You may have heard of the 80/20 rule, also known as the Pareto principle. It states that approximately 80% of the effects come from 20% of the causes. I've found this principle to hold up in my finances as well, with 85% of my expenses coming from my top 20 categories for spending. What does that mean for you? It means that if you want to save a lot of money, you need to focus on the top things you spend money on! Let's dig into the data to show how you can save the most money with the least amount of effort.
Saving Money Using the 80/20 Rule
The graph at the top of the page represents my current expenses, specifically the top 20 expenses. Below is a detailed breakdown. Your expenses may be a little different, but I suspect many of the top categories will be similar.
Top Expense Categories Organized by Percentage of Total
|Utilities:Gas & Electric||3.0%|
Your results will be a little different, but you can immediately see that the top 5 items are half of my expenses! If you want to save a significant amount, looking at your top expenses is where you need to start. You can click here to get a free month of YNAB which is what I use if you need something to track your expenses. Let's go ahead and dig into the data to review some of the most common ways you can save big each month.
The first thing I see on my list is House Payments. Scanning on down, I notice that Household (repairs/maintenance), Utilities, & Property Tax are all directly related to this. Housing accounts for at least 30% of all of my expenses, wow, that's a lot!!! This is near the top of the list for most people, so what can we do to reduce those? I could increase the term of my loan, that would help my cash flow in the short term, but will increase my interest expense over time. Since my cash flow is OK, I'm not going to do that. I could sell my house and get a smaller one. If I was hurting for cash or didn't have 5 kids, I would certainly do that.
Where you choose to live is going to have a major impact on your finances. If you want to reduce your monthly expenses, seriously consider moving! When you move to an affluent neighborhood, suddenly you may feel like you need a new car, some nicer clothes, little Johnny needs a new bike, and you need to do a lot of expensive landscaping, all just to fit in. Before you know it half your income or more is going to keep up with the Jones! Live in a neighborhood where you are richer than most of your neighbors and you'll be able to seriously reduce your expenses. One of the favorite houses that I've lived in only had two bedrooms which meant it was really easy to keep up with, don't feel like you have to have a huge sprawling house to be successful. This was one thing that the book “The Millionaire Next Door: The Surprising Secrets of America's Wealthy” pointed out. Most millionaires live in average neighborhoods with an average house. The key is that they spend well below their means!
Next on my list is groceries. We have a large family, 2 adults and 5 kids eat a lot of food! As a matter of fact, 12 cents out of every dollar I spend is going towards groceries!!! So what could we do to reduce our grocery bill? Here are a few things that come to mind:
- Continue using cash like Dave says, this is easier to keep track of and we always spend less that way.
- Milk, we drink a lot of milk, around a gallon a day. Might be able to reduce that.
- Try comparing prices online using services like AmazonFresh
- Plan meals based on sales during the week.
- Meat is expensive, eat less meat.
- Stick to the list when shopping.
- Buy more store brands.
- Use coupons more.
Car payments are a large expense for many families, so I wanted to mention that. You'll notice that didn't show up in my list, although fuel did because we drive a lot. We long ago ditched buying expensive cars in favor of paying cash for reliable used vehicles. I've personally sold newer cars to downsize in the past, and I am very glad that I don't have that debt hanging over my head anymore! Look around, if you can't find a really nice looking very reliable used car for less than $5000 in the US, then you're not looking hard enough. Look a little harder and you can probably even find something like an old Honda Accord that is built like a tank with around 100k miles for $2500.
Cars are depreciating assets, which means that you can expect to get back less money than you paid if you sell them, they go down in value. Rich people like to buy stuff that goes up in value or invest in themselves, they typically don't buy fancy cars unless they are at the point they just don't care about expenses anymore. Read “The Insane Math Behind Investing In Yourself” to see the insane return numbers on personal development, that's what this site is all about, investing in yourself. Those big items really add up, make sure you are not pinching pennies on the little things and then wasting thousands on big items like cars that are going to go down in value!
I think by now you get the idea. Figure out what your biggest expenses are, and start brainstorming ideas on how to reduce those! I hope this article was helpful. If you are interested in how to build wealth over the long term beyond simply saving, be sure to sign up for our personal development club by clicking here.