A lot of personal finance material focuses on how to save money and how you shouldn’t be spending. Cut out that daily coffee, cancel unused subscriptions, take public transport, etc. Although knowing what purchases to avoid and how to cut costs is great, we are never taught what we should be spending our money on.
“Don’t be afraid to spend your money. A million dollars in savings will never buy back your youth.”Unknown
Before we go any further, let’s just clarify that we are not saying you shouldn’t save money. In fact we are saying the opposite. If you have read any of our previous articles you know that we are big advocates of saving. We are merely saying that there comes a point where spending some of what you earn is healthy and rewarding.
Stop Buying Coffee?!?!
There are a lot of personal finance publications that suggest you stop buying your daily coffee. Lets assume you buy coffee only on weekdays (261 days in a year). We will assume that comes to $1,000 a year (~$3.83 per coffee).
Lets say every year you put that money away into savings for your whole working life (~40 years). Your savings generates a return of 6%. At the end of those 40 years your savings would be worth ~$164,000. A significant amount of money.
To some people $1,000 a year on coffee is totally worth it. And that is great. There are many worse things that you could be spending your money on.
However, because you spent that money on coffee you should consider cutting expenses in other areas of your life.
Prioritize Spending Without Compromising Future Goals
Maybe you are similar to the person mentioned above and love your coffee. For you, paying for good coffee coupled with the convenience of not making it, is worth the potential loss in savings.
However, if you are spending that $1,000 a year on coffee, you should cut spending in other areas to still meet the recommended savings goals and prioritize your spending appropriately.
As another example, maybe you’re a foodie and love eating out. Sacrificing that pursuit would be a big hit to your enjoyment. If that’s what brings you joy, then you should prioritize it and spend a reasonable amount of money on a regular basis, guilt free.
However, if you are both a foodie and a coffee lover, it may be time to consider dropping your least favorite expenses, consuming in a moderate fashion, or going a cheaper route – i.e., making your coffee at home.
On the other hand, maybe you don’t care to have a big house or a second car. Those are other areas where you could cut back in order to prioritize the coffee and restaurant outings.
The issue of spending comes when we don’t prioritize and try to “keep up with the Jones’s” in all areas of life. What you spend your unallocated cash flow on should always bring you maximum joy. Consider cutting out the expense of things that don’t bring you joy in order to make way for the things that do.
How much should you save?
You have heard us say it before and you will hear us say it again; save first, spend second. To figure out how much you can spend you should first understand how much you need to save.
The recommended savings rate is often quoted at 10%. However, we believe that for a comfortable retirement your savings rate should be more between the range of 15%-20%.
Note: your required savings rate may vary depending on; life expectancy, desired lifestyle during retirement, length of retirement, and age you start saving. Contact us if you’d like a more accurate estimate for your unique situation.
How much should you be spending?
Let us look at an example. We will assume that your household income is $70,000 after tax and in order to meet your retirement savings goals you need to save 20% ($14,000) annually.
After saving $1,166 every month you have roughly $4,666 left. Lets assume that $3,500 goes to paying fixed expenses (i.e., mortgage, insurance, utilities, gas, food, etc.). This means every month there is about $1,150 that is unallocated.
Those unallocated funds can be spent on things that increase your quality of life. Maybe that is buying your morning coffee, spending a little extra on eating out, taking a yearly vacation, or making a payment on your dream vehicle. Conversely it might mean replacing your personal tech more often. Whatever it is, that money is for your discretionary spending purposes.
Here’s the trick though. Let’s say that you over spent on your discretionary spending in January by $200. That means that in February you should spend $200 less to balance it out. Many people miss this, and end up over spending month after month, usually making up for the budget deficit with credit cards or lines of credit.
A pro tip – in the example above, after February you will be back on budget, awesome! Now let’s say that in March you spent $400 less than budgeted. Instead of carrying that forward for extra spending in April (unless you were intentionally saving it for a larger purchase), put the extra money into savings account or against your mortgage or other outstanding debt.
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Disclaimer: This Forbes Wealth Blog is for informational purposes only and does not constitute financial, legal, or tax advice of any kind. Please consult your legal, accounting, tax, investment, banking, and life insurance professionals to get precise advice relating to your particular situation before acting upon any strategy