A New Perspective on Spending and Managing Lifestyle Creep

By: Clayton Johnson, CFP®

Prior to entering the financial planning realm, I lived in the world of organizational behavior. While studying employee engagement and performance management at BYU, I learned of a principle known as a hygiene factor or maintenance factor. A hygiene factor provided by a company is an element of a job that satisfies basic needs but does not lead to increased employee motivation or performance. When removed, a hygiene factor leads to a lack of engagement and reduced performance. Examples of hygiene factors include salary and benefits, supervision, working conditions, and job security. That bump in pay feels nice, but research shows it doesn’t improve performance. Reduce an employee’s salary, and they get disgruntled, fast!¹

Clayton, you’re an advisor now. Why are you giving me a lecture on organizational behavior? Great question, my inquisitive reader! Because the concept of hygiene factors applies to how we approach our expenses and budgeting. How often do we eagerly await the time in life when we can afford the nicer car, only to find that our excitement quickly wears off after driving the said car for some time, and our base level of happiness returns to the norm? But try to make me go back to driving my college beater and I’m going to be a Grumpy Gus.

Enter lifestyle creep. Lifestyle creep is the process of slowly increasing your lifestyle and expenses as you increase your earnings and wealth. It’s a natural process, but sometimes we run rather than crawl. We need to be very careful with lifestyle creep because if we creep too high, we’ll set our “hygiene” levels at unrealistic and unsustainable levels and retirement becomes MUCH more difficult. Those who run rather than crawl often live paycheck to paycheck even when they make great money, forcing them to delay retirement longer. In severe cases, they get a big reality check when it’s time to retire and are forced to drastically cut back their lifestyle.

Tools

I have a few tools I like to use to help myself and others be more intentional with their spending and manage lifestyle creep.

1. The first tool is awareness. The tricky thing about lifestyle creep is its sneakiness. By the time you notice your spending has grown too much, it might be very difficult to cut back. One thing you can do is track your “personal inflation ratio” which is a measure of your increase in spending from one year to the next. If you want to get nerdy you can then compare it to your income growth ratio which is a measure of your increase in income from one year to the next. It’s as simple as the following equation:

(Year 2 - Year 1) / Year 1

So, if you spent $100,000 last year and you spend $120,000 this year, your personal inflation ratio would be (120,000/100,000)/100,000 = 20%. If you earned $200,000 last year and you earn $300,000 this year your income growth ratio is (300,000-200,000)/200,000 = 50%.

There is no right or wrong number here. Barring those high-expense years of home purchases or other large expenses, you typically want your income growth ratio to exceed your personal inflation ratio.

2. The second tool is the forced savings rule. You’ve probably heard of this one already. “Pay yourself first” is the common adage. It seems too simple, but often the best answers are. Establish a certain percentage of your income or set dollar amount and have it automatically transfer to savings. This is one reason why 401k plans are fantastic. You never really see the money hit your checking account, so you’re less tempted to touch it. I also recommend doing this for emergency savings or other short-term savings goals like travel, car purchases, or home repairs.

3. The third tool is what we’ll call the ideal max budget. The idea behind creating a max budget is rather simple. Sit down and decide what your spending would look like if you could afford your ideal lifestyle. Assume you can finally afford to pay for that pool boy or house cleaner, or travel to Europe every year. Don’t forget to build in savings and taxes as well. Then do some simple math to back into your ideal pay to reach the lifestyle of your dreams. When you are young you see the difference between what is and what things should be better than any other time, so it’s best to implement this exercise sooner rather than later.

What you’ll find is that you hit that ideal lifestyle much sooner than you expected. Then, when your real budget looks like your max budget, you can scale back work, increase savings, donate more, serve more, or even spend more in an intentional way, rather than ask yourself how you’re living paycheck to paycheck on $300k a year. This exercise is intended to help you take a proactive, intentional approach to your lifestyle creep and keep it in check.

4. The fourth tool is what I call the questionnaire. Its main purpose is to keep you grounded in your life’s goals and vision. It’s usually necessary to first know what your goals and vision are. I keep my questionnaire in a note on my phone and when presented with an opportunity to purchase a new shiny object, I review my questionnaire. So if one of your life’s goals is to be semi-retired at 45 and you are presented with the opportunity to buy a new boat, you might ask yourself, “Does this help me attain my goals to semi-retire at 45?” The point of the questionnaire is not to force you into a life of asceticism. Rather, its purpose is to guide your purchases to be more intentional and goal focused.

A recent study found that only 43% of Americans believe they will have enough money to live comfortably in retirement.² There are certainly many variables that contribute to a comfortable retirement, but one of the easiest variables to control is our definition of comfort. If we’re not careful, lifestyle creep can raise that comfort level to unrealistic heights and the transition to retirement could be more painful than joyful. My recommendation: Be intentional about your spending and understand how your purchases will impact your vision and goals for your life.

Sources:

A New Perspective on Spending and Managing Lifestyle Creep

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