The dangers of lifestyle inflation — and how to avoid it
Margo Schlossberg never considered herself to be much of an indulgent spender.
Even though there was plenty of opportunity to splurge on fine dining and high-end beauty treatments in the upper-middle-class Washington, D.C., suburb of Reston, Virginia, where she lives, she never felt particularly tempted to partake.
That is, until the 44-year-old marketing professional landed a hefty raise that made her paycheck fatter by $2,000 more per month — which had an almost immediate effect on her spending.
"I started indulging more in the little things," Schlossberg says. "I got more manicures and pedicures, went out to eat a lot more and splurged on fancy drinks." On top of that, she took a pricey dream trip to Sri Lanka.
Schlossberg's rationale? Her workload had doubled and she was putting in an intense, ten-hour workday while also enduring a taxing, two-hour commute. So she felt deserving of the good life — or at least a better one.
While Schlossberg's newfound spending didn't put her in the poorhouse, it didn't get her ahead, either. Her savings often fluctuated due to her splurging, and she never took the time to rejigger her budget to see how her added income could be put to better use. "I didn't run into money trouble, but I should have known better," she says. "But, hey, I'm human."
Schlossberg certainly isn't the only person guilty of using a raise as an excuse to bump up her spending. In fact, there's a popular term for this common story line: lifestyle inflation, or the idea that as you make more, you spend more.
This, in turn, can make you feel a bit like a hamster on a wheel when it comes to your money: You have to keep running at full speed just to keep up with your new bills and satisfy your spending urges — without making any progress on your financial goals.
The social psychology behind lifestyle inflation
Numerous studies support the notion that as incomes rise, so does the tendency to spend, not save. A Federal Reserve report found, for instance, that less than half of Americans earning between $75,000 and $99,999 saved any money whatsoever — and as many as 16 percent of those within that income bracket actually went into debt.
At the same time, a recent Brookings Institute study found that families stuck living paycheck to paycheck are actually twice as likely to be solidly middle class than low-income. The authors dubbed this demo the "wealthy hand to mouth," a group that tends to be older, educated and high-earning — and yet can't seem to get ahead.
So why, despite our best intentions, do we often end up putting our raises toward a bigger apartment or luxury SUV before we tackle our savings goals?
For starters, we're conditioned to always be on the hunt for more. Psychologists refer to this as the "hedonic treadmill," or our instinctive desire for bigger, better comforts every chance we get.
"It's human nature to want to improve one's economic and social standing — whether that's upgrading housing, clothing or toys," says Brad Klontz, a CFP® and financial psychologist. "If it wasn't, we would all still be living outdoors wearing animal skins."
The difference is that today, instead of being spurred by survival of the fittest, we're driven by the "Keeping Up With the Joneses" effect. It's the need to purchase items — often beyond our means — to show we're doing at least as well as, if not better than, our neighbors.
And the effect of this one-upmanship shouldn't be taken lightly: One 2010 study concluded that people tend to be happier when they have more money — but only if it gives them the perception of being better off than friends and peers.
"Many of our spending decisions are made by our unconscious brains, which equate social standing with life or death," explains Klontz. "And the further we drift from the norm in our social group, the more anxiety we feel." Translation: Seeing that shiny new car in a neighbor's driveway cues our brain to think that our social standing is being threatened — spurring us to spend as soon as we have the resources.
There's also the entitlement factor, which Klontz calls the "I work hard, so I deserve to buy nice things" script. "While it's true that it is nice to have your hard work reinforced with some indulgence, it should not come at the expense of thoughtful financial planning," he says. "Ironically, although this belief feels like wealth in the moment, it actually perpetuates a feeling of lack."
So while there's nothing wrong with rewarding yourself for your hard work, one of the dangers of this behavior is becoming used to a new, more expensive normal — thus unraveling any previous discipline you may have built into your budget. Just ask Schlossberg. "It's like when someone goes on a diet, loses weight and then can eat again," she says. "Those luxuries soon become mandatory parts of your life."
Living the good life: how to keep lifestyle inflation in check
Many of us fantasize about what we'd do if we got a big pay bump — and more often than not, it usually entails picturing ourselves unwinding for a week in Bora Bora, buying a second home in the country or finally get that sporty car.
But it's also common to feel like a higher salary means you can automatically take on higher recurring expenses — whether it's swapping out basic cable for a premium package, or moving from a one-bedroom to a two-bedroom apartment.
David Blaylock, a CFP® with LearnVest Planning Services, sees the damaging effects of lifestyle inflation all too often. "People need to be cautious with raises and long-term changes," he says. "If you want to eat out a little extra, that's fine. But if you want to take on a [higher] car payment, that's a whole other thing that you need to carefully consider — and budget for, regardless of your income."
