This is something I noticed very early in my career after my first raise, and I don’t think most people think about their income in this way. I’ve never heard anyone else discuss this, but I think it’s an important perspective. It will apply best to people living within 50% -99% of their income, but I think that’s most of us.
The theory is that a small increase in your income can make a big difference in your happiness.
Think about your income as an iceberg…
The submerged part is all of your ‘fixed costs’ and basic needs, the exposed part is your disposable income – the money you spend on having fun and pampering yourself – the money that makes the extra difference in your life. Now, if you add on to this iceberg from the top and just assume it won’t sink any extra, it will appear to be growing by a large percentage, when really it’s only growing slightly overall. Let’s put numbers to this to better illustrate the point:
Let’s say you make 50k per year after taxes. Your rent and bills use up 45k of that and the last 5k you spend on eating out, movies, vacation and whatever else you do for fun. In this case, the 45k is the part of your iceberg below water and the other 5k is the visible part. Then you get a 10% raise, so you’re bringing home 55k now. How much of a raise did that feel like?
Assuming you’re ok not changing your basic standard of living – so you still live in the same place, drive the same car, use the same cell phone on the same plan, etc. – you now have 10k instead of 5k left over for fun.
So your 10% raise can actually feel like a 100% raise!
Now, in reality, people tend to adjust their lifestyle to their income. So you probably won’t continue living in the same place if your income continues to rise. And you may want a better car, newer cell phone or whatever at some point. But the point is, you have twice as much room to make those decisions even though your income only increased by a tenth.
Maintaining that cushion between what you spend on your standard of living (what I’m calling the built-in costs of your life, like rent, bills, etc.) and what you’re bringing home is the key to how much financial freedom you’ll feel. And of the two sides of that cushion, you probably have more control over the former.
More on that to come soon…
-DD
Next check out Theory 2 – The Need for Speed Theory of Spending!
And Theory 3 – The Mountain Biking Theory of Happiness!
