Life is for living, and treating yourself occasionally to a little of what you fancy is an excellent way to improve your mood and general sense of wellbeing. The danger is that little luxuries become habitual expenses and that we automatically pay for things without stopping to ask whether they really enhance our lives. Financial educator ANDREW HALLAM says people need to be much more of conscious of what they’re spending their money on — and he strongly recommends tracking each purchase you make.
Nobody should tell you how to spend your money. Your decisions are personal. You probably can afford almost anything if you prioritize it. My friend John, for example, spends more money on vacations than almost anyone I know. But he scrimps on everything else. For years, he refused to buy a car. He took buses everywhere. To him, those high-cost vacations were worth the sacrifice.
He travels with a friend who doesn’t scrimp on anything. She regularly joins him on African safaris and at five-star luxury resorts, flying first class or business class. She and John worked at the same place. They earned similar salaries for a really long time. That’s where the similarities end. Unlike John, his friend always put her travels on a credit card that she never fully paid off, and she continues to do so. Now in her 70s, she’ll have to work forever. That wouldn’t be so bad if she had a job she enjoyed, but she doesn’t.
However, she didn’t prioritise her spending the way John did, so she doesn’t have a choice.
Ask, does this really enhance my life?
Prioritising your spending means cutting back on things that don’t enhance your life. To figure out what those things are, start by tracking what you spend and earn.
Several expense tracking apps are available online — for example, Goodbudget, Mint, and Pocket Expense. Plenty of people say you should create a monthly budget, but I’m not one of them. Your spending can fluctuate wildly month to month. If you take a big trip or you have a surprise home repair, that could blow your budget and make you feel like a schmuck. To me, budgets are like diets. Sometimes they work, but they usually don’t.
For example, one study published in the American Journal of Preventive Medicine suggests that when people want to lose weight, documenting their food intake in a food diary is one of the most important things they can do. I guess once they had documented their sixth jelly donut of the week, they might realise how much sugar they were consuming. The thought of entering one more jelly donut might make them pause and ask themselves, “Do I really need this? I’ve already had six this week.”
Keeping a record increases accountability
When we record what we eat and spend, it increases our accountability. This helps us eat better and spend less money. After one of my friends began to track his expenses, he said, “I had no idea how much I spent on tech gadgets I rarely used.” Now that he’s committed to tracking what he spends, he spends a lot less.
My wife and I have been tracking what we spend for years. Every time we buy something, we add the expense in our app. Some people might say, “I don’t need to do that. My credit card tallies everything.” But that won’t have the same effect. When you use an app to track your spending, you can see how much you’re paying in each category. You can even customise the categories. My wife, for example, created one just for alcohol. Somehow, it helped her find even cheaper wines (that she claims she likes just as much).
Before long, you’ll see some patterns. You might, for example, be surprised at how much you spend on dining out.
It only takes seconds
Track your income and your spending for the rest of your life. It only takes a few seconds after every purchase. And it allows you to think of your household income and expenses as a business. If a business didn’t track its income and expenses, it would risk bankruptcy.
When you see where your money goes, confirm that it aligns with your pleasures. For example, if you’re grabbing a gourmet coffee and drinking it while driving through rush hour traffic, are you getting the most from that coffee? Even if you were the world’s greatest coffee lover, the answer would be no. Instead of savouring your coffee, you would be thinking about other things: Am I going to be late for work? Do I smell something bad in the back seat? Is that jogger wearing pink underwear on his head? Why did that driver just cut me off?
In this case, it usually makes more sense to make coffee at home, put it in a travel mug, and bring it with you. After all, you likely won’t savour the full richness of the gourmet coffee on the run. And the opportunity cost of an expensive cup of coffee might be more than a million dollars over your working lifetime if you invested what you could have saved.
The true cost of little luxuries
Here’s an example. Assume someone spends $5.50 a day for expensive coffee on the run, including taxes and a tip, seven days a week. Assume they kept that up from age 22 to 65. A cup of home-brewed coffee might cost 50 cents a day, making that a $5 daily difference. No, that isn’t much, until we work out the long- term opportunity cost.
From 1972 until 2020, despite the market’s ups and downs, a diversified portfolio comprising 60 percent in a US stock index and 40 percent in a bond market index earned a compound annual return of 9.47 percent.
Let’s assume the same portfolio earned that return over the next forty-three years. If someone invested the difference between a daily cup of gourmet coffee and a cup of coffee at home, they would be investing the equivalent of $5 a day. That’s $1,825 a year (not including the extra cup during each leap year). If they averaged 9.47 percent per year, from age twenty-two until age sixty-five, that money would grow to $1,011,422 after forty-three years.
Let’s assume stocks and bonds don’t perform as well over the next 43 years as they did from 1972 until 2020. I’m not saying they won’t. Nobody knows. But let’s assume they don’t. If instead of averaging 9.47 percent the portfolio averaged 7 percent, the opportunity cost of the gourmet coffee would be $483,845, compared to making that coffee at home. That’s still almost half a million dollars.
A critical eye might say, “Wait, this is misleading! Half a million dollars (or $483,845) won’t have the same buying power in the future that it has today.” That would be true, based on inflation. Everything from a box of cereal to haircuts will cost more in the future. But a gourmet cup of coffee will cost more too. As a result, the daily savings between drinking a daily gourmet coffee and brewing the stuff at home wouldn’t remain at $5 a day. It might be $6 a day five years from now, $10 a day fifteen years from now, and $20 a day twenty years from now. As a result, the actual savings would be far higher than $483,845 (assuming your money averaged 7 percent). But that higher dollar figure would provide about the same buying power that $483,845 would today.
No matter how you slice it, seemingly small savings can have big impacts. That’s why one couple might retire with a million dollars while their similarly paid colleagues end up with nothing. So yes, expensive coffee on the run could be a $483,845 decision. Or it could be a million-dollar decision if the markets in the future match the returns of the past.
Once again, I’m not saying you should eliminate gourmet coffee on the run. That’s up to you. I’m saying, track your income and expenses. Then cut costs on things that don’t enhance your life satisfaction. If something truly turns your crank, don’t cut back on it.
Be honest, and be ruthless
But be honest with yourself — and ruthlessly slash costs on what doesn’t enhance your life. By doing so, and investing the savings, you’ll have far more money. And you could spend that money on experiences and causes that could enhance your life and the lives of others.
Remember, all choices have a long-term opportunity cost. It doesn’t mean you need to eliminate all the fun from your life. But make smart choices. Remember, you can afford anything — just not everything.
The article is an extract from Andrew Hallam’s new book, Balance. The book, which is published on 18th January, explains how to strike the right balance between enjoying life now and ensuring that we have enough money in retirement to maintain our chosen lifestyle. It’s available for pre-order now on Amazon.
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If you’re new to investing, TEBI founder Robin Powell and fellow financial blogger Ben Carlson have written a book that you really ought to read. It’s called Invest Your Way to Financial Freedom, and it’s published by Harriman House.
Primarily written for a UK audience, the book has no hidden sales agenda and is based on peer-reviewed academic evidence. It explains, in simple terms, how young investors can develop good habits, save a fortune in unnecessary fees, and achieve financial freedom many years earlier than they otherwise would.
You can either buy the book direct from the publisher or via Amazon:
For those in the UK,
Buy the paperback via Harriman House here
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For those outside the UK,
Buy the Kindle version via Amazon here
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