Save Money By Thinking in Disposable Income

Most people view purchases compared to their paycheck or the balance in their bank account. But, it’s more important to view purchases compared to your disposable income.

Disposable income is the money you have left over after you invest, pay taxes and all the normal bills.

For example, the last time you asked yourself if you could afford that $100 purse, or $70 video game you could compare it to your paycheck, “Hey I make $4,000 a month so $100 is tiny.” Or you could compare to your savings “I have $1,000 in savings, I deserve a little something for myself.”

But I would argue the way you should look at these purchases is compared to your disposable income. For example, say you make $4,000 a month and after investing 15% for retirement, all your taxes and standard expenses (mortgage, insurance, car payment, groceries, phone bill, etc) you have 10% left. That is your true disposable income based on your current lifestyle. $400 per month. That’s it to fund extra savings, vacations, gifts, everything else. All of a sudden that $100 purse looks expensive. It’s worth ¼ of your monthly disposable income. You’re working for a week for that purse! Is it worth it? Would anything else make you happier?

There’s another benefit of looking at disposable income. It makes any increase in income, or savings feel gigantic. No longer will you be unimpressed with a 3% raise, you’ll see it for the mighty financial leverage it actually is. Let’s assume as before you’re making $4,000 per month, or $48,000 per year. Then you get a 3% raise. Doesn’t sound like a big increase but that works out to an extra $120 per month. Take off 30% for taxes and you have an extra $84 per month. It doesn’t sound big, but that’s a 21% increase in your disposable income ($84/$400). That’s huge. The same logic applies to cutting your spending. If you can reduce your housing, car or insurance costs you can make meaningful increases to the money you have left for paying down debt, vacations and improving your life in any way you choose.

So take the time and figure out your disposable income. Then try and reduce any of the expenses to increase it. Finally, when you’ve added something into your online shopping cart, or you’re in the store compare the purchase to your disposable income. Is it really worth half a month of work?

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