Figuring out how much money to allocate to certain expenses when compiling a cash flow statement is tricky. You obviously don’t want to overspend. Be responsible with your spending. But what does that mean? The aim is to enjoy certain luxuries without going into debt while maintaining a healthy savings account.
The first rule of spending is to never talk about your spending. I’m joking. Actually, the first rule is to never use credit cards or other forms of debt to finance a purchase. That includes big purchases such as cars. In fact, when I implemented this rule for myself, it meant that I needed to stick to it for all the goods that I wanted to buy.
Cars
Many people’s fascination with cars has resulted in them spending crazy amounts. In some cases, people buy cars that cost more than $30,000 or even $50,000. That’s a tremendous amount of money to spend on a car, even if you’re making six figures annually. The worst part is that most of those people finance vehicles.
They don’t have the funds to purchase those exquisite vehicles, so they use borrowed money. The average payment for a used vehicle in the USA during 2022 was $500 and $700 for a new vehicle. Keep in mind that’s just the monthly payment. It doesn’t include gas, insurance, maintenance and all the other expenses that come along with car ownership.
Most Americans who have vehicle finance would not be living paycheck to paycheck if they didn’t have a vehicle they couldn’t afford.
But how do you know what car you can afford? The one you pay with cash. That’s a great start, but that’s only the beginning.
Ideally, you would want to use public transportation if it’s available in your city. That helps you to avoid the costs associated with car ownership, enabling you to save more money to dedicate to debt or increase your savings.
If you must own a car, then the rule I would follow is to spend only 1% of my net worth. That’s right—only 1% of all the money that I have.
Why only 1% of my net worth?
Most cars depreciate. They lose value every single day, so I consider it to be a liability. If I’m going to lose a portion of my net worth by owning something, which I will if I own a vehicle, then I’m only prepared to lose no more than 1% of my net worth.
The point of a savings account is to enjoy some of it but not spend most of it and definitely not on one purchase.
People who are spending $30,000 on cars should have a net worth of $3 million, according to my rule. Those are the types of people to think that my rule is nuts. It doesn’t make sense.
I think they’re nuts, and their outlandish spending makes no sense to me. They also can’t understand why they have no money, and they’re in a perpetual cycle of debt. They take out one debt after the other. That’s because they’re buying things they can’t afford.
One of the biggest mistakes people who have debt make is they believe they can afford a purchase because they can make the monthly payments. The fact that they financed a purchase shows they couldn’t afford it.
I used to spend 30% of my salary on my monthly car payments, including gas, maintenance, etc. Now that I don’t have a car, that 30% goes to my savings.
It’s difficult to find a car whose value is 1% of your net worth if that’s below $100,000. In such cases, I would not spend more than $3,000 on a car. Reliable ones from Toyota and Honda are available in that price range.
Other gadgets
In fact, I applied the 1% rule to all items that I consider to be a luxury. So that means that my total luxury items expense is 1%. If I buy 10 different gadgets, two bicycles and three pairs of jeans, all of them must add up to 1% of my net worth.
If you think this is nonsensical, keep spending more than 1% of your net worth and then wonder why you don’t have money.
People who are debt-free and have significant savings don’t finance purchases, and they don’t let their savings accounts dwindle by making extravagant purchases.
Investments
How much should you risk on investments? Only the amount that you can afford to lose. I consider real estate and the S&P 500 to be one of the safest investments. Even with those assets, I limit my investment to what I can afford to lose.
That means I’m prepared to never see that money again after the investment.
With riskier assets, I only invest 1% of my net worth.
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