We talk a lot about frugality around here, but if we're honest with ourselves, building wealth and maximizing happiness isn't just about saving money and spending less. Instead, building wealth is about discovering the right balance of spending and saving so we don't feel deprived while we save, but we also don't overspend when we do drop some cash on something that we want.
This balance is crucial to master our financial lives, and it's called our spending ratio.
How do we create this perfect spending ratio? It becomes easier if you think about saving as a form of spending. Your spending ratio is the amount of money spent on two different people: your present self and your future self. Remembering that your future self will eventually become your present self is critical. How will your future self feel if your present self spends all of his or her money? My guess is not well. Not well at all.
Saving is critically important, but as the name implies, your spending ratio is about your spending, not saving. How do we bring these two concepts together in perfect harmony?
Instead of "saving 50% of your income", consider this: for every dollar spent on your present self, spend a dollar on your future self. Spending on your future includes paying down outstanding debts (student loans, mortgages, etc) and funneling money into your retirement or savings accounts. Your future self loves this kind of spending!
Source: University of Michigan, LSA
Double the cost of everything you buy
Doubling the cost of everything that you buy forces us to take a much more critical look at our spending habits. This means:
If you buy a $20,000 car, spend an additional $20,000 on your future self by contributing to a taxable brokerage account.
Before picking up that $2,500 jet ski, make your future self happy by funneling $2,500 into saving.
Pay $10,000 towards your student loans before spending $10,000 on that super bad boy grill for your backyard.
In other words, you're voluntarily doubling the cost of everything that you buy. Is that $2,500 jet ski worth $5,000? What about that $20,000 car? Can you afford to spend $40,000 on it instead? If the answer is no, then consider whether or not you truly need it, then look your future self in the mirror and seek forgiveness for even thinking about such an expensive outpouring of cash.
Source: Blue Wave Jet Ski Rentals
Sell Old Stuff Before Purchasing More
Does doubling the cost of stuff sound genuinely awful? Well, this is your lucky day because there's an alternative to using this spending ratio technique. It's called selling stuff around the house to fund your next purchase. All that crap sitting in your closet that you thought you needed? Yeah, that. Craigslist or eBay that stuff before clicking the 'Buy Now' button. If you want a $200 pair of Oakley sunglasses, sell $200 worth of stuff first.
The added benefit to this technique is clearing out your house of useless things, or things that no longer provide the same value. Think books and electronics. Video games and consoles. Computers. Old cell phones. Clothes that used to be cool last week but are now hilariously out of fashion.
But remember, sell stuff before you buy. Even with the best of intentions, buying things before selling enough stuff to pay for them is a recipe for failure. Yes, order is important.
Source: All Events
Also, understand that this is money on top of your regular contributions to retirement accounts like 401ks. When we talk spending, we mean after-tax money. Money sitting in your bank account and ready to be used to buy more stuff.
Adopt a spending ratio technique that doubles the price of everything you buy and watch your future self grin ear to ear. Spending more on your future self all but guarantees a happy, well-funded retirement, and keeps those closets of yours free of useless clutter made of things we believed would bring us happiness, but no longer do.