No matter how budget-conscious you might be, most of us know that we could be doing a bit (or a lot) better. This is especially true with regard to retirement savings. Unless you’re absolutely maxing out your retirement plan contributions each year, plus looking for other vehicles to prepare for the future, you know that you could be doing more to get ahead. But how?
For many of us, we envision two possible solutions to this quandary: We can reduce expenses and live more frugally, or we can find ways to increase income. But which is more helpful?
The “latte factor”. The “latte factor” refers to the idea that many of us spend five dollars per day on something that seems insignificant, but actually impacts our financial planning more than we believe.
For example, imagine that you spend five dollars per day on a latte. If you invested that money instead, you would amass $1,825 in one year. Assuming a 5 percent rate of return, investing that money each year would eventually net you $244,331 over 40 years!
Boosting your income. On the other hand, what if you kept the lattes but found a way to generate an additional $1,825 per year instead? If invested as described above, the result would be the same (over $244,000 in 40 years). But of course, the cost to you is your free time and energy you will spend generating a small second income.
How much sacrifice is too much? For some people, cutting out a 5-dollar latte is no big deal. They have plenty of other enjoyable treats in life. But for others, already living on a tight budget due to making many other sacrifices, that latte represents much more than a simple coffee drink. It can be difficult to sacrifice something you love when you’ve already given up numerous other pleasures.
Life can interfere with even the best plans. And of course, no matter how you scrimp and save, life has a way of interfering with your plans. An emergency home repair, for example, can set you back thousands in one day. Without a cushion of savings, you might be forced to borrow money at a high interest rate.
So what’s the best course of action? The answer will be different for each person. But why not take a combined approach? Find ways to boost your income a bit, while also making a few budget cuts that feel reasonable to you. And always keep some cash in savings, so that you can deal with unexpected emergencies that life throws your way.
Let’s discuss your long term financial plan at our next appointment, and we can help you evaluate both your budget and earning capacity. Together we will formulate a plan to get you ahead on retirement savings.