Identifying needs vs wants makes the budgeting process a whole lot easier. The sooner you realize what a need is versus what a want is, the quicker you will be able to reach your financial goals. Reducing your needs can open a whole new world of possibilities.
First, let me clear something up. I don’t have a problem with people wanting nice things. I don’t have a problem with people buying anything they want. In fact, that couldn’t be farther from the truth.
The reason we make a budget and seek financial independence is to buy and especially to do the things we want. The problem arises when people buy things they want when they are unable to afford them.
One of the best reasons to travel is to experience how other people live. My wife and I both had the privilege of traveling a good bit before we got married.
Some of the happiest and most generous people I’ve met eat rice and beans everyday and live in a house smaller than many living rooms. This has made it easier for us to identify wants and needs in our own life.
There are a variety of ways to define needs depending on how literal you want to be. Let’s start with the literal definition and expand it from there.
A need is something that you must have or you would die. This would include food, clean water, air, probably clothing, and I could be convinced to include relationship. There might be more, but those are the basics.
When we talk about real needs, we’re talking about the minimum. This means steak dinner or eating at a restaurant isn’t a need; eating something is the need. A 3,000 square foot house isn’t a need; a roof and walls are the need.
For practical purposes, I expand the needs category to include things that it would be hard or unwise to do without.
When I’m talking about saving 3-6 months of expenses in an emergency fund, I’m talking about things in this category.
We include things like food, housing, utilities, insurance, phones, gas, toiletries, and car/home maintenance. We might include internet, although the library and other places have “free” internet.
I group things for convenience. We don’t split our food budget into “Needs food” and “Wants food”. That would be ridiculous, though might be a good idea the more I think about it, especially if you have a high food budget.
We include our whole mortgage and property taxes even though we could make do with less space. If I had debt other than a mortgage, that would probably go here as well. I really don’t want debt other than a mortgage.
The goal is to keep your needs, both real and practical consistently below your regular income. If they aren’t, it might be time to seriously look at reducing your practical needs.
How often do you eat out? Can you downsize your house or buy generic groceries? Can you eat more chicken (no, not that chicken) and less steak or seafood? Are there cheaper transportation options that would get you from here to there? Do you need that super frapa mocha lattecino everyday?
Discretionary Income and Possibilities
Let’s take this short commercial break between needs and wants to discuss discretionary income. Discretionary income is the amount of money you have to do whatever you want with after all your needs are met.
The fewer needs you have, the more possibilities you have. Said a little more harshly, the less needy you are, the more fun you can have.
Discretionary income gives you the freedom to give freely. You might use some of it to invest and really turbo charge your financial independence or you might pay off debt and have even more discretion.
You can use it to travel, experience the world, or just buy whatever you want without feeling guilty. Discretionary income is great; you can get it by increasing your income or reducing your needs.
After you meet your needs, you have the freedom to give what you want, save or invest what you want, and buy whatever you want (that you can afford) in whatever order you want.
A want is spending money on anything that you could do without. Everybody prioritizes these differently as everybody has different financial goals.
For us, we invest enough to retire at a normal age, then budget travel, then invest to retire earlier and contribute to kids college, weddings, etc.
We’d rather travel now with our kids than retire 3-5 years earlier. It’s all about matching your life goals with your spending priorities.