It’s the day after Melbourne Cup, so for some of you it’s the perfect time to ask if you know the difference between essential and non-essential expenses when it comes to spending cash? Honestly?
In a nutshell, non-essential expenses are luxuries that aren’t required for survival: holidays, designer clothes, concert tickets, magazines, treats.
Essential expenses are vital to meeting core needs: rent/mortgage, food, car, home insurance, rates and electricity.
I see so many people who struggle to save money, yet always have enough to eat out, pay for Foxtel and spend weekends away.
Often people blur the distinction between lifestyle spending and spending to live.
People in this predicament do not know how to manage their profit and loss or in finance speak – their P&L. In accounting speak your Income – Expenses = Profit/Loss.
If you have a profit by the year’s end, congratulations! Your expenses are less than your income and you are living within your means.
If you have a loss by the year’s end, your lifestyle exceeds your income. You are living above your means.
Often, people’s expenses are just slightly higher than their disposable income – about 5 per cent.
So if your disposable income is $100,000, you will have a $5000 loss by the year’s end.
In isolation, this deficiency is not too significant. However, if it occurs year after year, the loss could accumulate to $50,000 in 10 years.
Instead of being proactive and dealing with their loss, people often continue to live the life they enjoy by taking on extra debt. They redraw their home loan and rely on credit cards – and their debt soars.
So how can you avoid running at a loss?
Take an honest look at your spending habits. How do the decisions you make every day impact your ability to build your wealth?
Distinguish between what is essential and non-essential.
Do you really need a weekend away every month? Is it really essential that you have a cleaner, attend cello classes, and more shoes?
These things are pleasurable, but the pleasure is short term. We are often left wanting more, so we fill the void by spending more.
Every time you go to spend money on something, ask yourself, “Do I really need this? Is it truly important to me and my goals? Or is it an unnecessary expense?”
Managing your profit and loss doesn’t mean you can’t enjoy your money and enjoy the odd splash.
It’s about understanding what is truly important to you and getting rid of the rest. It’s about making the conscious decision to say no to non-essential expenses and building your wealth.