Without looking at any statistics, would you say that you spend more, less, or on par with the average American?
As I was reading Set for Life by Scott Trench, it became extremely clear to me that my spending was definitely under control and that I have better than average spending habits. Some things from the book seemed super obvious to me because I tend to pay attention to my finances, but then I thought about countless friends and family members who hadn’t taken the time to examine their spending patterns.
For this article to be of any use, you first need to take a look at your own spending patterns to get a feel for where you stand in relation to your counterparts. Stop reading and take a few minutes to track your habits.
Step 1: Look back at your credit card and bank account statements. After you get paid, where does your money go?
Step 2: Categorize your spending. What are the general buckets that you would put each expense under?
Step 3: Where do you find most of your paycheck going? Luxury items? Necessities? Things you call necessities that are actually luxury items?
Step 4: Are these expenses fixed or variable? Fixed means that month to month the cost will remain constant, for example, your mortgage costs roughly the same amount every month. In contrast, the word variable implies that the price can fluctuate. For instance, the amount of money you spend on gas is variable because sometimes you use your car more than other times.
Step 5: Predict. Are you spending more, less, or on par with the average American?
The book Set for Life identifies three main categories where Americans spend the majority of their money. If you used a pie chart to break down this information, you would find that almost two-thirds of it come from the notorious big three: housing (33%), transportation (17%), and food (13%). Each of these groups appear to be necessities in life, but there are ways to reduce the amount you spend on them if you look deeper.
Housing is easily the biggest expense of the average American. In fact, it’s nearly double the next closest category which shows that this is obviously an extremely high priority. It makes sense though, because we all need a place to live. But does it really need to be one-third of what we make?
Many of my friends and fellow millennials are attracted to living in major cities (myself included). There’s tons of stuff to do in cities compared to most suburbs, jobs tend to be more abundant, and there are more millennials to interact with. This is what we call a no-brainer decision, right?
Wrong. There are several factors that need to be considered when determining the best living situation for you personally.
1. To Rent or Not to Rent? That is the Question!
Upon entering the workforce, we have a huge question to answer: to rent or not to rent? Based on my own personal experiences, I’ve found that at this juncture most people choose to rent. You don’t necessarily need the best credit and the barrier of entry seems pretty minimal. With limited savings, first and security seems pretty doable in comparison to a down payment on a house. There’s also far less responsibility: who wants to fix a toilet anyways?!? Let’s look at an example of how this plays out.
I have a friend who lives in the posh part of Boston for millenials: Southie. It’s a quick train ride downtown and has great nightlife without going far. Alex rents a one bedroom apartment for about $2000 a month. Each year, he spends $24,000 on housing and at the end of the year. Over the course of just 2 years renting (assuming he stays put in his current situation), he will spend $48,000 on rent. Aside from a small tax deduction Massachusetts allows for renters, Alex will never see that money again. Is that worth living in the cool part of the city? For some, maybe. Definitely not my style though.
What if, instead, Alex had done what my friend Matty did and bought a house?
Matty lives in an up and coming city 15 minutes away from downtown Boston by car. He used an FHA loan to buy a starter home which cost him about $400,000 to purchase or about $2,500 a month PITI (principal, interest, taxes, insurance). Matty did need to come to closing with $14,000 (an FHA loan requires 3.5% down), but now he owns something worth $400,000. He will also have to pay for things that break in the house, but as you’ll see, Matty will be able to build up reserves pretty quickly.
Unlike Alex, Matty lives with 2 roommates, making his own out of pocket payment of $833 a month or about $10,000 a year. In other words, Matty’s roommates are helping him pay down the majority of his mortgage, plus he gets to write off all interest on his mortgage when tax season comes around. Perhaps the best benefit of all is appreciation, or what real estate investors like to call “icing on the cake.” Although a home’s value doesn’t always go up, Matty’s did because he did his research and bought in an up and coming area. Now, after just two years, the house he paid $400,000 for is worth $440,000 (10% appreciation). Not even considering the loan pay down, Matty has already made $40,000 on something he spent just $14,000 for up front.
At this rate, Matty is by far surpassing Alex in wealth accumulated and in savings. So you tell me, should you rent or buy?
In the aforementioned example, my friend Matty lived with roommates. This is an easy way to reduce expenses while ultimately having what you want in terms of a living situation. If Alex had lived with a roommate, he might’ve been able to reduce his monthly living expense from $2000 to $1000. Over the course of just 1 year living in a slightly more uncomfortable situation, he would have saved up $12,000 in rent. This paired with any other savings he had accumulated would be enough for a down payment on a similar sized home to Matty. Can you deal with being uncomfortable in the short term to get what you want in the long term?
