The True Measure
How often do financial analysts and TV pundits quote wages, inflation, taxes, and the market as a measure of financial performance? They’ve got it wrong.
Forget about the quotes. “Financial performance”, as measured by you and me, reduces to “How am I doing?” How do I measure how my family and I are doing? Am I getting ahead, falling behind, or just getting along? Am I out of money - cash - at month end? Have I put something away for the future? Can I take the family out to dinner, go on a vacation, or buy a new car? All these questions can be answered by a measure called “Spendable Income”, or SI. (Some may call this “Discretionary Income”.)
“Spendable income” is defined as the amount of earnings left over after paying required expenses. Required expenses include all those expenses which must be paid to maintain the physical and financial viability of you and your family. These include: food, clothing, rent, mortgage payments, car payments, school expenses, taxes, credit card payments, transportation expense, and all other expenses which must be paid on a periodic basis to maintain physical and financial viability. A simple test used to identify a “required expense” is to recognize the trouble you would be in if you didn’t pay it. The sum total of required expenses is the total amount of available earnings you need each month to stay viable and to provide for you and your family’s basic needs.
Note that required expenses does not include money put away in a savings account, stock purchases, IRA contributions, a vacation fund, a rainy day fund, a night on the town, Christmas presents and other gifts, charitable contributions and any other “expense” which is not required by law or your family needs. A simple test used to identify such “expenses” is to recognize that your basic needs would still be meet even though you didn’t fund these expenses. Sure, if you didn’t take a vacation, if you didn’t fund your retirement, if you didn’t get a new car, your current and future life’s pleasures would be diminished , but you wouldn’t go to the poor house. These are not required expenses. They are optional.
What about earnings? Earnings are required to pay expenses, both required and optional. Earnings in this context include any form of income be it wages, earned interest, sale of stocks, tax refunds, debt payments, pension and IRA credits and any other earnings credit which winds up as cash in your checking account – that account which you use to pay monthly expenses. Note that earnings here does not include unearned interest, stock appreciations, or any other form of income which is not taken into cash.
Now we can define SI: It is simply Earnings less Required Expenses. If I earn $10,000 this month and my required expenses are $9,500, then my SI is $500 and I can use it to fund current pleasures, buy stock, go on a short vacation or whatever. I am ahead of my game. If my required expenses are $10.250, then I have no SI and I am short $250. I am losing my game. If my neighbor next door, Ted, has a higher monthly salary but pays higher taxes, my SI may be greater than his. I am better off.
So don’t be influenced by measures based only on wages, inflation, taxes, interest rates, and the market. The only true measure is your SI. If it Is going up, you have money for pleasure and future planning. If it is going down or non-existent, you are in trouble.