Pay yourself first — the misunderstood money phrase
Get into any money discussion and these famous words of money wisdom might come up “Pay yourself first”. It became famous from the best selling book Think and Grow Rich by Napoleon Hill.
This statement introduces the concept of ownership. When you get your income, there are many places where you can channel it to. Each of those places is owned by someone: either you or someone else. Take note of “…each of those places are owned by someone…”, it’ll make a lot of sense down the line!
There are many places where you can channel your money to. Each of those places is owned by someone: either you or someone else.
For instance:
- You can decide to channel some money to buy dinner for you and your family at a restaurant e.g. KFC which is owned by Colonel Sanders. In this case, you have paid Colonel Sanders.
- You can channel some money to pay rent for your house which is owned by your landlord. In this case, you have paid your landlord.
- When you buy toilet paper in Kenya then you’re most likely paying Chandaria.
So now, back to the phrase: there is the “Pay yourself” part. And there is “First”. Let’s start with “Pay yourself”.
Pay yourself
Pay yourself means to channel your money to your investment or savings. Your investment is owned by you.
When you invest, you open the doors for other people to pay you. The investment, therefore, brings you more money in the future… which ultimately means that you are paying yourself.
#YOLO — spending perspective
“Pay yourself first” has been wrongly misunderstood to mean spend money on treating yourself with the pleasures that make you happy, then, use the rest on life’s other necessities. This is pretty much a YOLO (You Only Live Once) or an “enjoy your money today, don’t worry about tomorrow” way of living.
The irony of living the YOLO life is that you feel that you’re thinking about yourself by spending on yourself. But when you look at it from the lens of “who is being paid”/“who is the owner”, then you get to see that you’re actually thinking about everyone else e.g. you’re thinking about the Hiltons’ if you’re sleeping at their hotel, you’re thinking about Steve Jobs when you get the latest iPhone etc.
Pay yourself ONLY? NO! — Pay your self FIRST.
It has also been wrongly understood to mean “pay yourself only” i.e. throw all your money in investments and therefore leave little or no room for enjoying a comfortable life nor sparing time and money for entertainment/luxuries.
Pay yourself first, doesn’t mean pay yourself only.
It means to prioritize your savings & investments above other budget items.
How to apply “Pay yourself first” principle
Let's assume that your monthly income is Ksh 100,000 and that this table below is your monthly budget:
Prioritize your budget
Prioritize your budget items as Class A, Class B, Class C (a principle learned from Centonomy).
- Class A — essential costs that you need
- Class B — nice to have and that helps improve your quality of life
- Class C — luxuries
A budget item can fall into more than one class. Example:
The food budget is primarily a Class A item, but it includes sh1,000 in Class C for buying ice cream.
“Pay yourself first” means that, if something unexpected happens and you need money, then get the money from other budget items, not from the investment budget item.
Examples (based on the budget above):
Scenario 1: A medical emergency crops up and you need to pay sh5,000. Where do you get that money from?
Answer: Look at your Class C expenditure, pick the money from your Class C budget items e.g. 3,000 from miscellaneous and sh2,000 from entertainment.Scenario 2: A medical emergency crops up and you need to pay sh20,000. Where do you get that money from?
Answer: Look at your Class C expenditure, pick the entire 17,000 from your Class C budget items and another sh3,000 from your Class B items.Assumptions for both examples: you don’t have an emergency fund / you’ve already exhausted all the money in the emergency fund / you don’t want to touch your emergency fund.
Investing
Investing is putting money in something that will earn you even more money in future. Examples: putting money in a Treasury Bill/Bond, investing in your education, purchasing a piece of income generating property, a business, unit trusts etc.
For each of these, it’s necessary to have clear goals especially financially. For instance, if it’s education, identify how much you need to put aside each month for the course. If it makes sense to put aside Ksh. 25,000 i.e. you’ll still be able to meet your other obligations like food, shelter, transport etc., then make that amount a Class A item in your budget.
Make investing a Class A budget item
Different account
When you receive your salary, first put the investment money into a different account e.g. put it in a Money Market Fund (MMF) or your Mshwari savings account etc. It’s important that you don’t keep that money in the same bank account where it’s all mixed up with the rest of the money that you use to cater for your other budget items.
Putting it into a different account eliminates the temptation to divert that money to other uses and it also eliminates the illusion that you have more money than you had budgeted for.
Don’t leave your “pay yourself first money” (investment money) in the same account as the money for your other budget items.
Conclusion
Budgeting is key. Budgeting means creating a plan for your money and time. Tip 1: when making a plan, plan to succeed. Tip 2: Use a budgeting app e.g. iSaveMoney.
Budgeting forces you to soul search
Budgeting forces you to identify what you truly value, what you mildly value and what you don’t really value. Even entertainment wise, it forces you to identify what you truly enjoy vs. what you do because of peer pressure.
“Pay yourself first” simply asks that you make investing, your top Class A budget item.
If you fail to plan, you plan to fail.
