As you acquire more experience or receive promotions in your job, it’s inevitable that you’ll earn pay raises along the way. Earning more money isn’t a bad thing, but it can lead to “lifestyle inflation.” This is the idea that you’re bound to spend more money if you make more money.
Celebrities, professional athletes and lottery winners are prime examples of lifestyle inflation and its downfalls. Having more money in your pocket doesn’t mean you’re more financially stable.
To resist temptation and live within your means, here are a few things to keep in mind as the bigger paychecks start rolling in.
If it’s not broken, don’t fix it
So, you now have extra money every month for a luxury SUV, new home, etc. Before making such a large purchase, ask yourself if the added luxury will be worth the money you’re spending. For some, the answer is yes. For others, the money could be spent more practically. Identify what expenses are “wants” and which are “needs” to find a balance between enjoying the conveniences of life and digging yourself into a financial hole.
Keep your finances in order
Before you begin spending your money, be sure that you have a plan. Do you have debt you could pay off with the extra income? Do you have a savings plan for your retirement? Should you invest? There is no harm in treating yourself on occasion, but be sure that you’re putting money toward the necessities, as well. Creating a budget sheet is the best way to ensure that you’re living within your means and allocating your finances wisely.
If you’re interested in investing your additional income, you’re not alone. Investing extra capital you may have in the stock market has historically provided better returns than leaving the same money in a bank account (over the long term). To get a better feel for the current market, do research on your own or speak with an investment advisor. Keep in mind that investing in the stock market does carry additional risks, and the market direction changes often, so you want to have up-to-date information on any potential investments that you are looking to make.
Another option could be investing in a 401k. More than 50 million workers participate in their employers’ 401k programs. In fact, retirement assets represent 18% of all retirement assets in the U.S. When you invest in a 401k program, you reap numerous tax benefits. The amount you contribute to your 401k is exempt from federal income tax, lowering your taxable income. Additionally, you’ll likely pay fewer taxes on 401k withdrawals because you’ll be in a lower tax bracket after retirement.
It’s a common viewpoint that you’ll be happier if you spend your money on experiences instead of material things. If that is true for you, make travel a priority for your excess money. Set goals for yourself and your family. Consider where you want to be in 10 years. Clearly defining your goals can help you stay focused on where your money should go.
Another part of knowing yourself is knowing when you’re at risk of lifestyle inflation. When you work hard, you’ll feel like you deserve nice things. Just be conscious of when that attitude leads to overspending that isn’t inline with your budget. You should also try hanging out with friends who have similar budgets to you. This isn’t always feasible or desirable, but it can help you avoid pressure to spend more than you should.
Out of sight, out of mind
If your goal is to save your excess money, you should move it to an account that isn’t easy to access, such as a new retirement account or savings account for your child’s college tuition. If the surplus is automatically transferred after each pay period, you won’t be tempted to spend any of it before saving the rest.
If you have concerns about your individual financial situation, consult a trusted financial advisor who can help you formulate a plan for your new budget.
Disclaimer: This blog/website is only made available for educational purposes. It is designed to give visitors general information and a general understanding of select financial topics. It is not intended to provide specific financial or investment advice. Conduct your own due diligence or consult a licensed financial advisor/broker before making any and all financial/investment decisions.