Manage your fixed expenses

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When you think of people ruining their lives with foolish spending, it's easy to focus on the little things that add up--the meals out, the hefty bar tab, the daily Starbucks habit, and the retail therapy (whether for new clothes, new shoes, or the latest must-have electronic gizmo). The fact is, though, that these expenses (although they can make it tough to save for the future) are not the ones that ruin people's lives. It's the fixed expenses that do that.

By fixed expenses, I mean any kind of expense that you can't immediately adjust if your economic situation changes. For example, the property taxes that you owe stay about the same even if your income drops--fixed expense. Your income taxes, on the other hand, fall automatically if your income drops--variable expense.

Typical fixed expenses

Most of your biggest budget categories (except for groceries) probably go to various sorts of fixed expenses:

• Debt payments: mortgage, student loan, car payment, consumer debt...
• Lease payments: apartment, car, self-storage unit...
• Services contracts: cell phone service, burglar alarm service, lawn care service, fitness center membership...
• Municipal fees: water, garbage, sewer...
• Insurance: home, auto, health...

Relatively fixed

There are other expenses that, even if they're not actually fixed, are relatively fixed in the sense that you'd have to completely change your life or abandon something of considerable value in order to quit paying the money. Tuition, for example falls into this category--you could quit paying next semester, but doing so would mean abandoning your degree. For many people, child care is another example--eliminating that expense involves deciding that one parent will be out of the money economy for an extended period.

Also in this category are "circumstantial" expenses, such as a large monthly outlay for gasoline that could be changed, but only with some sort of major lifestyle change: a new job closer to home, a new home closer to work, or a some change in how the commute is handled (carpooling, using mass transit, bicycling to work, a more fuel-efficient vehicle).

Utility bills are often thought of as fixed, but some could be turned off in an emergency, and some of the rest can be reduced simply by using less of whatever the service is.

Good times versus bad

It's very easy to convince yourself to accept high fixed expenses. Something that you'd be able to afford someday (a big house, an expensive car, a big-screen TV) can be had now--and the extra cost may be perfectly reasonable.

For example, suppose you want a $1400 big-screen TV. You could save $114 a month in a high-interest savings account paying 5% and be able to afford it a year from now. On the other hand, if you borrowed the money at 12% and paid it off over the course of a year, you'd have to make monthly payments of $124. That extra $10 a month can seem very reasonable, if you think of it as what you're paying to have a big-screen TV for a year. And, after all, at the end of the year you've got a big-screen TV either way.

This sort of thinking, which does only modest harm during good times, is absolutely ruinous during bad times. A two-income family that suddenly has to get by on one income will succeed or fail entirely on the basis of its fixed expenses. If the fixed expenses are low enough that one income can cover them with enough left over for food, then everything will probably be fine. If not, the family sinks inexorably into debt.

The upside of bad times

In good times, it's very easy to feel like high fixed expenses are unavoidable. Many thrifty people spent years trying to save up enough money for a down payment on a house, only to have home prices rise even faster than they could save. They can be forgiven for thinking that they had no choice but to overextend themselves if they ever wanted to buy a house.

In bad times, that logic is largely reversed. Deciding to stay in an apartment for another year or two and save up a larger down payment will probably translate into more options, a nicer house, smaller payments, and a lower total cost. This is hard for someone trying to sell a house, but very nice for someone with low fixed costs.

Fixed cost illusion

It's easy to feel that you simply have to accept your fixed costs. They are, after all, fixed. This thinking is a mistake. Any of your fixed costs can be changed. Some of the changes require a long lead time. Others may entail some expense. Others can be changed cheaply, but only if you're willing to accept a changed (often reduced) lifestyle.

During good times, it's often possible to "grow into" high fixed expenses. A year or two of tight budgets and slightly precarious finances can--after a raise or two, after some consumer debt is paid down--leave one in a pretty comfortable situation. When bad times threaten, though, that strategy leads to disaster.

I don't know what direction things are going for the economy, but I think the risks are high enough that it's worth aggressively managing your fixed expenses:

1. Know what your fixed expenses are. If your budget has some fixed and variable expenses lumped together into the same category, break them out separately.
2. Know how long they're fixed for. Know when your cell phone contract expires. Know when your lease is up. Jot the dates down on your budget.
3. Make a plan for reducing them. The debt fraction can be reduced simply by paying down some debts, but consider more drastic changes. Consider moving to a cheaper place when your lease is up. Consider selling a car. Sell enough stuff that you don't need a self-storage unit. Save up enough cash that you can safely raise the deductible on your car insurance.
4. Create some contingency plans. What will you do if you lose your job? What will you do if your spouse loses his or hers? What will you do if the price of gasoline doubles, heating costs triple, and food costs just keep going up?

Contingency plan creation has a double purpose. Not only are they useful to have in case some particular misfortune comes to pass, they can provide some incentive to go back and put some oomph into your plan to reduce your fixed expenses.

Those little expenses that add up to keep you from paying down debt and saving for the future are a problem in the long term, but they don't lead to people being broke, homeless, or in bankruptcy. It's the fixed expenses that do that. Manage your fixed expenses, and you can ride out the bad times--and can safely indulge in some of those little variable expenses that give real pleasure.