I diverge back to my regular line of financial commentary for this week, I will return with further discussions about Disabilities and Finance next week.
One of the classic traps that younger folks fall into as their career steps up, is the mistake of expanding your lifestyle to expand as your salary expands. In some cases the cost of their new lifestyle many times outstrips the raises they receive (a really big mistake). Remember when someone says you get a $4000 raise, you aren’t getting $4000 more a year, you are going to make less than $3000 more a year (depending on which tax bracket you end up in).
In many systems where slackness can occur, due to wear, age or other things the concept of a tension arm is introduced to keep the needed tension in the system (or having the slack cause the system to break down). Replacing a tension arm in your car can be expensive, but introducing a financial tension arm in your life is free and pretty straight forward.
If you start as a young career oriented go-getter and you make around $40,000.00 and your boss calls you in and says you are getting a 10% raise because of your good works last year. You think that is pretty darn good (wait ’til you get old and jaded like some of us you might think it’s not much, but that is neither here nor there), and you think you are moving up in the world.
Before you got your raise you were living a spartan life in a nice apartment but with a roommate, to save on expenses. Maybe you are driving a used car because that is doing you just fine, but you now wonder if it might be time to:
- Upgrade your car, because you can lease a much nicer car and your new raise should cover that no problem
- You are getting tired of your roommate, even though he’s an OK guy (or girl) and you think maybe it’s time to get your own place
- You worked hard last year and you should get a reward, so maybe a really nice holiday in the sun too?
Let me be the first to say, “Welcome to the world of OVERSPENDING”.
Your pay raise will give you about $2700 bucks after taxes and such, and if you don’t follow through on your spending plans (we’ll revisit those) and instead decide for this year to keep living in the same way, and instead put that $2700 in the bank how much farther are you ahead? I think that is pretty simple. Each month you put $225 away into a savings vehicle. This saving will act like the tension arm, picking up the slack that this extra money puts in your financial common sense, and helps you to save more.
Do this for 3-5 years, and suddenly you’ll have a down payment on a house, and some nice savings. New income increases create real Financial Common Sense Slack, but if you put a Financial Tension Arm in place you’ll be just fine. The nice part also is you are living well below your means as well.
Oh and all that spending you were thinking about?
- The car will be at least $2500 a year or so, and that is without your insurance increase
- Doubling your rent, hmmm… another $2400 say
- The vacation could be another $700 or so too
Notice that your $4000 raise has caused you to increase your spending by $5500 ? Oh yes, remember that really was only a $2800 raise, so you basically spent twice your raise, funny how that happens, isn’t it?