In my opinion, one of the simplest ways to build wealth is to increase your income while keeping your expenses relatively unchanged. Unfortunately, it seems like too many people increase their spending at the same rate as their income. I’m not saying that you shouldn’t go out for a celebratory dinner after receiving a promotion at work. I certainly believe that it’s important to reward yourself, to celebrate the accomplishments in your life, and to make room for experiencing new things. Without doing those things, life would be rather boring and monotonous. However, I don’t recommend getting into the habit of increasing your spending at the same pace as your income. Doing so is often referred to as “lifestyle creep” and would essentially leave you in the same financial position as you were before the earnings increase.
Unconsciously increasing your expenses at the same rate as your income is known as lifestyle creep. For those in the FIRE community (Financial Independence, Retire Early) lifestyle creep is definitely on the list of things to stay away from (since it’s absolutely deserving of its own post, I’ll get more into FIRE later). Even though it might feel justified to level-up your lifestyle after being rewarded for your hard work, doing so can significantly delay your retirement and impede your ability to grow your wealth. I’ve seen it play out on a few occasions, so trust me when I say that it’s very difficult to return to the “old normal” after elevating your lifestyle.
Lifestyle creep can come in many different shapes and sizes. For some, it might be the desire to buy a more expensive car after receiving a promotion at work. For others, it might be the decision to eat out more often after receiving a pay increase. Whatever the case may be, the best approach to combat lifestyle creep is to identify it before it happens.
If you think you might be caught in the constant cycle of lifestyle creep, don’t worry. Recognizing the issue is the first step to correcting it. The next time that you get a pay raise, don’t immediately earmark the entire amount for spending. Be intentional and set aside a portion of the new income for saving and investing. The more you can allocate to saving and investing, the quicker you can reach your goals. Even if your situation only allows you to set aside 10-15% of the additional income, do it. Future-you will be glad you did.
How We Avoid Lifestyle Creep
Since Nicole (my wife) and I frequently review our goals together and stay apprised of our progress (we’ve even recently implemented budget meetings), we are on the same page when it comes to our financial aspirations. Prior to having our first child, our goal is to keep our annual living expenses between $40,000-$50,000 (not including taxes). When we make an addition to our family, we know we’ll definitely have to make some budget adjustments! If you’re interested to see how we currently allocate our spending, check out this budget breakdown post.
At our current spending level, we don’t have an extravagant life, but it’s one that we both enjoy. We make room for travel, make time for friends and family, and make sacrifices so that we can achieve our financial goals. We understand that by increasing our income and keeping our expenses mostly the same, we will be able to save and invest more money each month. This conscious decision should allow us to substantially reduce the amount of time needed to reach our financial goals and provide our family with more opportunities in the future.
How We Handled a Pay Raise
Amid all the hardships brought on by the pandemic, Nicole was fortunate enough to receive a promotion at work in June. She had been working her tail off since she started the position, and she absolutely deserved the promotion. With her new title, she received a sizeable pay increase too. When we heard the good news, we were both ecstatic! However, we didn’t plan a luxurious vacation, Nicole didn’t splurge on a new pair of shoes, and we certainly didn’t start looking for a new vehicle (Harold is still doing just fine). To celebrate, we treated ourselves to some sushi, grabbed a treat from a local ice cream shop, and went for a stroll in the nearby park.
After our celebrating had concluded, we got down to business. We felt that making sure we were properly funding our retirement was a top priority on our list, so our first action was to review our retirement contributions. As it turned out, we were actually overfunding our retirement accounts. Since we didn’t want too much of our money tied up where it’s difficult to access, we reduced Nicole’s 401(k) contributions to resolve the issue (don’t worry, she still gets the maximum employer match).
Next, we decided that it would be smart to increase the amount of our monthly contributions to our taxable brokerage accounts. These are the investment accounts that we’re be able to access anytime we desire. Our taxable brokerage accounts are the ones we would use to bridge the gap between early retirement (ideally when we are 40) and the time we reach retirement age (about age 60). These accounts will also help supplement our income with dividend payments and allow Nicole to work part-time when we have our first child (if she so decides). With these accounts having such big responsibilities, we decided to increase our monthly contributions. We determined that being able to contribute $1,150 per month to these accounts instead of the original $750 would enable us to make even more progress.
Since the income increase was solely possible through the dedication and work ethic of Nicole, we decided that she could choose to allocate a portion of her raise to a category of the budget. If you guessed she elected to increase the budgeted amount for travel, you guessed correctly! If my memory serves me, we decided to increase the monthly budget for travel from $175 to $225. While it still isn’t quite to the point where Nicole would like it, an extra $50 a month sure adds up!
Is this the first time you’ve heard about lifestyle creep? Looking back, do you notice that you’ve been subject to lifestyle creep in the past?
For those of you that are familiar with lifestyle creep, what do you do to avoid it?
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