Income: It’s kind of a big deal

Understanding income 101!

Income: It’s kind of a big deal

Income is money coming in; an expense is money going out. Expenses include things like goods and services that we need (groceries) and want (that shiny new iPhone).

Expenses

Expenses are the goods and services that we need and want. While adults have a long list of expenses, tracking spending habits monthly often reveals more ‘want’ type purchases than otherwise realized.

The concept of needs versus wants is incredibly important to define for yourself and your household. Many partners find their ideas differ distinctly on needs versus wants, and understanding each other’s needs is key to financial success as a duo.

Discussing, defining, and agreeing to set ‘needs versus wants’ should be key to any financial plan made as an individual or a couple. The better all parties grasp the distinction, the better they will be able to make sound spending choices in the future.

What you need and what you want

Needs are the things that we must have in order to survive – clothing, medical care, nutritious food, shelter, transportation, and basic utilities. Wants are everything else – the things we don’t need to survive, but that we would like. While most people generally have the same needs, our wants vary depending on our ages, personalities, interests, and environments.

Relationship between income and expenses

A basic yet significant financial concept is that income must exceed expenses in order to avoid debt (owing money).

If your income is greater than your expenses, that’s snazzy – you will have money left over to save and spend. If your expenses are greater than your income, however, you will have to make some changes in order to avoid getting into debt (or pull yourself out!)

If you need to take a pause and refresh on the idea of good debt versus bad debt, go ahead. We’ll wait.

Essentially, good debt includes things that you need but can’t afford to pay for all at once – like a mortgage or student loans. Bad debt includes things like loans for stuff you don’t need and can’t afford (like that safari, not that you’re not worth it).

Even the so-called ‘good debt’ can land the best-intentioned in trouble. It’s far too easy, with banks extending financing wherever possible, to take on more than you can comfortably handle.

More income than expenses = Good

Generally speaking, short of third-party intervention, folks have three options when expenses exceed income:

•             Make more money
•             Spend less money
•             A combination of the two

Spending less money, if not already in overhead in debt, is the easiest answer for most adults facing financial issues. Many people can tell you how much money they have incoming from various sources, but few can identify exactly how much is going out.

Keeping a daily log for one month can illuminate financial snags you may have thought were smoothed out. Once you see – in black and white – what you’re spending money on, it will become easier to cut back on certain things.

Even if you’re managing to save a little money, it’s still important to discuss ways to reduce spending and make smart spending choices. Without financial mindfulness, you may fall prey to lifestyle inflation, no matter how high your income soars.

Financial experts maintain that avoiding debt is all about living below one’s means, so ask yourself:

•             Do I really need/want this now?
•             Is this more important than my other wants?
•             Can I borrow it instead?
•             Can I wait two weeks and see if it’s still important to me?

Asking these simple questions can help you avoid impulse buys and unnecessary purchases, now and in the future. If you had asked yourself these questions before every shopping trip, would your personal financial situation be different now?

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This post is part of our Financial Literacy Month series, focusing on the pillars of a healthy personal financial foundation. Last week we wrote about establishing and maintaining personal credit, which you can visit here.

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