Lifestyle inflation is a personal finance situation in which a substantial increase in your income doesn’t translate into a commensurate increase in your financial health because your expenses increased as soon as your income increased. The traditional formula for financial health is that your income should be higher than your expenses. Hence, an increase in your income in the form of a raise, a new job with better pay, an inheritance from Aunt Sally, or winning the lottery should propel you into a position of financial abundance.
However, many people often find out that their expenses has crept up to match their income and that they are living from paycheck to paycheck even with the higher income. This piece seeks to examine four tips for avoiding the trap of lifestyle inflation.
1. Choose your friends wisely
Everybody has an innate desire to keep up with the Joneses – we all feel jealous about money to one degree or the other. Hence, it is normal that you’ll subconsciously try to match the spending habits of your friends – you could even be tempted to spend more to show them who’s the boss. However, you won’t be going over the top in your expenses if your friends live modestly and their expenses are not over the top.
More importantly, you’ll need to remain grounded in knowing the difference between needs and wants even after your income starts to increase instead of putting yourself in needless competition with people whose tastes are higher than yours.
2. Know that a raise doesn’t usually mean much
Many people fall into the trap of lifestyle inflation because they think they now have more discretionary income. Falling into the lifestyle inflation trap is especially easy when you get a raise at work. The problem however is that a raise might sound impressive on paper but it is very easy to overestimate its actual ability to upgrade your lifestyle.
For instance, a $12,000 annual raise sounds impressive and it could enough as a down payment for a new car. However, $12,000 annually is equal to $1000 per month – when you factor in taxes of about $400, you’ll be left with about $600 per month. Hence, the $12,000 annual rate is actually worth about $150 per week – it is a decent extra amount but not quite enough reason to buy a new car.
3. Deal with debt ASAP
People tend to unwitting rack up debt soon after an increase in their income; in fact, they often end up with more debt than they had before they got a raise. It is easy to start racking up credit cards debts, auto loans for a newer car, and picking the tab every time you eat out with friends just because you got a raise. The main reason behind the increase in debt is that people have a false sense of security that they can afford the debts. However, a raise is not a license to rack up debt; rather, it should be a tool to pay down debt. Instead of racking up different kinds of debts from multiple lenders, you should get a personal loan and consolidate your debts into a single source. A single loan makes it easy to keep tab of repayments schedule; hence, you won’t have to worry about falling behind and hurting your credit.
4. Make the extra money untouchable
If you are currently comfortable and happy (both relative) with your standard of living, you’ll need to rein in the urge to change your living conditions – you should strive to save the extra money instead. It is easy to spend money that is within your reach; in fact, it is normal to want to spend money that you can easily access. However, you can improve the odds that you’ll actually save the ‘extra’ money by making the money untouchable. You should consider setting up automatic deductions into a separate savings or investment account. Automatic deductions means that you don’t get to actually see the money; hence, you are not likely to develop a ‘false sense of wealth’ that could make you spend the money.