Here is a common refrain: “If only I made 10% more, I’d be set for life”. In all my experience assisting people with their personal finances, at no time have I believed this was true.

d-fense

Most employee income follows a relatively steady trend of inflation (plus or minus) each year. Early on in the career, there might be some significant increases that far exceed inflation, but they are typically timed with expenses that are going up at a similar rate. In fact, that raise is easy to spend: a new car, a new home, furnishings, a baby or two – it all seems to get eaten up pretty quickly. Some debt might come along for the ride – from schooling and creeping life expenses – and that’s not easy to get rid of for the reasons already cited.

Then comes the refrain.

As humans we get used to the purchased items in our life very quickly. Six months after owning a big screen TV it’s difficult reverting back to a standard set. We get used to our toys, our cars, our homes and our lifestyle and rarely want to ‘back up’. Our expense base creeps up with our income, so that our future decisions rarely consider simplifying, reducing or eliminating expenses. Generally, it is about adding, wanting and getting more.

So, what’s wrong with that? Nothing perhaps, if debt is kept under control and your employment is secure. The problem arises when credit limits are hit, an unexpected job loss shocks the household, or retirement looms. If the gravy train ends there simply isn’t enough to live on, and then some very big decisions need to be made. When it comes to money, ‘offense’ is a reliance on ‘increasing income’, and it typically isn’t the answer to growing long term wealth.

The Millionaire Next Door is a research-based book by Stanley and Danko describing how regular people with regular jobs grow tremendous wealth by living under their means. It is the classic example of how ‘defense’ beats ‘offense’ when it comes to money.

The researchers prepared to welcome millionaires to their focus group by hiring valet parking attendants, and ordering caviar and champagne. They were shocked to find their average attendee wore jeans, drank beer and drove an older truck to the event. They had to check their list to make sure they invited the right demographic.

The point here is that millionaires are not necessarily people who earn a lot. More typically, they are the ones who spent less than they earned for 30-40 years. And the math is simple when time is on your side. If $990 is saved every month for 30 years at 6% without tax, the result is $999,442. Over 40 years, the result is $1,981,434. Inflation will have eroded the value of the result somewhat but you get the picture.

On the other hand, if you get an annual raise of $2,000 after-tax but spend $2,200 more each year, how much has your net worth increased? You’ll have nothing to show for your hard work except the $14,000 in debt after 30 years.

Defense wins some hockey games. It wins some football and baseball games. But it wins just about every game when it comes to wealth generation.

If you act on one thing with your household finances this year, it should be this: Recognize it is what you spend, not what you earn, that determines your financial future.