The #1 big ticket item for practically everyone on this planet is Housing!
I generally recommend limiting spending no more than 1/3 of your family's after-tax income on housing (not including utilities.) If you're renting, this amount is simply the rent. If you own your home, it's the mortgage payment (minus interest deductions) + property taxes + HOA fees (if any) + insurance + amortized maintenance fees. If you already own a home and it's consuming more than 1/3 of your take-home pay, it may be difficult and costly to get out so it's best to plan ahead and not get into that situation when buying a home.
Check out Padmapper and Airbnb if you're looking for rentals and Zillow if you're buying a house.
If you live in North America, your car is your #2 highest expense.
Car related expenses include gas, insurance, maintenance, and possibly a car payment. Here are a few tips on how to get the most out of the money spent on a car:
- Buy used! New cars depreciate quickly in the first few years. Be sure to check the CarFax report on the car and have a trusted mechanic inspect it before buying. Shops like Firestone will usually have a deal for about $18-25 for car inspection. I'd not finance the car unless you can get a low interest rate (say 2% or under) and are hard pressed for the cash.
- Check how much it'll cost to insure before you buy it. Check with several insurance companies. If you're renewing your insurance policy every 6 - 12 months, get quotes from competing insurance companies to see if they offer a better deal.
- Don't neglect routine maintenance or it may cost you more in the long run. Change the oil every 4000 or so miles or according to the schedule in the user's manual.
- Gas mileage is often an overrated area to save money but don't overlook it. Hybrid cars generally attain over 40 MPG but the premium you pay isn't worth it unless you drive over 20,000 miles (32,000 km) a year. Do be mindful and make sure you really need it before purchasing that 15-20 MPG SUV.. it'll cost you 3 times the gas compared to a Prius.
- Here's a video by Dave Ramsey on how to better afford cars by avoiding car payments. (The numbers might not be that accurate but the general idea is solid.)
- Here are some notes on various cars (go to the box on the right: "What are OTHERS saying about Your car?")
- Debt payments: negotiate a lower interest rate if possible. If not, start by paying off the highest interest rate debt and the minimum on the rest. If you have no emergency fund, try to save 1/2 of the money left each month and use the other half to pay the debt.
- Vacations: if you have decent credit, you may qualify for various credit cards that offer 30,000 - 50,000 points for spending $1000 - $5000 in the first 3 months. If you're lucky, the card will waive the annual fee the first year. Take advantage of these offers to cut costs on your plane ticket and hotel costs. More on this in future posts.
Wait, but I want to also be Penny Wise
If you have the time and energy to micromanage your finances, more power to you! From experience, there's only so many decisions a person can make everyday in their busy lives before their judgement starts to take a beating. Psychologists call this phenomenon Decision Fatigue. In extreme cases, putting an unnecessary emphasis on saving money on the smaller things in life may eventually backfire as it becomes an uphill battle to resist your urges.
Saving money is also a place where it pays to apply the 80/20 rule. Figure out which 20% or so of your spending is bringing you 80% of your satisfaction and standard of living and avoid cutting back on those items. For everything you spend money on, ask yourself "what if I DIDN'T spend money on this?" Paying your rent and debt might not bring that much satisfaction but not paying them will bring you a house of pain (no pun intended.) Cut back on the things and services that you're spending 80% of your budget but only bringing you 20% of the satisfaction. Your goal is to align your spending so that every $1 you spend brings roughly the same unit of "satisfaction" regardless of what items.
Most personal finance authors and bloggers recommend keeping a budget but many don't keep one themselves in practice. Ramit Sethi recommends doing away with the concept of keeping budgets. I recommend a middle ground: budget your big ticket items like housing, car-related expenses, and major debt payments. If it's recurring and costs more than 10% of your take-home pay, give it its own category in your budget. Set a goal to save $X dollars every month (say $500 or maybe 20% of your take home pay.) The money left over after your big ticket items and savings goal is put into a category called "Everything Else". This is the money you use to pay for your daily lattes as well as smaller recurring expenses like gym memberships.
I find it easier to keep track of my major expenses while not being bogged down in details with this approach. If you have the spare time, you can budget your smaller items.
Hopefully, you've gained some insight on better optimizing your spending from this article. Prioritize your efforts on the big ticket items is the bottom line (and move on to the smaller expenses if it's worthwhile.) I will expand on several of the concepts here in future posts (as well as provide some Investing and Productivity tips.) Thanks for reading and stay tuned!