Saving for a Rainy Day

Have you experienced any of these rainy day events in the last year?

  • Your car broke down
  • The washing machine packed up
  • Your laptop or phone got badly damaged
  • The central heating boiler stopped working

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Sooner or later, it will rain, so we can confidently expect to receive an unexpected bill at some point, though we may not know when or how much it will be. Here’s a list of the most common unexpected bills, and how much they typically cost, published by the Government’s Money Advice Service last year.

Unexpected Costs
Source: Unexpected costs report, December 2013, Jigsaw Research

That’s why it makes sense to have some money tucked away in a rainy day fund. Saving is a big topic, and there are lots of good reasons to save regularly, but the first and most important reason is so that we can cope with unexpected costs. As a rule of thumb, we’re told that every household should have emergency savings equal to at least three months’ disposable income – that would amount to several thousand pounds. If every household had at least £1,000 saved up in a rainy day fund, they would be able to cope with most unexpected costs.

But the Money Advice Service report (see link below) showed that 4 out of every 10 working people have less than £100 they could draw on in an emergency. Not surprisingly, they found that people with higher incomes generally save more, but almost a quarter of adults with a household income of less than £13,500 still managed to have savings of more than £1,000. So whether and how much we save is not just a matter of how much we earn.

If you are fortunate enough to have a rainy day fund of £1,000 or more you can stop reading here. I’ll get back to you in my next blog when I’ll be talking about how to set up a savings account. If not, please read on.

You may be reading this and thinking “I can’t afford to save” or “I don’t need savings – I’ll just use my credit card”. For those without sufficient savings, the credit card is the most common way of paying an unexpected bill. But the credit card solution only creates or worsens the problem of debt – you still have to pay the bill, plus interest. And the average credit card interest rate is 23%, but rates of 30% or more are not unusual. So credit cards are no substitute for savings. I know some very disciplined people who use credit cards and pay off the entire balance every month without fail. But for fallible humans like me (and perhaps you?) they are just too risky. It’s like keeping a loaded shotgun in the house as a protection against burglars – you’re much more likely to end up accidentally shooting yourself in the foot – or worse.

Make friends with your future self

If you’re still with me you’re probably finding this discussion quite painful. I’m sorry about that. Imagine instead a future scenario, where you have no overdraft or credit card debt, so the monthly credit card repayments you currently make can instead go into a savings account. You find you’re now able to save £100 or more every month. Within a year you have managed to build up a Rainy Day savings fund of £500 – big enough to deal with most emergencies – and you are no longer constantly worrying about how you’ll be able to afford the next unexpected bill. You are now confident that before too long you will have over £1,000 saved up and you have started thinking about saving for bigger things.

Our problem as humans is that we discount the future – so £100 that I can spend today is worth a lot more to me than £100 that I can’t spend until this time next year. And when we’re battling to cope with the problems of today, we don’t have much energy, time or mental headroom left to think about tomorrow. But the more you can visualize that alternative future scenario, the more real it will becomes to you, and the more likely you are to make decisions that favour your future self, at the expense of your present self.

Link: Low savings levels put millions at financial risk, Money Advice Service Press release

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More on prepaid cards

My last post about the Monzo card has created quite a lot of interest so I thought a quick follow-up post might be helpful for two reasons:

Firstly, to dispel the notion that I’m advocating one particular prepaid card – Monzo just happens to be the one that my son and his friends introduced me to. There are quite a few others.

Secondly, to encourage you to think about prepaid cards as a commonplace thing, already widely used by many people.

Research shows that our fast ‘Type 1’ thinking steers us away from anything novel. We instinctively distrust anything new until we hear about lots of other people who have adopted it. This is a good survival instinct – I’m sure we can all think of examples when we’ve been offered a good deal but we hesitate because it just sounds too good to be true.

But the more times we hear something mentioned, the more comfortable we get. So if you’re still not sure about prepaid cards, read on …

Jam Jar Banking

Thinkmoney offer a managed current account linked to a prepaid Mastercard. This operates exactly like the BILLS/SPENDING Jam Jar system I described in an earlier post. A money manager helps you over the phone to work out how much you need to leave in your BILLS account and how much to transfer to your SPENDING card. For this they charge £17.50 per month, or £24 for a joint account.

This product has been around for about 10 years, and is aimed at low-income households and at people who have had difficulty in managing their finances. It has been independently assessed and awarded a four star rating (out of a possible 5) by the Fairbanking Foundation – see this link: http://fairbanking.org.uk/fairbanking-marks/current_mark_holders/ Fairbanking is a charitable foundation that encourages banks to develop products with features that promote financial wellbeing.

Despite the fee that Thinkmoney charge, users rate this product very highly. For many people £24 a month is not a high price to pay for peace of mind and a friendly money manager you can talk to on the phone.