And then there's what Ashley Feinstein, a New York City–based money coach, calls the "CVS/Duane Reade effect," or the tendency to feel like you don't need to track day-to-day little buys now that you're reeling in more. Three-times-a-week sushi lunches? Sure! Treats for the kids each and every time you go to the store? Why not!
And Feinstein should know — much of the five-figure bonuses she used to rake in as an investment banker slipped through her fingers on impromptu, and seemingly minor, purchases.
"It wasn't really any one thing, [the money] just sort of trickled away," she says. "One day, I realized, 'I don't like this job, but I can't afford to leave because I don't have any substantial savings.' "
But while the stress of working harder, societal pressures and the lure of shiny new toys all may seem to be conspiring against you, it is possible to deflate lifestyle inflation — and it can boil down to four money to-dos.
1. Keep financial goals at the top of your priority list. Whenever you get a raise, you're more likely to think, "Hawaii, here we come!" rather than, "Hey, I get to save more for retirement!" Before you know it, you've mentally diverted that 3 percent raise to a 3 percent hike in dining out, your shopping budget and your travel spending.
People with high incomes often fall into this trap because they already have some money in retirement and emergency savings, says Blaylock, "so they don't feel the need to increase working on financial goals since they're already somewhat covered, and any extra earnings is viewed as 'fun money.' "
But an uptick in income can be a prime time to rethink your nest egg, especially since your retirement goal is often pegged to a percentage of your pay. A general rule of thumb is to aim to replace about 85 percent of your current income in retirement — which means you'll need to sock away more toward retirement with each pay increase.
For this reason, consider upping your retirement contributions by the same percentage as your raise — so if your income increased by 5 percent, so should your retirement contributions.
The same goes for your rainy day fund because your emergency savings target is tied to whatever your take-home pay is at the time. "If you now have less than six months of your new income, you probably don't have enough," Blaylock says. "So a portion of that new raise should go toward building that fund up more."
Generally, Blaylock recommends trying to earmark at least 50 percent of each pay raise toward financial goals — whether it's retirement, emergency savings, paying off your credit card debt, or socking away more for a big savings goal.
2. Remind yourself that your budget — and goals — aren't the same as that of your friend. It may make you green with envy when you hear about your best buddy's yearly trip to the French Riviera, but her vacation doesn't have to be yours — and it may not be in your budget's best interest anyway.
Remember that your big-ticket goals are uniquely yours, which means your savings strategy should be dependent on your budget and timetable — not societal pressures or competition.
But if you do want your friends' experiences to be your own, consider working on a goal together, like a group getaway that you all take every few years. You may build stronger bonds by checking in on one another's progress — and you may even find that you've become good money influences on each other.
3. Test-drive some of your lifestyle upgrades. If you've already covered your basic financial security and want to indulge in some lifestyle changes, consider trying before you buy by predetermining one or two upgrades that would bring you the most joy. Then do some comparison shopping to see what a reasonable cost is for such upgrades, and determine how those new expenses would impact your budget.
"For example, try pretending that you have a bigger mortgage payment and put that additional money into a savings account for a few months to see if it's something you can live with," Blaylock suggests. And if it turns out that you can't live without that extra money, you've at least increased your savings.
4. Bake in some "me" money. Of course, it would be unrealistic to say that every dollar from a raise should go toward savings. "If you're making an extra $1,000 a month, think about putting $100 back into lifestyle, if it works for your budget," suggests Blaylock. "We do need to do something to reward ourselves."
And remember that your flexible expenses — things like eating out, groceries and drugstore purchases — are precisely that, flexible. As long as you know what your one number is for these types of purchases, you have the freedom to spend that money however you'd like.
For instance, you can treat yourself to a fancy spa day one month, but perhaps the next month you take it easy with a less-glamorous, but equally fulfilling, dinner out. Just make sure that you recognize when you're spending to give yourself a well-deserved treat, versus when you're doing it in reaction to an emotional state — like going shopping to make yourself feel better after a huge fight with your significant other.
Bottom line: It's perfectly O.K. to reap the benefits of your raise, but those lifestyle upgrades also have to be backed up with a rehashed budget and simultaneous upgrades to your financial security.
Schlossberg finally realized this when she watched a friend go through a layoff — and it dawned on her that her own hefty paycheck might not be endless. So Schlossberg buckled down three months ago and created a realistic budget — pinpointing luxuries she could actually afford, while also socking away more into her emergency fund.
"You can't assume you're going to stay healthy or keep your job forever," she says. "Living with lifestyle inflation caused a lot of stress."
More from LearnVest...