A Brief Guide to Money
Money – and your attitude towards it – is as important as just about anything in life.
In fact, I firmly believe that creating a healthy attitude towards money represents half the battle when it comes to leaving work behind. Not only does spending less mean that you have to earn less, but having a genuine respect for money can help you to build a successful business.
With that said, in this post I want to lay bare my ideals when it comes to money – how one should think of it, treat it, and (most importantly) spend it.
What you’re about to read isn’t an argument for frugality, nor an argument for minimalism. It’s just how I see things.
Making Consumerism the Enemy
Many of us are working ourselves into a nearly grave, all in the name of material wealth.
This is something I have come to appreciate more as I have begun earning – and spending – more money. For example, in the last three months I have rented a new flat ($2,000 per month) and purchased a new car ($1,300 per month in loan payments alone).
But it only took me a few weeks to learn a valuable (yet costly) lesson: while my new flat and my new car nice, I don’t need them.
In fact, in a way, I don’t even want them.
I want nice things in a sense that I enjoy them, but I don’t want them because of what they represent: work and stress. To purchase expensive things, you must work hard, and to afford expensive things on an ongoing basis, you must keep earning enough in the long term. Moreover, expensive things are typically expensive to maintain and replace, which in itself can add an extra layer of stress.
It’s like I’ve had the tiniest taste of the good life, and it’s left a bitter taste in my mouth. For a guy like me, it turns out that nice stuff isn’t all that.
The 80/20 Principle and Material Objects
It seems like you can’t swing a cat in the blogosphere without reading about the 80/20 principle, but I can’t avoid its relevance in this case.
Consider for example my girlfriend’s apartment.
It might seem like a strange thing to mention, but bear with me. The apartment costs $1,250 per month. It’s a nice place – roomy, with decent furniture and an en suite bathroom.
My apartment costs 63% more than hers. Is it 63% nicer? No. While you can’t really quantify such things, I couldn’t reasonably say that my flat is any more than say 20% nicer than hers.
So, I’m paying a big premium for something that’s “a bit” nicer.
Let’s take it one step further, because it’s not just about how “nice” something is – it’s also (primarily?) about how much happier it makes you. So I ask myself: would I be any less happy, generally speaking, if I lived in an apartment like my girlfriend’s? I’m sure you can guess my answer.
Which ultimately means this: in renting my flat, I am paying 63% more in the name of consumerism. It isn’t really making me any happier; it satisfies a certain material desire. That’s all.
To bring this back to the 80/20 principle, my point is this: I believe that you only need to spend a fraction of what you could spend on any given item to get most of the benefit(s). For example:
- A $3,000 car will generally get you around just as well as a $300,000 supercar
- A $30 paid of sunglasses will work just as well as a $3,000 pair
- A $1,250 per month apartment will house me just as well as a $2,000 per month apartment
Spend any more than what is necessary to fulfill your core desires, and the value of your spending in terms of how much happier it will make you decreases rapidly.
Avoiding the Spiral
Of course, you could ignore me and aspire to earn more and thus spend more. In fact, that strongly motivates some people to succeed.
But there’s a problem with this approach: nothing is ever enough. You’ll follow an endless and ultimately fruitless path, because when it comes to material ascension, nothing is ever enough. Today’s dream car is tomorrow’s norm, at which point, you want the even more expensive car.
Financial equilibrium will be the most you can hope for. If you always purchase what you can afford – not what is good enough – your appetite will grow in line with your earnings. Ten years down the line, you might earn ten times as much but have no greater liquid wealth, all because you were chasing the next most expensive material possession.
And if your income decreases – well, then, you’re screwed.
If me earning a little more these days has taught me anything, it’s that security trumps more valuable material possessions every time.
I’d much rather have enough money in my account to allow me to retire early than have a bigger house or a better car. That’s what we should be aiming for – not bigger and better things.
I’m on the way to paring my outgoings down to about $2,500 per month, which would require about $3,400 earnings before tax. At that rate, if I live to 90, I’ll spend about $2.45m during the rest of my lifetime. If I retire when I’m 65, I’ll have to earn about $70,000 per year from now until then to provide the necessary money during my retirement years. (A disclaimer for the financially minded: I’m ignoring inflation, annuities, investments, etc., in the interests of simplicity. In reality, with prudent investing, I could retire on far less.)
So, one of the big life goals I have is to shorten my retirement age. My goal is age 45 today, but I’m hoping it’ll be much shorter before long.
I should point out that my plan is not to actually retire at 45. What I am in search of is complete security – a complete absence of financial worries. (I haven’t even mentioned that yet as a good reason for battling consumerism, incidentally.)
A New Way of Thinking
So that’s the theory, but how do we put all of this into practice? Well, most of it is mindset.
Let’s consider the absolute basics: if you spent nothing, you wouldn’t need to earn anything. You may reasonably argue that spending nothing is impossible, but in terms of your mindset, that’s where you should begin.
I’m not going to tell you to start drawing up fancy spreadsheets and whatnot; I just want you to start evaluating every purchase you make, in real time, by a new set of principles.
Cost and Value
The first thing you’ll want to consider is the cost of every item you buy in relation to your earnings.
Once upon a time I considered this simple – you should figure out your hourly rate, and compare every purchase against that. So, if my hourly rate is $30 and I want a new $600 TV, I know it’s “worth” 20 working hours.
However, I have come to realize that the above calculation misses out some key variables. First of all, money earned does not equal money spent. If I spend $600 on a TV, I need to earn more like $900 (before tax) to purchase it. That 20 working hours is now 30. You need to add about 30% (or more, depending upon how much in taxes you pay) to anything you buy to understand the real cost.
But that’s not all. Every penny spent is a penny that you could have saved or invested gone AWOL.
Consider the magic that is compound interest. If I don’t spend $600 on a TV and instead keep my old set, that $600 at a net 5% investment return over 30 years becomes around $2,600.
Put simply, items cost far more than their ticket price in reality, and spending money on anything damages your future security. Therefore, you should consider each purchase accordingly.
The Only Two Questions You Need
So, you need to consider every purchase you make carefully – from the biggest down to the smallest.
Now you may argue that saving a few pennies on a tiny purchase won’t make any real difference to your financial health, and I’d agree. However, this is more about developing a consistent attitude towards purchases. You should think about all purchases in the same way in order to create a well-formed habit.
To consider your purchases you need just two (or three) questions:
- Do I actually need this? (And by extension, if not, is it going to benefit you so much that it justifies the cost?)
- Do I need to spend this much, or can I spend less and still benefit as much, or nearly as much?
I have come to realize that there is no real way of quantifiably assessing the worth of any given purchase (unless you can get the exact same thing for less elsewhere). Ultimately, you’ve got to be disciplined and rely upon your own internal calculator. It’s up to you in the end.
I cannot stress enough that the above questions should apply to all purchases. All but the most frugal of us spend money unnecessarily – whether it’s on a fancy brand of coffee, an expanded cable package, a gas guzzling motor, or any other number of things.
You shouldn’t feel like you have to make sweeping changes today, but it would really benefit you to start shifting your mindset and see where it takes you over time. You might soon find yourself changing your mind about what you really need.
I hope that with the above, I have given you a mental framework with which you can make better decisions about your purchases.
I’m certainly not the finished article when it comes to this process (far from it), and I don’t think being financially aware is something you can become 100% “effective” at. All I can say is that we can all benefit from carefully considering our attitude towards money and material possessions. Just remember that every single time you take your wallet out of your pocket from now on.
Photo Credit: Philip Taylor