Evaluate Your Expenses
Earlier this week I wrote about the effect of investment fees on your returns. The upshot was that if you really want to understand how damaging high fees can be, view them in the context of your returns not your portfolio balance.
Similarly, I want to encourage you to think about expenditures in the context of the income that your investments can produce as opposed to the size of your bank balance (or your credit limit).
Let’s say that you’ve been saving and investing and have built a portfolio of $500k. Relative to that princely sum, a $200 cell phone bill doesn’t look too bad, does it? But what if you view it in the context of the income that your portfolio can produce.
Using the age-old 4% safe withdrawal rate as a proxy for the annual income that your portfolio can provide, you’re looking at somewhere around $20k/year. Now multiply that cell phone bill x 12 months. Hmmm. $2400. That’s a full 12% of the income that your portfolio can provide.
Suddenly that not-so-scary bill looks a good bit more scary, doesn’t it?
Said another way… If you wanted to endow your life you’d have to set aside $60k to support that cell phone bill. Now scale that up across all the apparently inconsequential spending decisions that you make on daily, weekly, or monthly basis. Think trips to the coffee shop, cable TV, car payments, etc.
Are these things worth the cost? Maybe, maybe not. But once you start doing the math, I guarantee that you’ll start thinking twice before opening your wallet.
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Modified on July 1st, 2012 - One Comment
Filed under: Frugality, Saving & Investing
About the author: Nickel is the founder and editor-in-chief of this site. He's a thirty-something family man who has been writing about personal finance since 2005, and guess what? He's on Twitter!
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June 20th, 2012 at 5:58 pm
Great way to look at the question of taking on seemingly inconsequential–on their own–recurring expenses. Almost no one drops expenses like a costly smartphone plan or premium cable once they’re taken on. Unless you plan to drop all this stuff when you reach the point that you’re depending on your nest egg for living expenses, you have to either save (a lot) more or keep earning money to pay for them.