How to reduce spending and start saving

My philosophy is that how rich you are depends not on how much you make, but on how much you spend. If someone earns $80,000 a year but spends all of it, they are less well off than someone making $60,000 who spends only half of that and saves the rest.

You might ask how someone who spends less can be richer. It depends on your definition of financial richness. I think that richness can be expressed in two ways:

• Financial richness: you know that are on track to save enough for retirement, you have an emergency fund, and you have low rates of debt. Overall, you can feel confident that you won't end up running out of money in retirement. You can handle any emergency expense that might come up, like a car repair.
• Material richness: you spend money on products and services now. You might not be saving enough for retirement, and might have a bunch of high-interest debt to pay for your lifestyle.

Everyone has to make a decision about what type of richness they prefer, and how much they are prepared to compromise on the other type. In effect, you have to make a choice between enjoying the fruits of your labour now (by spending the money you make now) versus enjoying them later (by saving for retirement and spending it later). In practice, these two are not exclusive but you need to get the balance right.

I have a preference to work towards financial richness. This doesn’t mean stopping spending, or living like a hermit. However it does mean avoiding unnecessary expenses, and spending money wisely. This article is about how you can reduce your spending and increase your savings for the future.

If you want to reduce your spending now and start saving, how can you do that? You probably have three types of expenses, each of which requires a different strategy. The types of expenses are regular low value expenses, occasional big-ticket expenses, and other expenses.

Regular low-value expenses

These are things you buy every day or week or month, and don’t cost a lot. Think of your daily lunch at work, or a coffee on the way in, or newspaper you buy on Sunday. With these types of expenses it is natural to think that they don’t cost much so how much can saving money really help? Surely a coffee a day doesn’t impact your long term ability to retire early. But the fact is that regular low-level expenditure does add up over years and decades. Even more importantly though is the psychological impact. If you don’t think about each small expense, it is easy to get into the habit of not thinking about what you are spending. If one coffee a day ir okay, why not two? If lunch out everyday is okay, why not dinner out every day as well? It is a slipperly slope towards spending all your income on little things.

What can you do about regular low-value expenses? Think about whether you need to spend the money at all. Do you need a coffee every morning? If you enjoy drinking coffee, why not limit yourself to one morning a week rather than every day? Could you reduce the amount you spend? If you buy lunch every day at work, could you switch to a lower cost meal? Or make your own lunch and bring it in? Or if making entire lunch is too much, what about bringing in some fruit for a snack during the morning so you aren’t s hungry at lunch time?

There are plenty of ways you can reduce spending, but one factor that will reduce your ability to make a change is habit. Habits are of course something you are used to doing. Many times, your regular spending becomes more of a habit than a need. Breaking a habit can be difficult. I used to eat the most expensive dish for lunch. It was a habit, and it made my lunch decision easy – I didn’t have to think about it, I just went to the counter and ordered. But I wanted to save money, and there were plenty of other options at lower cost. To change required breaking a habit, and going from a comfortable, unthinking process to a new process and having to think about what I wanted to order each day. It took a while to break the habit and feel comfortable with the new approach, but it works if you stick at it.

Occasional big-ticket items

In contrast to small value habitual spending, big-ticket items tend to be occasional expenses. You aren’t trying to break a habit here, but instead spend less on these large purchases. There are three approaches I take to big ticket items

• Do I need it? Many times, a big-ticket item is not needed. I don’t need a new flat screen TV because my 24" regular TV works fine. That doesn’t stop we wanting a flat screen TV, since it would be newer, have more features, fit better into my house and so on. But I don’t need it. I should wait until my old TV breaks before I buy a new TV.
• Can I spend less on it? If I do decide I need a big-ticket item, my next objective is to figure out how to pay the least for it. For a TV, for example, do I need a 42" model when a 36" would be adequate? Where is the best value place to buy it – somewhere online rather than a local retailer? This approach is all about reducing the amount I spend.
• How do I get best value over the long term? This is all about making sure I buy a good purchase for the long term. For example, it is false economy to save money by being an unbranded item that breaks after a year, when I could spend some more for a better brand item that will last ten years or more. In some ways, this objective opposes the previous one which was about spending less: this one is about spending more for long-lasting quality.

Other expenses

Then there are other expenses, from occasional (gifts at Christmas) to regular (electric bill). Of these, I am concerned most about regular bills. It is easy to get into the habit of paying a bill and not notice how much it adds up to over the years. Some bills are necessities, such as electricity, and all you can do is try to reduce them. But others are luxuries. Do you really need a Netflix subscription, or premium TV channels? Perhaps you do get enough use out of these to justify the expense, but if not, these are easy to cancel and can add a lot of extra money to your savings.