Typically, when someone moves into a position where they earn more money, they will increase their spending as well. This phenomenon is called lifestyle inflation, and it can be dangerous and easy to fall into. However, not all forms of lifestyle inflation are made equal. To some extent, lifestyle inflation is unavoidable due to changes in dependents, responsibilities, life stages, and many other circumstances. So, what is the problem? The issues arise when lifestyle inflation causes someone to ignore paying themselves first.
For example, someone who gets a job out of college may decide to buy a new 4Runner for $36,000 and trade in their old car for $6000. They may pay about $560 over 60 months assuming a 4.8% interest rate. However, by not paying yourself first they give up a future value of about $450,000. If instead for 5 years after college they continued to drive their old car and invested that $560 a month, 40 years later they would have about $450,000
To combat lifestyle inflation, you should track your expenses by making a budget and hold yourself responsible to stick to it. Additionally, if you get a bonus or raise, you should always pay yourself first. For example, if you get a 3% raise this year, put an extra 2% into your savings budget and increase your lifestyle by only 1%. Practicing the discipline of paying yourself first will prevent you from falling into the lifestyle inflation trap while also allowing some smaller amount of lifestyle inflation. It all starts with a good budget and prudent discipline to follow that plan.
Take onus of your lifestyle by building a team of people that will provide you with the resources you need to take responsibility of your personal finances. If you need help combatting lifestyle inflation or advice on what to do with all this new money you are able to save, please feel free to reach out to me or an advisor with Duncan Williams Asset Management! We can help you build a budget and can discuss other techniques and practices to help with your particular situation.