If you’ve spent any amount of time reading personal finance advice, you’ve surely come across gurus or opinionated individuals with an unwavering faith in the power of income to cure all financial ills.
“Don’t worry about the little things – just focus on boosting your income and that will cure everything”, they say.
They say that because it’s what people want to hear. Why?
- Who doesn’t want to make more money?
- Spending less money is hard for most people, and spending more is fun.
Earning more is what we’re attracted to, but it does not cure all.
Sure, earning more money is helpful (it is half of the personal finance equation, after all), but it’s not everything. You can try to boost income all you want (spoiler: unfortunately, much of income earning power is out of your control), but even if you’re successful at doing so, the natural state for most Americans is to spend what they earn and live paycheck-to-paycheck anyways.
Need proof?
A recent AP poll found that,
Three-quarters of people in households making less than $50,000 a year would have difficulty coming up with $1,000 to cover an unexpected bill.
Note that this is less than one month’s rent for most of us. OK, but less than $50,000 is not that much. Surely, if you go over $50,000, it would be a lot easier sledding, right? Not quite…
Two-thirds of Americans making between $50,000 and $100,000 would have difficulty coming up with $1,000 to cover an unexpected bill.
TWO-THIRDS!
Welp, how about making more than $100K? Surely, that must be the ticket, right?
Nope!
Even for the country’s wealthiest 20% — households that make more than $100,000 a year — 38% say they would have at least some difficulty coming up with $1,000.
So even a good chunk of those with significant incomes that are well above the national median household income have little-to-no-to-negative cash flow because they are spending every bit of what they earn. Like most Americans, their personal savings rate is effectively zero.
It’s almost as if our personal inflation rates magically meet or exceed our income growth rates, despite our income earning level. Perhaps the easier explanation is that we feel a entitled or at least extremely motivated to spend everything we earn. To not do so would be… un-American.
Here’s the thing – to build wealth, you must defy status quo. This means you must focus on your spend behaviors, no matter how much income you make. In fact, it would be wise to completely separate the two. There should not be a direct correlation between how much you earn and how much you spend. If there is, that’s when you get in trouble.
Taking it even further, why not work really hard to be good at both? Why not add superb spendthrift skills to more earning power? That’s when things can really take off for you.
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Completely agree. It’s not how much you make but how much you keep in the end, which is why lottery winners have gone bankrupt in a short amount of time because they splurge on things now that they have much more money to spend.
Lottery winners, athletes, actors, musicians, politicians… the list goes on and on. Those are extreme earner examples, but definitely prove the point.
Hi, I’m a new reader to this blog and caome across this writing. Up to date I’m still thinking to make more money to make my life easier even though I knew it already that is not the solution. Thank you for the article. No matter how much I make as long as I have lack of control towards my spending habit, it won’t have much effect.
About 40 years ago, it was explained to me that the original definition of a pension was that the person would be paid less with the promise of getting the rest of the income as payments while in retirement. Sort of a forced savings for retirement. Even if the majority of employees spent every penny they took home, they had retirement income. Later when Social Security was introduced, retirees could look forward to two income sources.
When some companies stopped giving pensions but instead arranged for the same amount of money to be available for matching in a 401K, those who didn’t match were basically walking away from some of their pay. Those companies who either allow less into the 401K than the pensions or stop pensions with no 401K as a replacement are basically giving the employees a cut in pay.
For people who only stop spending when the wallet is empty, they need to emulate what happened when there were pensions, and then go another step. First off, have a sufficient amount deducted from the pay to go towards retirement. This may mean several deductions, 401K, IRA, brokerage account. Then go the extra step and have a little more put into the savings account. The point is to never let the money get to the wallet.
The interest rates might be terrible, but getting caught with no liquidity is often even worse.
Amen to everything that the author said.
It’s all about behavior. I learned a long time ago that it doesn’t matter if you make $10K a year or $1 million, if you don’t know how to use money as a tool, it’s not going to matter. Sure, you can luck into money (i.e. lottery winners, inheritance, etc.) but if you don’t educate yourself on how to use money as a tool to make smart choices, but still – it’s not going to matter.
Lifestyle inflation is a heckuva drug … the more we do to free ourselves from the consumerist treadmill, the better off we’ll be!
I couldn’t agree more. It’s about making sure that your income greatly exceeds your expenses no matter what your income level is. Great post!
I’ve enjoyed every piece of it.
Thanks.
I agree with you. I’m not sure why there’s a debate about earning vs. spending–why not do both?–but one detail I like to point out: When you choose to save instead of spend $100, that’s $100 more in your pocket (or retirement fund, we hope). But if you earn $100 more, after taxes that translates to maybe $75-$80 in your pocket. So in that sense controlling spending is more impactful than boosting income. Of course on the other side cutting spending has inherent limits and, in theory, boosting earning is limitless.
