to avoid the exorbitant online fees.

Here is another wonderful way to save money on the NY Philharmonic. Senior tickets. If you are 62 or over or know someone who is, you can buy same day tickets in back of the orchestra for only $15. Call the Philharmonic box office at 10 a.m. when they open and ask if senior discounted tickets are available for that night's performance. Each person may buy two tickets.

Hope this is helpful!

Sugar Plum Faygie said...

I see on the schooltix website that the offer for the ballet is not as good as if you use the actual coupon at the box office. I would avoid all online ticketing so as to get the best seats at the box office.

Bklynmom said...

Thank you!

anon426 said...

I have a number of sub-accounts on my ING account. The "trick" I play on myself is to get money out of my main checking account and into the sub-accounts. Money not in my main checking account it is no longer part of the mental cheshbon I make of what funds I have available.

When I feel the urge to shop, a trick I use is to head to the library or the thrift store. It satisfies my need to "acquire stuff" and obviously I spend little or no money.

anon426 said...

oops didn't mean to post on a closed posting. somehow this item came up on browser as a recent post and then I saw the date.