This should come as no surprise to Consumerism Commentary readers or anyone who has spent time reading anything relating to basic money management advice. Once you’ve decided to improve your financial condition and spent some time tracking your spending, you may have come to the conclusion that your situation declines each month because you’re allowing more money out the door than what’s coming in.
Spending more than you earn isn’t feasible for the long term. However, if looking at finances from month to month, even those fully in control of finances will have some instances in which monthly cash flow is negative. Variation is possible over short periods if savings if accessible or debt is available. Over longer periods, the variation should smooth out. The only way build your wealth over the long term outside of investments is to keep your spending lower than your income after averaging out monthly variations. Certain life events may require large outlays in the short term, like buying and furnishing your first home or starting your first professional job. While there are ways to save money when navigating these events, it’s not uncommon for spending to exceed income for a short time.
If after analyzing your current finances you see that your savings is decreasing or your debt is increasing due to negative cash flow, here is how to approach the point of reversing that trend.
Make a psychological adjustment. “Knowing is half the battle.” If you are losing ground month after month, laying out your income and expenses on a spreadsheet should give you a clear indication of the situation. This might not be a strong enough wake-up call, especially if you have savings or available debt, but both of these run out. Living above your means is not sustainable indefinitely as your predictions should show. You’ve already made the commitment to improving your finances, and in order to succeed you must spend less than you earn, whether from a job or your investments.
For some people, changing a state of mind is more difficult than it is for others. Whether it’s a lack of motivation or a lack of faith, keep this in mind: Other people in worse conditions have succeeded. No matter how difficult your financial situation is right now, many people with worse problems have been able to adjust their attitude and behavior. This dedication to change is necessary for stabilizing finances. Earlier this year, readers of the blog Get Rich Slowly shared financial success stories. Reading through the comments, it’s easy to see how people in a variety of conditions were able to get past the present and improve the future. If they can, so can you.
Once you’ve made the psychological adjustment, continue with striving to spend less than you earn. Let’s stop to look at this idea from a mathematical standpoint. While there is more to money than math, the numbers form the basis of any financial decision, so this concept should always be in the back of your mind.
Net income = Income – Expense
If Income is greater than Expense, Net Income is positive, and you have a positive cash flow. If Expense is greater than Income, Net Income is negative, and you have a negative cash flow (a loss). There are two mathematical solutions to a negative cash flow. You can either increase income or decrease expenses. For many people decreasing expenses is the easier option. Many people have a steady income that may not appear to be flexible. Even if income is not flexible, it may take more effort to earn an extra $200 per month after taxes than it would to save an extra $200 month. So we’ll consider saving money first. While I’m briefly discussing these categories, each one deserves a full article just to review all the available options for saving money.
Before we get to the details, consider adopting a philosophy of frugality. Some people see this as something with negative connotations, like “cheap” or “penny-pinching,” but there are ways to be smart about being frugal. Frugality is simply reducing your desires to match your needs and making purchasing decisions economically. I try to find a balance with my approach to frugality, but needs may outweigh the concept of balance.
If you’ve estimated your expenses in Part 1-C, you’ve seen how to categorize your spending as non-discretionary or necessary and discretionary. The most obvious choice for cutting your expenses is by evaluating the necessity of your discretionary expenses.
Here are a few expenses I would categorize as unnecessary and some suggestions for reduction or elimination. Keep in mind that everyone’s situation is unique and you may prioritize your life differently than someone else. Take these suggestions but make your own call, but keep the goal of spending less than you earn in mind. Take a stab at these changes, if only temporarily to see how they work for you.
Cable television. “Cable” (whether from the cable company or the telephone company) or satellite television is usually the first bus stop on the route to financial well-being. I like to be entertained as much as anyone, but if I had to, this would be the first service to go. In fact, while I was first on the road to improving my finances, I reduced my cable television service from $80 or $100 a month to just $13 per month, allowing me to receive the most basic service to keep my internet service valid). There are a number of replacements for cable that you could consider.
Get your entertainment in the mail. Netflix allows you to receive DVDs of your favorite television shows through the mail. While you won’t be watching the shows at the same time as those who have cable, you will still experience an equivalent entertainment value, if only later. Netflix plans start at only $4.99 per month, and coupons for a free first month abound.
Over-the-air television signals are free. Unless you are in the United Kingdom, television programming is broadcast over the air and received by land-based, home-mounted antennae for free. In fact, some stations broadcast in high definition, so despite retailer’s marketing claiming the contrary, you do not need cable or satellite service to receive digital or high-definition broadcasts. In fact, over-the-air high-definition broadcasts look and sound better than cable and satellite broadcasts because the signal is not compressed or compressed less. The cable companies want to provide a vast selection of channels, but in order to fit them all into the signal, they are highly compressed, resulting in blocky pictures in some cases. Over-the-air broadcasts do not suffer from this problem nearly as much.
