Finding the right balance between saving and spending differs for everyone, but there is one good rule of thumb to follow.
One of the more frequent questions I discuss with families is how much they should be spending on a house, a car, a vacation, etc. My answer is that if they are saving enough money, then anything they want to spend money on is fine with me.
We all have things that we like, and those things are different from person to person. Some find a nice luxury car every few years to be highly desirable. Others want an elite private education for their children. Many like nice homes, nice clothes, and nice vacations. Yet, other families may not value any of these factors much. Also inside the family, there is often one spouse that enjoys spending more than the other.
The bottom line is that I can’t be judgmental on how you spend your money. I can, however, advise that you are spending too much money. A fundamental goal of financial planning is to try to establish enough savings to provide for a stream of income in retirement that allows a desired lifestyle. As a very rough guide, a young couple that starts savings 20 percent of their gross income early on is highly likely to be able to have a retirement income (in their 60s and after) that leaves them comfortable. Saving more makes it more likely. Saving less, or starting late, makes it unlikely.
So, with any given family asking about spending, we start with how old they are, how much they have saved to date, and how much they are saving currently. If I plan with a family that has saved adequately and continues to save appropriately well, I’ll tell them to spend the money left over on those things that provide the most enjoyment, whatever they happen to be.
Dealing with families that have “under-saved” is difficult. Not only do they have to make up for many years of not saving enough in the past (and the potential earnings on that lost savings), but they almost certainly are not saving enough currently either. Habits are persistent. These families need to increase their savings to well over 20 percent of gross income, which may be relatively painful. Yet, this sure beats reaching one’s 70s and not being able to stop working (if you want to).
Take a close look at this for yourself if you don’t have a financial planner. Time marches on, but retirement incomes do not always do so.