The concept of the Latte Factor is one of the most divisive in personal finance. Money gurus get so worked up over whether the Latte Factor is a valuable lesson in money management, that one might think the issue were as important as the national debt. Most of the time, passionate responses pertaining to the Latte Factor are based more on book sales and page views than any rational consideration of the issue, though.
The Latte Factor is a term coined and trademarked by financial author and guru David Bach. He posits that small, repeated savings — of which people can make into habits — can aid the growth of wealth over time. The math supports this as truth: Assume you spend five dollars every weekday on a fancy, coffee-related drink on the way to your office. Now, imagine you cut out the coffee, or replace it with a $1.50, less-fancy drink. You would save at least $20 a week, or about $1,000 a year.
Take it a step further and put that money in a bank or invest it. Then, assume that you can earn a return from interest, dividends, or investment gains on that cash. Over the next ten years, you’ll have somewhere in the neighborhood of $15,000 more to your name than you would have, had you continued buying your daily gourmet drink.
Take it a step further
This concept isn’t limited to expensive coffee-related drinks, though. Any habits that result in spending money that could be deemed unnecessary can qualify for elimination due to the Latte Factor. Cook your own food rather than dining out once a week, and you could save just as much money (or more) over the same period. Cut out your premium cable package in exchange for Netflix or Amazon Prime streaming, and tuck that cash away.
Most people, however, don’t bridge the gap between reducing spending in one area and increasing savings with the difference. Unless there’s a concerted, conscious effort to transfer money from a checking account to a savings account or an investment, the money formerly spent on lattes or other repeatable expense will often just be spent on something else.
Furthermore, families that have already reduced their spending due to personal or economic situations may not have much room left to scrape the barrel. Finding additional savings can be too much to ask.
Yet another criticism of the Latte Factor is that it minimizes the importance of reducing large expenses. If a family gets into the habit of saving money ordinarily spent on lattes and uses that attitude to justify buying a more expensive car, all the work will have been for naught.
Well, I take that back: the work would have been for a more expensive car. But, in my opinion, there are about 100 better uses for that extra, squirreled cash.
Do what works for you
All spending is a choice. It’s easy to remember this when a friend refuses to spend time with you, citing the expense of the activity, while they continue to purchase unnecessary electronics equipment, for example. You can identify someone’s priorities by looking at how they choose to spend the money they have and the time they have available. If you look at your own priorities, your budget should match.
Whether you realize it or not, you’re broadcasting your priorities to the world. Spending money and time in one area of your life, at the expense of another area, is really all the evidence you need. If there’s incongruence between the priorities you think you should have and how you spend your time and money, consider changing something. Or maybe, you need to accept the idea that your priorities may not be what you expect. Your real priorities are evidenced by how you spend your limited resources.
So, what if the pick-me-up you receive by drinking a fancy latte in the morning is important to you? As long as you realize that your habit results in a hypothetical “loss” of $10,000 or more over the course of ten years, spend the money. Sure, buying a practical car that requires little care, uses fuel efficiently, and will last a long time can save money over the course of several decades. But if buying a less practical car makes you feel happy and won’t be a financial hardship — even if it means leasing a new car every three years — then go ahead.
Just remember, though: Your spending reflects your priorities.
I see this in my own spending. For example, I still drive my old Honda Civic. In one respect, I haven’t purchased a new car because I see it as an unnecessary expense. I’m more than comfortable with keeping the money I would need to buy a new car in my savings account. Meanwhile, I spend money on things other people would see as frivolous, such as photography classes and equipment, hiring a maid service for my apartment on a bi-weekly basis, coin collecting (though not much recently), and travel.
Is the Latte Factor relevant to your personal finance experience? What does your spending say about your priorities?
Updated February 3, 2017 and originally published February 1, 2017.