Vacations. One advantage in living in a “rich” country is the ability to travel for pleasure, whether within the same country or abroad. While breaks from work are mentally beneficial, they can be financially damaging. Here are some suggestions for gaining the mental benefits of a vacation without the expense.
Don’t travel as far. Airfare and lodging add up in you assessment of yearly expenses, and it can be one of the largest on your books. Rather than going to France, visit Montréal, the 10th cleanest city in the world (according to Forbes Magazine). Even better, stay local. Find a nice hotel in your area and discover their amenities.
Take it down a notch. Living close to New York City, I have access to the some of the best arts in the world. Broadway has the best theatrical shows and the New York Philharmonic is the premier orchestra. Both of these experiences are the finest in the world, but they are expensive. To save money, opt for local theater and music. The performances may not be world class, but the events will be performed by people who are very passionate about their work. Also, rather than seeing the New York Philharmonic in a formal venue, spend an evening with them in Central Park (or in the other boroughs or New Jersey) for a free concert during the summer. (I’ve been volunteering for the New York Philharmonic’s Concerts in the Parks for the past several years.)
Charity. Charitable giving is a controversial expense. Many people in this country are brought up with the suggestion that it is a requirement to give 10% of your income to those who are less fortunate. This is a fantastic idea if you can afford it. This is a matter of prioritization, and for some people, charity is a non-negotiable expense. If you’re scraping the bottom of the barrel in order to feed your children, I would start to question the validity of this approach. The best way to save money in this category while still providing help to those who need it is to donate your time and effort rather than money.
The Expensive Coffee-Related Drink Factor. Other people call this the Latte Factor®, but that term is a registered trademark. There is something to be said about changing a behavior that costs $5 a day, $25 a week, or $1,250 a year, as long as you don’t consider the job done and forget about saving money with your larger, infrequent decisions. You can cut back all you want on fancy drinks but if you still buy a house you can’t afford or a car that’s not financially practical, you’ve just undone any savings you may have gained by eliminating something that make you pleasant to be around. Here’s more about the ECRD Factor.
If you’ve eliminated as much as possible from your discretionary expenses, take a look at how you could save money while paying for the necessary monthly expenses.
Transportation. Consider car-pooling to work, school, or after-school activities for your children. If it’s time to buy a new car, buy one that’s more fuel efficient. If it’s possible, consider working from home more often.
Food and groceries. Evaluate generic or store-brand food to determine whether you could save money while still eating healthfully and enjoyably.
Insurance. Review your coverage. With automobile or homeowner’s (renter’s) insurance, you may be able to raise your deductible in exchange for lower premiums if you have savings to cover your deductibles. Shop around and you might find lower rates for the same level of coverage, but keep in mind that you want to work with a company that won’t deny your claims.
Rent. If you rent an apartment, consider taking on a roommate or moving to a different location. When I was struggling financially several years ago, I had a few options available. First, I lived with my father for a few months as I looked for and accepted a new job. I was lucky to have this option available, and I took advantage of it. I soon moved out to a low-rent apartment in a bad neighborhood. It was worth a try, but I moved out soon afterward. My next stop was a three-bedroom apartment which I shared with three other people. It was a tight fit, but my rent was less than $350 per month.
Utilities. Optimize your thermostat usage by using a timer and setting the heat for a lower temperature than you normally would and the air conditional for a higher temperature. Turn of all the lights when you’re not in a room and switch to compact fluorescent light bulbs. Ensure your windows and external doors are sealed and close your internal doors. Use power strips for your electronic equipment because otherwise they will draw power even when they or switched off. Drop your land-line telephone or your cell phone.
The other side of the equation is income. As I mentioned above, it’s usually harder to increase your income than it would be to decrease your spending, but here are some suggestions.
Maximize your income at your job. If you deserve a raise, ask for one. If not, determine what is necessary to earn a raise or a promotion and make it happen. Do your peers with similar jobs, experience, and education make more money at other companies? Consider shopping around for a new job where you can be paid more competitively.
Take a second job. This isn’t a suggestion for everyone, but a number of people I know have side jobs. A former coworker of mine wanted some additional money, so she became a bartender (not pictured here) during nights and weekends. She said the tips she received increased her income by $500 each week (and she may have been paid under the table). If you’re a technical-minded person, consider consulting during your off hours. You may find that you like this type of work and have the ability to earn more by consulting full-time. This blog is my second job.
Sell your stuff. Whether you hold a yard sale or sell your belongings on Amazon.com or eBay, you can probably earn some money for a variety of unused items around your house. I sold a few of my old college text books eight years after I graduated and earned several hundred dollars.
Each one of these options deserves an entire article because there are so many ways to save money on expenses and to increase your income. The goal is to spend less than you earn, and any way you can make that happen is a good choice. If you have a positive cash flow, over time you will improve your financial condition. This is, of course, ignoring the effect of the stock market which is an entirely different topic.
Updated November 15, 2011 and originally published November 17, 2008.