After reading yesterdays post The Math Behind Your Savings Rate & Retirement Date. I’m sure you could’t wait for todays post to publish and went searching for ways to increase your savings rate. If you had similar results as my online travels amongst the financial blogsphere yielded. I bet you encountered numerous blog posts describing ways to increasing your savings rate by increasing your income. These posts usually provide a list of various ways to make more money through experimenting with different side hustles. Now, I’ll agree that we should all try to make more money and diversify our income streams. But I want to point out that the most effective way to increase your savings rate is to focus on the spending side of the equation and not the earnings side of the equation.
You’ll be Financially Independent Quicker
Reducing your expenses reduces the amount of money you’re required to stash away to reach financial independence. For example lets assume your using the 4% withdrawal rate, or enough money saved to equal 25x your annual expenses to determine when you’re financially independent. Each $1000 you can reduce your annual expenses means you’ll reduce the required size of your investment portfolio by $25,000.
Scenario #1 $20,000 in annual expenses requires 25 X $20,000 = $500,000
Scenario #2 $30,000 in annual expenses requires 25X $30,000 = $750,000
By reducing your annual expenses by $10,000 you have reduced the amount of money you are required to save to reach financial independence by $250,000. Here are some ideas to reduce your household expenses Six Ways To Save Money Around The House
Focusing on the spending side of the equation becomes much more appealing when you consider tax implications. For example let’s assume your marginal tax rate is 36%. If you earn an extra $1,000 in a year, it’s really more like $640 after taxes. If you save $1000 from reducing your expenses its like earning an extra $1360 using a tax tool like a calculator.
Reducing your spending becomes more powerful as your savings rate increases. Consider the following two individuals, both with an income of $100,000.
Individual #1, hasn’t seen the math behind your savings rate & retirement date and has a savings rate of 20% (spending $80,000, saving $20,000). To increase his savings rate to 21%, he could increase his income by $1,266 (spending remains constant) or decrease spending by $1,000 (income remains constant)
Individual #2, has seen the math behind your savings rate & retirement date and wants to reach financial independence within the next six years so he has a savings rate of 80% (spending $20,000, saving $80,000). To increase his savings rate to 81%, he could increase his income by $5,264 (spending remains constant) or decrease spending by $1,000 (income remains constant). As you can see, that’s a ratio of greater than 5:1 when you compare increasing your income to reducing your expenses.
Now, I realize that as you follow the advice on The Money Spot and your expenses get less and less to increase your savings rate, it’s going to get harder and harder. This is because it is easier cutting $1000 from a frivolous budget than from a frugal budget. But, the one thing I want you to take way from the example above. Is that devoting your time to save money is much more powerful than devoting your time to make money. So next time you hear of an individual outsourcing various household chores telling you “their time is better spent at work and paying for these household chores to be completed” they’re wrong. The importance of insourcing and reducing your expenses cannot be overstated as it will improve your savings rate, individual skill set, and possibly your marriage! Don’t just take my word for it check out what Mr. & Mrs. Frugalwoods have to say about how Insourcing Strengthened Their Marriage.
It’s surprising how liberating it is when you abolish your desire for obtaining more and more material goods. With this desire no longer plaguing your happiness and savings rate. Your savings rate will begin to increase and you will reach your savings goal much more quickly. But along the way of reducing your spending to increase your savings rate. You will well realize what i mean with the powerful effect of being happy with less as you’ll become happier and more content with your life and the stuff you already own. Because once you realize you don’t need the newest I phone, clothes, or vehicle to be truly happy. You will realize what actually makes you happy and adds value to your life. Like good times with family, and friends, or going for a walk on a warm summer day. If you don’t believe me give it a try for a month. I’m sure we will be hearing of your great experiences a month from now in the comments section.
When it comes to increasing your savings rate. The most important thing to remember is that reducing your expenses is much more powerful than increasing your income. This is because reducing your expenses provides a two tier benefit for yourself. It increases your savings rate so you have more money left over each month. And it decreases the amount of money you require to live a happy existence for the rest of your life.
If you know of any other powerful effects of being happy with less let me hear about them in the comments.