Lifestyle inflation is a wealth-destroying force. It creeps into your day to day spending and somehow eats your salary without you even realizing it’s happening. This post will teach you how to identify lifestyle inflation and how to combat it.
Remember when you were just starting out your career and were making next to no money but still somehow managed to get by? Probably rocking that college lifestyle of cheap food, cheap beer, and a crappy car. Living paycheck to paycheck, patiently (or not so much) waiting for it to get a bit easier.
I certainly do, and it sucked.
After graduation, all of those problems are supposed to magically fade away with your new fancy-a$$ career and a regular paycheck. $36,000 a year sounded like a lot until I had to be an adult. Who wants to pay for their own car insurance, it was way cooler when my parents covered that.
For the most part, those problems do fade within 1-2 years of full-time employment (unless you are completely slammed with Student Loan payments you can’t get a handle on). You adjust, make some more money and figure out that whole adulting thing.
In the background, a less obvious problem starts to develop, and left unchecked will persist and compound into a basket of poor spending habits.
Every extra cent that gets deposited into your bank account magically disappears, but you can’t pinpoint where it went
Real World Lifestyle Inflation Example
A $2,000 raise spread out over 26 checks is only $80. Once taxes are taken out it is closer to $60.
Spending $60 over a 2 week period doesn’t seem like a big deal, and you give yourself a pass because you don’t think $60 can make a difference (FACT: It can. See what $20 can do every two weeks). Then you earn more, and more, and more and all of a sudden, you are spending waaaaay more than you originally were and saving the same amount.
It’s called Lifestyle Inflation, and if you don’t pay attention to your spending or purposefully save it before it hits your checking account…….Money disappears.
Identifying Lifestyle Inflation
We are going to flip back to the first FI Action Series post “What is your Financial Position Today?” and look at the income tab.
Using our income progression as an example:
Head over to my Financial Independence Action Series page to get the most up to date template if you don’t have it already
5 years of our household income history. The longer your career the more you can review. If you haven’t done this yet, grab the template from the link above and head to the Social Security website. Once you create a login, you can see how much you and/or your partner have made since you started your careers.
A few notes about our income:
- 2012 Was my first full-time year of post-collegiate work
- In 2013 my wife started her first job after college (as much as I would like to say I doubled my salary in one year I can’t. Whomp, Whomp)
- The jumps in 2014, 2015, and 2016 are primarily from promotions, negotiations, and yearly reviews.
- We are projected to grow at a smaller rate in 2017. It is hard to maintain those jumps as your income grows and Mrs. AE was out on partially paid maternity leave for 3 months.
In 4 years, our income grew from $82,613 in 2012 to $130,171 in 2016. That is an excess of $47,558 per year…..The question is:
Where did that money go?
Serious question. Tough answer.
You may be able to point to a house/apartment upgrade or a new car purchase as an additional cost (OR Kids – expensive!). Outside of that…..general life slowly churns into a more expensive beast.
Wants become Haves. Haves become bigger Wants.
Make Money -> Buy a House -> Make More Money -> Buy a Bigger House
It’s a crazy cycle that needs to be broken before you can seriously improve your finances or pursue financial independence.
If you aren’t able to answer “where did that money go” chances are you are a victim of lifestyle inflation. Your spending has matched your earnings (hopefully not outpaced it, although that is possible).
Of the $47,558/year, I can point to where the majority of it went. Conservatively $33K went directly to our 401Ks, Roth IRAs or Emergency Fund. If I count speeding up our debt pay down, I can account for about 40K.
Action Item: Take a shot at figuring out where your raise went to every year. If you have more gaps than answers, you can pencil in Lifestyle Inflation.
Reversing Lifestyle Inflation
Where were you “comfortable”
This could mean different things to different people, but I like to think about it this way:
When could you afford the necessities to survive (Home and all the bills that come along with it, food, minimum debt payments, etc) without struggling every single month
You may say “I was never comfortable” – but that thought needs to be challenged. Especially if you have increased your income (above the 1-3% rate of inflation) year over year. If you were getting by in a smaller house, a used car and a smaller food budget – that is more comfortable than a lot of people will ever be.
Be honest with yourself. I am not saying you even need to be ultra-frugal and stretch every dollar to the maximum. We don’t even do that.
Did any of your Lifestyle Inflation make you happy?
I am not here to crush happiness, so if your spending is truly making you happy then keep on doing it. Personal Finance and Financial Independence are about spending more on what you enjoy and cutting out the stuff you don’t care about.
Sticking with the housing example from above, did you think the new house was going to make you way happier? Maybe it did initially, but that house took more to maintain. More bathrooms to clean. More floors to vacuum. You get the point.
“New” also wears off, and the thought of something bigger and better becomes more appealing. Instead of indulging in that short-term urge, set some time aside to think about what truly makes you happy.
Action Item: Reflect on your spending and think about the changes you have made that had lasting happiness.
Automatically Save Salary Increases
The best way to fight Lifestyle Inflation is to start automatically saving all or portions of your salary increases. If you take the money directly off the top of your paycheck, you can’t spend it.
This sounds difficult, but if you are used to living off your previous salary or income, you should be able to continue living off it. Its hard to miss money you never had.
Set a goal to save 100% of your next raise automatically.
Saving can mean contributing to investment accounts, building an emergency fund or paying down debt faster. If you do this a few years in a row you will find yourself saving a significant amount of money.
Have you experienced lifestyle inflation? How did you identify that lifestyle inflation occurred in your life?