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 careers step up is the mistake of expanding your lifestyle to expand as your salary expands. In some cases, the cost of their new lifestyle often outstrips the raises they receive (a huge mistake). Remember when someone says you get a $4000 raise, you aren’t getting $4000 more yearly. You will make less than $3000 more yearly (depending on which tax bracket you end up in).
What is a financial tension arm? In many systems where slackness can occur due to wear, age or other things, 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. Introducing a financial tension arm in your life is free and straightforward.
A financial tension arm would stop sudden spending changes causing slack or tension in your financial system. It would stop expanding your spending habits simply because you can.
If you start and make around $40,000.00, that was doing well. Say your boss calls you in and says you are getting a 10% raise because of your excellent work last year. You think that is pretty darn good. You think you are moving up in the world.
Before you got your raise, you were living a spartan life in a lovely 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 place
- You worked hard last year and you should get a reward, so maybe a charming 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 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 excellent savings. Net 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.
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 was only a $2800 raise, so you spent twice your raise. It’s funny how that happens. Lifestyle creep is an insidious thing.
Keep your financial lifestyle tight. Use a financial tension arm.