Lifestyle inflation, also known as “lifestyle creep,” is a strong force that prevents many people from accumulating any sort of wealth over their lifetime. As more money comes in via income, more money goes out as expenses, so their real net worth stays constant.
Consider this example:
You start by making $50,000 a year. After paying all your expenses (food, car, rent, etc.) and taking one vacation per year, you usually have little to nothing left to save or invest.
One day, you get a huge raise! Your total income is $75,000. Finally, you can generate real wealth and save good money! But…before you start saving, you decide to buy a new car.
After all, you have been working really hard. Your monthly car payment goes from $400 to $900, and you decide to move into a bigger apartment with a spare bedroom, since you can afford it now.
At the end of the year, you realize you again have little to nothing left to save or invest.
This is textbook lifestyle inflation: you are matching your spending to your income.
Lifestyle inflation reduces the opportunity to build real, long-term wealth through consistent savings and investments.
How do I avoid lifestyle inflation?
Lifestyle inflation is largely psychological. You have already proven that you can live on your prior income. You need to resist the temptation to match your spending with your income. This can be done through:
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Budgeting - Keep a strict budget, preferably one tailored around your original income level so that all that is left over can be put into savings or investments.
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Forced Savings - Also known as “paying yourself first,” this common technique involves putting aside money for savings and investments as soon as you get paid, not after you use that money to pay expenses. This forces you to subsist on a smaller budget while guaranteeing a certain amount of money gets saved.
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Keep Upgrades at a Fixed Cost - We don’t want you to never spend your money. As you make more money, you are allowed to upgrade your lifestyle in meaningful ways. However, be smart in your purchases. Do small, one-time purchases that will have a long-lasting, positive impact on your life, like buying a high-quality mattress, a new bike, or taking a memorable trip. Avoid recurring monthly payments on ‘luxury’ vehicles or bigger apartments.