If one has 75 more in their pocket after taxes, and saves that $75, then they suffer no apparent change in how they live their lives. That makes it a more palatable change for many people. They also have more in social security, based on what the base pay was that resulted in the $75 in their pocket.
What I think is the biggest trap from spending everything one makes is that it results in living paycheck to paycheck. That results in not being able to efficiently spend. That’s where people who have a very minor financial problem end up just a little short when the rent is due and have to wait for the next paycheck, thereby having to pay the late payment penalty. That’s where people ignore the problem their car is having until the next paycheck and the problem gets worse and more expensive to fix. That’s where people don’t have the spare cash to stock up when there’s a sale, or the resources to buy the larger, more economical size.
I have friends who have done terribly managing their money. It’s amazing how they didn’t understand the relationship between having nice furniture from a “rent to own” place corresponded to them eating cheap mac and cheese much more often than they wanted and more than was healthy. So when they come over to visit, I let them sit on my older, nothing special couch and use the TV tables to eat the steaks that I cook. When they ask why I don’t get nicer furniture, I explain that I would rather spend the money on food. The response is that since I’m wealthier than they are, I could have nice stuff. I explain that since I’m 64 and retired and NOT taking social security yet, and taking my retirement funds at a lower rate so that I will have more for later, I have only the same amount of money every month as they do. But I don’t live on Mac & Cheese. Slowly I got everyone I knew out of the “rent to own” way of doing things.
Next is getting them to go to the thrift stores. Which they balked at but I had a bet. If they got some name brand used clothing at the thrift store that no one would know where it came from. So they wore the clothes and no one had negative comments, in fact some were complemented on the new clothes. From that point on thrift stores were the place to go.
My next step is getting them to learn how to shop for the long term. I’ve taken someone to COSTCO to convince them to buy the LARGE package of toilet paper , but they say they “never pay that much for TP”. When I show them the generic Benadryl which at 600 units might cost them more than the 15 units they normally buy, I get the same “never pay that much” reply. So I give them a one time gift of taking them shopping for about $100. $100 doesn’t buy a lot of different things at COSTCO, but it buys a large quantity of the smaller number of things. What happens two and four weeks later is that there are things they would previously buy that are now stocked up, so they could use the money to buy more large packages. It only takes a couple months of this that they accumulate so much stuff that their costs suddenly drop because they run out of things to stock up on. Now that they learned about price vs quantity, the next step is price vs quality. With the money that they no longer spend on things that they can stock up, I have them spend on things that feature a better quality for the price. So they buy fish sticks or hot dogs or coffee. That’s when the message that started with getting them off “rent to own” really sank in, that they could have quality at an affordable price that didn’t use up all their funds – which meant they had money to put into savings for the future.
I’ve become a big advocate of earning more because I find there tends to be an OVEREMPHASIS on savings strategies. I know how to live on nothing, but it wasn’t till I started earning more though that I was able to build the life I really wanted. That said, building my foundation of budgeting through necessity has definitely helped me stay grounded as my income has continued to increase. Gotta work it from both ends – spending smarter AND earning more.
I agree with what you said about the OVEREMPHASIS on saving. There is so much of it. But…a lot of the “cut expenses, save more, minimal spending” articles focus on general savings strategies.
This is why so many people get turned off to the idea of saving, they look at cutting out a certain thing and thing “not for me” or “I can’t do that” so the idea of spending more becomes attractive.
Spending centers SO MUCH on behavior and personal habits (something difficult to change) and also why I think personal finance can’t necessarily be easily taught in schools as people think.
You’re so right on earning more to build the life you want. Lifehacker’s Two Cents blog has some great articles on behavior spending people should check out!
Great article. I agree. I’m all for reducing your expenses as much as possible to increase your savings rate. You can control that aspect. But to truly increase our savings, you need a mixture of both strategies. One other thing is that picking up frugal habits with low income will help you achieve insane savings rates once your finally increase the top line.
Thanks for taking the time to write the article!
Bert, One of the Dividend Diplomats
It’s not how much money you earn but how much you can save.
For us, the most effective way to “solve” our financial problems was to cut expenses first. We cut out luxuries first, and then all recurring monthly expenses. We reduced our phone bill, rent, energy bill, and eliminated any unnecessary expenses, like my Birchbox subscription.
During this time we also got raises, which did help. We were able to pay off $14,000 in credit card debt and live on just 50% of our income.
Bert said it right. You need both, financial independence becomes that much easier if you focus on both low expenses combined with relatively high income. Always live 2 levels below what you can afford to, and see no quickly your savings rate goes up. If you save $10k on $50k income, then getting a job that pays you $60k while keeping living expenses same, causes you to double the savings rate to $20k. I am ignoring taxes here for the sake of simplicity. Broadly speaking, in this example, 20% income increase led to 100% increase in savings! That’s what I call a Factorial Effect! See my article on the factorial effect in my blog.