Ten years from now, how do you want to look back on this decade? In terms of my finances, it would be hard to top the last ten years. This was the decade my net worth as I measure it for Consumerism Commentary soared from below zero to $300,000. Sure, that progress pales in comparison to some people; this was also the decade that Mark Zuckerberg made his fortune, and I won’t be appearing on any Forbes list any time soon. I also progressed from earning an income of less than $30,000 while working for a non-profit organization to a six-figure income in addition to my day job.
In the next ten years, it will be a challenge for me to surpass the my progress over the past decade. But when I look back on the 2010s I want this to be the decade my life takes a leap forward in more than just my financial condition. The key to making the most of the next ten years is to start the decade off right.
It’s easy to forget the impact that habitual spending has on your net worth over long periods of time. I admit I was much better at watching my small, unnecessary expenses several years ago. At that point, at the start of the last decade, I was barely earning more than I was spending. I started tracking everything I was spending and I realized I could make some changes to help myself save money at the end of every month.
The small, unnecessary expenses
In an upcoming Consumerism Commentary Podcast, we’ll hear from David Bach who discusses his concept of eliminating small recurring expenses called, “The Latte Factor.” This concept is helpful for recognizing repeated small expenses that could be replaced with something less expensive.
Saving four dollars every weekday doesn’t sound like a lot, perhaps it isn’t worth the trouble. But the calculations tell a different story. Over thirty years, $80 a month saved by making your own coffee rather than buying a gourmet version from a store will save you $28,800. But thanks to the magic of compounding returns, $80 invested in the stock market each month, with an average annual growth of 8%, will provide you with almost $120,000 more than you would have had otherwise. This calculation also assumes the price of the gourmet coffee doesn’t change over thirty years, though I expect it will continue to increase in cost above a self-made cup, resulting in even more money saved.
Even though $120,000 will be “worth” far less thirty years from now than it is now due to inflation, and even though an average annual 8% return in the stock market is not guaranteed, this kind of behavioral change is worthwhile.
Your expensive vice may not be coffee. It could be the two books you buy each month when you could get them from the library for free. It might be your cable subscription. It may be your expensive Faberg&eavute; egg habit. No matter what the repeated offense is, daily small doses hide the true effect. Careful spending analysis or just paying attention can help catch this practice and some slight changes, particularly if they don’t negatively affect your enjoyment of life, will allow your future self to thank your current self.
The large, unnecessary expenses
Although eliminating repeated small expenses will improve your finances over time, the progress you make can be overturned with just one move. The biggest flaw with the Latte Factor and anything that focuses on changing behavior surrounding repeated minor expenses is that it ignores much more powerful forces.
I mentioned you could be $120,000 richer just by saving $4 a day on coffee. But if you buy a house you cannot afford just once in your life, the $120,000 you would have otherwise saved could be completely eliminated. As over one million homeowners realized last year, buying a house more expensive than what you can afford could result in losing this “investment.”
Likewise, if you continue leasing a new car every three years, you’re continuing to pay more money than you need to. I understand that for some, cars are status symbols. That’s true regardless of whether the car is flashy and luxurious, fast and sporty, or eco-friendly. If you want to be part of the crowd and align yourself with the expectations for owners of these cars, you will have to pay for that privilege. The automobile industry came up with leasing as an alternative so those who could not afford to buy a status-symbol car could be trapped into an endless cycle of payments and easily-triggered mileage penalties.
The silent, unnecessary killer: interest charges
It is never necessary to pay any interest — just don’t take on any debt. (I’ve already listed getting out of debt as a way to start the decade off right.)
It’s a bit difficult to avoid debt in today’s world, however. Most people use debt to finance post-secondary education, a car, and a house. Going into debt isn’t absolutely necessary for any of these things, much less necessary for buying clothes and computers. The simple solution is to save money before buying anything until you’ve saved enough to cover the purchase in cash. You could also opt for a less expensive alternative like community college rather than Ivy League or the clearance rack instead of current designer-brand fashions.
Saving for a payment in advance in full is not always practical. Although it is socially acceptable to take on debt for certain large expenses it is in your best interest to eliminate any high interest debt as quickly as possible. Here are some insights about getting out of debt quickly and here’s an in-depth discussion of the Debt Snowball.
At this time, I am enjoying my life free of debt. At some point, I may buy a house, and will likely borrow some of the money to do so. But when I do, there is little (financially) I would want more than to own the house outright and to be free of interest payments.
Let me be clear
I have no problem with anyone who continues to buy daily lattes, expensive cars, or lives life in debt. These are all choices that people make, and every individual or family’s situation is different. We all have free will and we can exercise that free will differently. I think it’s worthwhile to think about consequences and weigh all options before making these decisions, however.
This article is part of a series called Start the Decade Off Right on Consumerism Commentary. Previously: Pay off debt, open a high-yield savings account, invest for the future, do something you love.
Photo credit: Irina
Updated September 17, 2011 and originally published January 11, 2010.