When financial planners talk about retirement or offer guidance about making a budget, they typically focus on your current household income. This makes sense because that is what you have available to you right now and so that seems to be the critical number. However, your salary at a certain point is just a snap-shot in time. The more critical numbers for financial success are your minimum budget and your spending cap.
The Foundation of Financial Success
Your minimum budget is critical because life is full of curveballs. Most people start their working career with school debt and often some credit cards. In my case, kids can show up earlier than expected before your career is established. Knowing what you can really live off of in these challenging times allows you to weather the storms of life without falling into deeper debt.
For my wife and I, this is what allowed us to survive tough years with kids early in our marriage when we didn’t have established careers yet. We stayed out of debt and managed to buy a small house because we could live down at this minimum budget when we needed to. We barely ate out and drove older cars in these years. That was key to making it through and starting to make slow progress in our savings.
Here are some major considerations for your minimum budget:
- Home size – This is not just your mortgage, it is also the cost of utilities which just go up the larger your home is.
- Car Payment – Going with a single vehicle or driving used cars can have a major impact.
- Cheap Fun – What things can you go to for fun that don’t cost money? Sometimes this takes a little effort, but there is so much out there.
- Kids Activities – Thinking through what is really important and not just adding activities to keep up with others.
- Subscriptions – Watch them like a hawk and make sure to cancel.
- Financial Fasting – Whether its for a week or a month, live at your minimum budget sometimes just to exercise this muscle and give thought to your normal spending
What are examples of times when its critical to live at your minimum?
- Getting out of debt
- If one spouse wants to stay home when kids are young
- After a loss of a job
- To pursue a career you are passionate about that doesn’t pay well
- Pursuing education mid-career
Financial freedom is not having your choices dictated by money. This comes in different forms, but being able to hunker down financially for a period of time is typically a part of a successful financial journey. Most people have a bumpy road and if you overspend during tough times in can put you way behind.
Finding a Spending Cap
The minimum budget sets the foundation and keeps you out of debt. Determining a spending cap is what can send you into true financial freedom. The FIRE movement is a hardcore example of this principle where people set their spending cap pretty close to a minimum budget in order to retire before 40.
What I’m proposing is much more for normal people like my wife and I who are generally conscious of our spending, but nowhere near Mr. Money Mustache. I talk about a spending cap more for people who have gotten to a decent place in their earnings and are coming to the temptation of letting their lifestyle continue to inflate.
For most people like us, these years in our 40s and 50s are where we can really move our savings rate up well beyond a simple 20%. We are looking at setting a cap pretty close to my salary since it is more consistent than my wife’s real estate income. That way we also have the ability to drop back to a conservative budget if anything happens to either job.
Making up for Lost Savings
Our early years of marriage and kids had a pretty low savings rate and so we have to make up for that in our high earning years. This is how most people are and so it just makes sense that our savings rate needs to move significantly higher since it doesn’t make it tough day to day. Here is what this actually means for our decision making process:
- Keep driving a Subaru instead of looking at an Audi
- Stay in a 2400 square foot house instead of looking for something larger
- Taking a big summer trip to Santa Cruz instead of Hawaii
- Cross country skiing more than downhill
These aren’t sacrifices, but we do see people driving Audis and taking trips to Hawaii all around us. For other folks, it might be a bit scaled down from here based on what your situation is. The principle is the same though. If you set a cap then it will feel like you are missing out on some things. It will look different than people around you.
Its not just for getting rich, its also about giving
A big piece of setting this spending cap is that we really value our ability to give money to non-profit organizations that do great work in our city and around the world. We had to raise our financial support when we worked for a Christian college ministry in our 20s and we clearly remember how much groups like that need significant donors to provide a foundation.
As we’ve now found ourselves entering years where we have more at our disposal, we really desire to be foundational donors for groups that are doing great work to help people. We simply view this as a different part of our investment portfolio. We want to be just as intentional and thoughtful in these investments as the ones that will directly pay us back.
Final Thoughts
My big hope from this article is that it helps you focus in on one of these numbers to see if there is work that needs to be done. Having a good minimum budget can keep you out of debt when you are young. Fighting against lifestyle inflation later on will not only help build long term wealth, but is good for maintaining some perspective about things that are more important than money.
By: Chris Bemis