Last but not least…spend the rest!
Having first paid yourself and next paid your living costs, the remaining cash each month is considered discretionary funds to use however you please. No lectures here…you have done everything right to this point so what’s left is yours to spend entirely.
Discretionary spending is generally variable and optional. These elective costs include dining out, drinks and entertainment, housecleaning, travel, clothing, and gifts. This also includes longer-term spending such as purchasing another vehicle or taking an international vacation. The differentiation of these expenditures from the previously discussed living costs is that discretionary costs can be easily cut back in times of hardship.
How much remains to spend
To identify how much you have available for spending, subtract your total living costs from what remains after you pay yourself first:
Net pay – living costs = discretionary funds (to SPEND)
Net pay is all of your income including your paycheck (take-home pay), other sources of income such as investment receipts or net rental income, less any payments to yourself made outside of your paycheck (such as IRA and HSA contributions). If you are married and/or share finances with your significant other, their paycheck and income are also included in net pay.
How to spend the rest
Spending freely is important here as you are being rewarded for paying yourself first and isolating your living costs. However, it is imperative that you spend only what remains each month and no more. Spending more than you have is overspending, the same result often brought on despite budgeting.
The surest way to prevent overspending is to remove your discretionary funds from your primary checking account. In doing this, what remains in that account is dedicated to living costs which you have already isolated – there should be no surprises. Discretionary spending with cash eliminates the need to track expenditures in an effort to prevent overspending.
Remove your total discretionary funds from your primary checking account as follows:
- Transfer into other account(s) intended as savings for big-ticket items such as:
- Down payment for the purchase of a home
- Vehicle purchase
- Withdraw remainder in cash
Use envelopes. Use jars. Buy and use gift cards.
While charging to a credit card provides ease of use and possible travel or other rewards, understand that an additional layer of discipline accompanies that use. If you use a credit card for these discretionary funds, be sure to use one separate from the two cards used for living costs.
In deciding how to spend these discretionary funds, you might consider using them strategically to lower or avoid increases to living costs. Examples include:
- Saving for and buying a car without financing as a car payment would create a monthly debt obligation and increase your living costs.
- Saving for the down payment on a house purchase. The higher the down payment, the lower the monthly mortgage payment (particularly if you can avoid private mortgage insurance).
- Paying extra against credit card or other debt, eventually eliminating those required monthly payments.
Wrangling more funds to spend
If you find that you don’t have enough funds remaining for a reasonable amount of spending, you have some options:
- Revisit your living costs to evaluate where you may renegotiate or trim these back.
- Pick up a “side-hustle” to provide additional income.
Avoid reducing payments to yourself (see Pay Yourself First) at all costs. Do not reduce your tax-advantaged savings in an attempt to fund discretionary costs: this would violate our new and improved definition of savings and thwart your priority of getting ahead.
No more budgets needed folks…just spend the rest.
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