How you get Paid – Compensation Models

This is an interesting topic that I have largely seen very little information on before I began my first job with a career. How does the frequency of getting paid affect how I need to budget and spend my money.

The three basic models I will outline are as follows:

  • Monthly – One big paycheck usually on the 1st of every month (12 pay checks a year)
  • Bi-Monthly – Two decently sized paychecks usually on the 1st and 15th of the month (24 pay checks a year)
  • Bi-Weekly – Both my wife and I are paid on this schedule and I believe this method is on of the best for an early careerist learning to budget (26 pay checks a year)

Now there may be other methods of payment I have missed and I would be very interested if you know of a different system to please leave a comment below for my own education and our readers’ education.

Monthly

I would argue that this method of being compensated for services you provide to your employer is the hardest to manage from a personal finance point-of-view. This method takes great discipline and an understanding that you will live high flush with cash to a low at the end of the month and depending on how you budget that month could be a real low, forcing you to eat Ramen Noodles and praying for time to speed up for that next “hit” of cash. Now I have never been compensated on a monthly basis, but I will attempt to put down some tips to help someone who might be:

  • Work with billing companies to move your bill dates to the 1st week of the month – If you have to pay all of your bills at the start when you are flush with cash you will be less likely to spend it on frivolous things and get in trouble later.
  • Take out your long term savings first – I generally work with the assumption I will save 10% of my cash for future needs (housing fund, emergency fund, medical fund etc)
  • Put a budget to paper or computer – I know this is a basic tip, but sometimes the basics need stated. Less likely to go buy that new TV if you know you have to eat for 3 more weeks.
  • Direct Deposit your paycheck into your savings and “pay yourself” weekly – This serves the same goal as budgeting, but may be a bit easier if you have a weekly allowance that is easy to get too.
  • You have 12 pay checks a year – So if you know you have a big trip or expense one month start saving a bit of each pay check to cover that expense. Do not assume that you can cover that expense with just what you make one month and still live like you did the other 11. Plan Ahead!

Bi-Monthly

This method is probably more common than the monthly model. Your total compensation is now divided by 24 pay periods or twice a month typically the 1st and 15th of every month. There is nothing to unique about this model and many of the principles that apply to a Monthly payment model still apply here. Depending on the amount of your operating bills (bills required to live. Typically housing, food, utilities, clothing, etc) you may need to divide your bills to cover the smaller pay checks that you receive. This could look like paying your Rent and Electric in the first week of the month and your Water, Cable, Cell Phone, and Natural Gas to the third of the month. If you can swing it I would still recommend moving all of your payments to either the 1st or 3rd week so they are easier to pay. A large part of personal finances are behaviors, and lets face it humans can forget which bills they have paid and have not paid. By moving all of your bills to one period it is MUCH less likely that you will forget to pay one of your services.

  • Paid twice a Month – 24 pay checks a year
  • Smaller Pay Checks – Could mean splitting bills across the month to ensure cash to live and pay your creditors
  • Put a budget to paper – Better tracking you keep the more likely you will still have money between pay checks
  • Take out 10% for savings from the front end

Bi-Weekly

Now this is the fun method of payment that both my Wife and I are compensated by, Bi-Weekly. To be paid bi-weekly you might assume that it is exactly the same as bi-monthly, but that is where you would be wrong (and yes I understand it is basic math, but when you start your new job basic math sometimes disappears). Bi-Weekly pay schedules work by taking the 52 weeks in a year and dividing them by 2 giving you 26 pay periods. Bi-Monthly takes the 12 months of the year and multiplies it by 2 giving you 24 pay periods a year. Wait a second… 26 is 2 more payments than 24!

Still, Warren why is this exciting … am I now just receiving those 2 extra payments spread out over the other 24 pay checks so the cash difference is neutral. You are correct that the cash difference between the three payment methods is neutral, but like I pointed out earlier personal finances are behavior based, not based in math. The key to really turning this compensation model to your benefit relies solely on your ability to live off of just 24 pay checks a year and completely ignore the other 2 pay checks that come. What essentially happens is you receive two “bonus” checks a year. Now I know these are not “bonus” checks in that they are moneys above your usual and normal compensation, but they are “bonuses” in the fact that they are unbudgeted cash injections that can now be used for paying down debt, investing, helping with a large purchase (Cruise, TV, New Computer, Car Repair, etc).

Tangent – So my Wife and I both started our current jobs back in January of 2009. We both were starting to be paid on a bi-weekly basis and life was good. We were just strolling along paying all of our bills and saving as we should when suddenly one of these “bonus” paychecks stumbled along… I was confused… We get paid bi-weekly so I figured each month had 4 weeks and as such we would be paid twice a month. We had completely made our budget livable with just what we were receiving with our 4 pay checks a month, 2 for me and 2 for her. Now suddenly we had an extra $1,500 sitting around completely unspoken for. What we decided at the time was to add about $750 of it to the monthly college loan payment we had been making as a quick injection to bring down that principle faster and to take the other half and place it into our savings for either large purchases we had planned for or that future down payment on a house. Since then I have taken our pay schedules and mapped out our “bonus” months which gives you something to look forward too. 🙂

  • So Bi-Weekly has the smallest pay checks
  • If you can live off of smaller pay checks you can receive “bonus” or budget positive impact moneys to help achieve your financial goals
  • Bills may need to be spread out over the month to ensure cash flow to cover all living expenses
  • Put a budget down to paper – This is essential to ensure you can live comfortably on the smaller paychecks and do not have to rely on the “bonuses” to cover basic living expenses
  • Pay yourself first – take that 10% from the top of every pay check for future equity producing purchases (House, investments, healthcare, etc)

The table below gives a basic break down of how this might look given your compensation. Keep in mind this is not factoring out taxes, 401k company contributions, or insurance deductions.

Payment Method Analysis    
  Salary Number of Payments Each Payment Budget Monthly  
12 Month $50,000.00 12 $4,166.67 $4,166.67  
Bi-Monthly $50,000.00 24 $2,083.33 $4,166.67  
Bi-Weekly $50,000.00 26 $1,923.08 $3,846.15 with 2 months with an extra $1,923.08 to spend
Advertisements

About odysseustoday

25 year old man starting his financial journey.
This entry was posted in Finances, Financial Tools, Resources and tagged , , , , , . Bookmark the permalink.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s