Other prepaid cards and what they are used for

Travelling abroad: there are scores of prepaid cards that allow you to load up the card with foreign currency before you travel, and then spend it like a credit card when you are abroad. They all charge fees, and can be quite low-tech. Examples are ICE, Caxton FX and Post Office. This is what prepaid cards were most commonly used for, until the launch of cards like Monzo.

Pocket Money: GoHenry and Soldo offer prepaid cards for children of 8 and over. These feature extra parental controls over how the cards are used, and can be a good way to teach your kids about money and allow them to safely spend their pocket money online. My grandchildren have GoHenry cards. This helped to persuade me that a prepaid card might be a good way to control my own “Type 1” behaviour!

Students: Loot is a prepaid card that was originally launched by a student for students. Like Monzo, Loot is an app-only products, which means you can only use them via a smartphone. And the app has built-in budgeting features designed to help students (and others) to manage their precarious finances.

The rest: Pockit, Cashplus and U also offer prepaid cards, and compete with Loot, Monzo and others I haven’t mentioned. Fees for prepaid cards vary a lot and can include a monthly fee, plus transaction fees for withdrawing cash from an ATM and for transferring money onto the card from another debit card. The level of fees seems to be falling as more new cards are launched, but fees can be higher on some of the older products.

So what’s new?

 Prepaid debit cards aren’t new – they’ve been around for years. But a new wave of banks and card companies are now combining this old product with clever new apps and the latest digital-era technology available on smartphones. It will be interesting to see how the old banking behemoths – Barclays, Lloyds and NatWest – eventually respond.

Could Monzo help you to spend less?

Monzo is a new kind of bank with a strange name – they were originally called Mondo but had to change their name because of a trademark dispute and Monzo was what they came up with instead. They intend to offer a full current account later this year but meantime what they offer is a brightly-coloured and eye-catching prepayment MasterCard.

Screenshot Monzo Card

It’s not a credit card or a debit card – it’s a “prepayment” card, which is linked to a smartphone app. You can only spend what you’ve already transferred to the card – there’s no credit limit or overdraft to dip into. That’s already a “good thing” as it removes the temptation to spend more than we know we should, but the really great thing is that every time you use the card, Monzo immediately sends your smartphone a notification and updates the app to show the balance left on your card. This makes the Monzo card almost as good as cash!

Let’s hear it for cash

When it comes to money management, Cash Is King.  The CAP Money System, devised by Christians Against Poverty, recommends that families use cash instead of debit cards for all “discretionary” spending – groceries, housekeeping, and treats like take-away meals and DVDs. Draw out in cash what you have decided to spend each week, and when it’s gone – it’s gone. At any time you can see how much cash you have left to spend, and the act of spending money creates helpful “friction” – you have to part with lovely £20 notes and all you get back is a few coins – you instantly feel poorer, and it’s not nice. Debit Cards are comparatively “frictionless” – you hand over the card, make the payment, and then you get it back again. It seems like nothing has changed. Somewhere up in the “cloud” your bank account will eventually be updated, but that’s quite remote and doesn’t have the same impact. It just doesn’t feel like you have spent any money.

The next best thing

It’s not as powerful as cash, but the Monzo card is a good second-best, and motivationally is streets ahead of the standard debit card. It works really well for contactless payments. One problem with using debit cards for contactless payments is that you have to trust the technology that your account has been charged the right amount of money. Even with online banking on your smartphone it can take hours or even days before the payment shows up in your account. With Monzo the notification is instant, signalled by the sound of coins falling, which is strangely comforting. So long as your smartphone is linked to the internet, the balance shown on your Monzo app is kept updated, which really helps to keep track of your spending.

Could Monzo work for you?

The key to making day-to-day money management “easy” is to do the hard work up-front. That means deciding up-front how you’re going to use Monzo:

  1. what kind of spending you’re going to use it for,
  2. how much you will budget to spend, and
  3. how often you will top up the Monzo card.

I have found it best to set up a standing order to transfer money to the card, rather than topping up “on demand” – that way you’re less likely to create an unhelpful habit of transferring more money, and more often, that you decided when you did your “hard” thinking up-front. I have learnt this lesson the hard way.

It’s your decision

Monzo is working well for both me and my wife Sue, since we both started using them as our spending accounts a few months ago. May was a landmark month for Sue – she reached the end of the month and for the first time in recorded history she still had money left in her spending account!

But you will have to decide for yourself if a Monzo card is a good idea for you. Bear in mind that prepaid cards are not linked to a bank account so they are not covered by the official FSCS scheme that guarantees bank account balances up to £85,000. You can use them to get cash from an ATM, but you can’t use them to get cash back at the supermarket checkout. Also, they may not operate in exactly the same way when Monzo starts offering traditional bank accounts later this year. I’ve read that Monzo may start offering overdrafts which from my “Easy Money” point of view would be a bad idea and a backward step.

I’d love to hear from Monzo users out there – is it working for you? What tips would you like to pass on?