If you recall from my example, Matty decided to live in an up and coming city just 15 minutes away from downtown Boston. Although still in close proximity to downtown, the price of housing decreases significantly enough for a first time home buyer to find somewhere suitable to live. If Matty had moved even further from the city, this price of housing would continue to decrease and open up more opportunities. This is true for both buyers and renters. How much does proximity matter to you? Is this financially feasible?
There are ways to dramatically decrease the cost of commuting. Instead of focusing on drastic changes that will throw off your lifestyle, I’m going to focus on things that are relatively easy to do and require little change to your life.
If you drive to work, chances are that you spend a decent amount on gas, insurance, and a monthly car payment. One way to reduce these costs is to carpool with a significant other, friend, or colleague. In some cities, there are highway lanes dedicated to people who carpool, which will save you time getting to your destination. It also has the potential for saving money on gas by alternating who drives or having the passengers pay for gas. Another way this saves you money is by reducing mileage on your own vehicle if you alternate drives. This can save money on maintenance like oil change which is based on mileage and may also help mitigate the risk of repairs that occur as cars get older.
2. Public Transportation.
Most major metropolitan areas have at least one of the following public transportation options: trains, buses, and even boats. When weighing the costs of public transportation as an alternative to driving, there might be more inconveniences like stopping frequently, but there are also advantages.
Some advantages of public transportation are time leverage and cost. If you don’t have to drive to work, you don’t have to worry about distracted driving. You can literally nap on a train, read a book, or even catch up on emails to get ahead for the work day. In addition, taking a form of public transportation is often far cheaper then driving when considering the costs of operating a car.
3. Work Remotely.
The best option for commuting is one from your bed to your home office. Total commute time: under 5 minutes. Perhaps the only benefit of the COVID-19 outbreak is that now most employers see that working remotely is feasible. As employees, there is a very strong argument to be made for working remotely even when the pandemic is behind us. You can cite that the precedence has already been set (you’ve already done it) and that you have proven to be equally if not more productive from home.
This makes your commute costs zero and also helps you to further leverage time. If the average commute is about an hour (round trip) and you no longer have to commute, you now have an additional hour in your day to enjoy as you please.
Like housing, food is one of our basic needs. Eating is essentially unavoidable and inevitable, but that doesn’t mean it has to break the bank.
Cooking and eating at home is certainly the most cost efficient method. Groceries are clearly cheaper than spending money at a restaurant, so there’s not much more that needs to be said here. However, people like to spend money for convenience, which is why so many people love going out to eat. Let’s take a look at a few different approaches that will make eating more convenient for you and more cost efficient.
1. Meal Prep.
Rather than cooking every night of the week, spend 1 day creating a menu and preparing what you’re going to eat for the whole week. If you’ve already gone grocery shopping, the only other things you need are a few hours to prep, and some tupperware containers. If you meal prep, there’s never an excuse for going out to eat, it’s already made and ready to go.
This is a great option because it is not only cost effective, but saves so much time during the week. After a long day of working, commuting (or not if you decide to take my advice and work from home), and dealing with other life obligations, no one wants to cook. Rather than spend an hour cooking every night, you’ll be able to relax and enjoy.
2. Blue Apron and HelloFresh.
For those who don’t really like grocery shopping or need help with recipes, Blue Apron and HelloFresh are awesome. It gets delivered right to your house with all the needed ingredients and can be combined with the meal prep strategy. It is more expensive than strictly grocery shopping, but at prices like $8.99 (HelloFresh) and $9.99 (Blue Apron) per meal it’s significantly cheaper than going out to even the most inexpensive restaurant.
Similar to other meal delivery options, but with less work. Freshly allows you to choose your meals online and then has them shipped to your house, ready to go. They are microwaveable so there is no meal prep necessary and costs vary from $7.99 to $11.50 per meal.
4. Going Out to Eat on a Budget.
For whatever reason, there are some people who want to go out to eat multiple times per week. If this is a lifestyle choice that you want to continue to make, set a budget ahead of time and stick to it. Instead of going to a place that costs $30 per meal, go to a place that costs $15, or design a way to mix it up while staying under a certain amount. Although not advised by itself, it is a nice change of pace and if done on a budget in moderation, then you can still reduce your expenses.
Focus on the big things, not the small things. By taking care of the big three (Housing, Commuting, and Food) you will be able to save up more money to pursue financial freedom and grow your savings.
Let me know what you thought!