“If it’s your job to eat a frog, it’s best to do it first thing in the morning. And if it’s your job to eat two frogs, it’s best to eat the biggest one first.”
–Mark Twain
Tackling your biggest expenses can feel a little like eating a large frog.
It is often unpleasant, you cannot avoid it, and you just can’t ignore it or put it off either.
You see, the three biggest expenses for most people are housing, food, and transportation. Americans spend about 60 percent of their monthly income on those items. And without tackling those expenses, making changes, and setting some priorities, it is hard to make progress toward financial independence.
But how can a major required expenditure be an opportunity for you? After all, if you have got to spend money on something, you just spend it, right? So, where is your option when you have no choice?
Well, the opportunity is there. We will talk further about some factors you need to know when changing your budget and setting priorities for those costs.
CONTEXT: WHAT YOU NEED TO KNOW ABOUT YOUR THREE HIGHEST EXPENSES
Let’s take the time to define some terms and explain a little before proceeding.
For instance, take housing costs. They cover a variety of items. For example, they might be rent if you do not own a property. Or they can be costs of maintenance, mortgage payments, renovation, maintenance, and repairs if you are an owner.
In total, Americans spend approximately $20,000 per year per household just on shelter. That is the most significant expense most families have.
The cost of food is the next largest household expense. It is a significant component of general living expenses. That expense includes the costs of eating out or having food delivered to your home.
Finally, the cost of transport rounds out the list of the three highest household expenses. Primary among those costs are vehicles and their maintenance and depreciation. Transportation costs can include insurance, car payments, repairs, fuel, and a host of other expenses.
WHAT ABOUT STRATEGIES FOR SETTING EXPENSE PRIORITIES?
You may say to yourself, if I can just reduce those basic costs, I can be much farther along in my quest to achieve financial independence.
That is true enough. And it is an important point.
But it turns out that there is more to this story. Strategy matters too. If sheer savings were the only thing to consider, there are people who can do a much better job than I can explain how to pare and manage expenses. For instance, see here.
But I feel there are a few unconventional strategies that are also essential for coping with high mandatory expenses and deciding what your priorities should be for spending. Here they are:
- Try to make a required expense a profit center
- Spend on needs that are most likely to maintain income or avoid costs
- Get someone else to pay for your essential expenses if you can
- Spend the most on things that increase your net worth.
- Understand what entertainment is and what is a necessity.
MAKE A REQUIRED EXPENSE A “PROFIT” CENTER
If you must spend money, it is best to make money from that cost. The most obvious place where this applies is in the housing market, where purchasing real estate to deal with housing costs is usually superior to renting, especially if you intend to occupy a property for at least five years.
While both rent and mortgage payment are significant expenses, the gulf between the net worth of renters versus buyers is staggering over a lifetime. According to the Federal Reserve, in 2019, average U.S. homeowners of all ages had a median net worth of $255,000. By contrast, renters had a net worth of just $6,300. The reasons for those differences are complex and beyond the scope of this post. To find out more see here.
When looking at the long-term economic difference between renting and owning, many families stretch their budgets to own property. The long-term impact on their financial health is too significant to ignore.
KNOW WHAT EXPENSES ARE NEEDED TO MAINTAIN INCOME
I think there is a significant link between the purchase of healthy food and financial well-being. I know, that probably seems like a stretch. But think about the connection between income and health instead to see why. Two things happen when you cannot work because of poor health:
- Your salary income ceases
- You must pay for expensive medical treatment from savings.
Medical costs are the number one cause of bankruptcy. So, if the obvious benefit of staying healthy and having a healthy diet is not compelling to you, think about the financial consequences of poor nutrition and lifestyle.
And of course, getting exercise is critical too. If you want to know more, see here.
GET SOMEONE ELSE TO PAY FOR YOUR EXPENSES
This kind of opportunity is neither obvious nor common, but it must be mentioned. Some people, for instance, use their car for deliveries, Uber, etc., or other side hustle jobs to help to pay for transportation expenses. Or they rent out their vehicle for advertisers and ride around with placards. In the case of housing, they rent their homes out when they are absent or on vacation, or rent a room for extra income. You get the idea.
PRIORITIZE SPENDING THE MOST ON THINGS THAT INCREASE YOUR NET WORTH, AND REDUCE THE OTHERS
Of the three expenditures, transportation is the one that is a pure expense. It is not a net worth generator as housing can be, nor is it a kind of insurance policy that prevents excess health expenditures and preserves income as a healthy diet can be. As a consequence, many people do everything possible to reduce this expense in order to achieve financial independence.
The price of a car is an “investment” that loses value as the vehicle gets older, wears out, and depreciates. The average purchase cost of a new car is over $40,000 alone. Other expenses come on top of that. That is why one prominent blogger has recommended that you do not spend more than 1/10th of your gross income on a vehicle.
While I tend to spend more than that for a car purchase, we keep also cars for longer than most people do. One of our vehicles is 17 years old. So, we bought it when George W. Bush was President, and iPod Nanos were all the rage. Our neighbors believe we hold the neighborhood property values down every time we take it out of the garage.
We also do regular maintenance and wash it once a year, whether it needs it or not.
The important part is that we invest the savings we get by driving the wheels off of our cars and do not pay as much as many people for vehicles in the first place. Instead, we purchase inexpensive, reliable economy vehicles.
With the growing use of home offices for full-time employment uses, people should consider whether they need cars as much and how it affects their spending choices on transportation.
KNOW THE DIFFERENCE BETWEEN ENTERTAINMENT AND NECESSITY TO SET PRIORITIES
Entertainment is important. The main thing is to avoid confusing it with a necessity when thinking about the top three expenses. For instance, food has a kind of entertainment value. Eating out is a major pastime of Americans, and we spend significant amounts of money on fast and restaurant food. There is nothing wrong with that, but it should not be confused with being a necessity either.
Redecorating a house sometimes falls into this category too. Renewing, repairing, and updating a home is essential but should not be a kind of entertainment. In general, any shopping should not double as entertainment at all–but it is for many people.
Finally, vehicles can be a fashion statement and a status symbol too. If their purchase cost results in gaining the envy of the neighbors, that can turn into an expensive way to get attention.
It is possible to spend a lot more on entertainment value instead of utility in all these cases.
SUMMARY
1. Tackling your three largest expenses, and setting some priorities is a critical part of achieving financial independence.
ACTION PLAN:
1. Look at your expenses. Find out what you spend. Include the direct and indirect costs like repairs, maintenance, insurance of things you purchase.
2. Figure out your best choices over the long term.
3. Understand that most people interested in financial independence emphasize spending money on their housing, buying healthy food, and minimizing their cost of transportation.
Disclaimer: consult with a financial professional before taking any steps outlined here. Not all advice may be suitable for your circumstances or investment style
Photo by Visual Stories || Micheile on Unsplash