The stuff you own ends up owning you.— Chuck Palahniuk from his debut novel Fight Club
Decreasing your expenses increases your saving rate power.
Income is money coming into your bank account. It’s your salary. It’s the rent your tenant pays you to live in your rental property. It’s the dividends that companies pay you for owning a share in their business via the stock market. It’s the money generated from other businesses you have. Income is a good thing.
Expenses are the opposite to income. Expenses take money from your account. Expenses are also known as outgoings or liabilities.
The trick to getting rich is increasing your income and reducing your expenses. The more money you have coming in and the less money you have going out results in a surplus of money in your bank account which you can do something with. Such as:
Debt – You can pay off more debt, if you’re still in debt.
Emergency fund – You can save more in your emergency fund until you get six months’ worth of expenses saved up.
Savings rate – You can increase your savings rate and put more money into the stock market to buy more units of low cost index funds, such as the ones Vanguard offer.
Pension – You can add more money to your pension every month to save for retirement, which results in reducing the tax you pay.
Increasing income is achievable; you can ask for a pay rise, you can find a different job paying more money, you can start a small passive income business; there are a number of options. But maybe at this current moment those options are not available. One way to create more surplus money each month is to reduce your expenses.
Reducing your expenses is in your control.
There are two types of expenses.
Fixed expenses – these are usually monthly expenses, such as gas and electricity, mortgage or rent, gym membership, Netflix, curry club monthly dinner, council tax etc.
Discretionary expenses – lunches, petrol, Friday night drinks, visiting the pictures on a Sunday afternoon when it’s raining, buying a new pair of shoes, the daily Mars bar.
What you need to do first is write out all your fixed expenses, down to the last penny. A good document to use is Pete Matthew’s Meaningful Money Budget Planner. Here you’ll be able to plan your entire financial life on a single page. Also, he has a brilliant podcast, that I thoroughly recommend, and an amazing book.
Once you have all your fixed expenses written down, put them in order from highest amount at the top to lowest at the bottom. Take a look at the total amount of what all these fixed expenses equal, I bet it’s a high figure.
Now for the fun part. Your job is to remove or reduce these expenses from your life.
To remove the expense ask yourself a couple of questions, such as when did I last use this product/service and what value is it bringing to my life? An example is Netflix. If you haven’t watched Netflix this month then go to your Netflix account and cancel it. That’s at least £8.99 a month saved from now on. That’s a whopping £107.88 a year. Over 10 years that’s £1,078.88 saved. The famous blogger Mr Money Mustache has a great calculation for monthly expenses. He likes to show you how much an expense is costing you, rather than investing that money in the stock market at 7% compounded. He takes a monthly expense and multiplies it by 173. So if you invested your £8.99 Netflix subscription into the stock market over 10 years, it’s actually costing you £1,555.27! Netflix has some really great content, but even having Nicole Kidman and Leonardo DiCaprio acting live in your living room isn’t worth £1,555.27. If you don’t use it, remove it.
Removing expenses is easy, as you just cancel the product or service. But what if you need the product, such as electricity? Most of us can’t build a solar panel station in our garden to power our homes with electricity. What you can do though is look for a different provider that offers the same service or better, at a lower cost. Use comparison websites such as Money Savings Expert to get information about the best deals. Or simply call your provider and ask for a better deal. Tell them you are considering leaving and want to know what deal they can offer. Always ask for a ridiculously low price, they can either say yes, which is great, or they can talk you up slightly, and it’s still great as you’re still paying less. Or they can say no and you move to one of their competitors and put a nail in their coffin.
This exercise should be conducted regularly as these providers have a sneaky way of nudging up the prices by a pound or two every six months, So, if they can raise them you can also reduce them. You can also do this with debt, especially debt such as credit cards. Call your credit card company, tell them you want to move your debt to another credit card company as they’ve offered you a 0% interest rate for 3 years and ask your provider if they can offer something similar. It costs these companies thousands of pounds to get a new customer. The last thing they want to do is lose an existing customer. If you can get even 12 months worth of 0%, that gives you a full year where you’re not paying interest on the debt, so you can overpay on your principal for that year and get out of debt faster.
Discretionary expenses takes a little more skill. First of all you need to know what you’re blowing your surplus money on. Is it cakes or cups of expensive tea? Is it a vinyl record habit you just can’t quit, is it getting the odd taxi to work when you get up late, is it buying pay per view boxing matches that make you wait up until four in the morning and are over in the first round, is it that three in the afternoon packet of £1.50 crisps that you buy every day?
Whatever it is, you will first need to track your discretionary expenses. Do this for a month, write down every single thing you buy, you can use a credit card or debit card for this and tot it up at the end of the month, but I find writing it down manually either on paper of tapping it into my mobile telephone works better as there are some things that don’t accept credit cards, like the vending machine at work.
Once you’ve tracked how much you spend at the end of the month add it all up and categorise the items, such as any snacks you purchased, call that snacks; any meals out in restaurants, call that restaurants; or however you want to word it. The trick is to group expenses so you can see where the damage is. If you’ve blown £400 in restaurants this month, then immediately that’s a discretionary expense you need to cut. Instead of eating lunch in restaurants five times a week, cook more food at night and bring the leftovers in the next day for lunch. If you buy a tea at an expensive coffee shop in the morning, bring your own tea from home in a thermos, or buy a box of teabags and leave them at work, if, or course, your company doesn’t supply teabags. And if they don’t supply teabags, get out of there quick! There’ll be no huge pay rise coming your way.
Once you cancel or reduce your fixed expenses, and stop or reduce your discretionary expenses you’ll find you’re floating on a sea of extra money that can go to paying off debt quicker, building your emergency fund of six months’ worth of expenses or investing in your pension or the stock market for later in life. And that’s not a one off thing, that surplus of money will be there every month. Your job is to put it to use. Make it work for you to earn more money.
One analogy I like to use is imagine your bank account is a bucket. When you get paid you fill it with water. Each expense is a hold in the bucket and the water trickles out. If you can plug those expense holes then more money will stay in the bucket until one day it overflows out the top rather than through the holes.
Murder those expenses, because they’re doing their best to murder the financial you.