This past month, I had a meeting with an astute client who brought up a phrase that really stuck with me: “Bills expand to fit the raise allotted.”
As we approach the time of year when Cost of Living Adjustments (COLAs) and raises start appearing in paychecks, this phrase is worth some reflection. It’s not just a clever observation - it’s a reminder of how easily lifestyle inflation can creep in if we’re not intentional with our finances.
The One-Third Rule: A Simple Framework for Raises or Unexpected Income
When you receive a raise or any unexpected income, I often recommend following the one-third rule to ensure that money is working for you rather than simply disappearing into increased spending. Here’s how it works:
- One-third to taxes:
Unfortunately, there’s not much choice here unless the income is pre-tax. Raises can bump you into a higher tax bracket, so be prepared to cover any additional liability. - One-third to your checking account:
Inflation is real, and daily living costs do increase over time. Allocating a portion of your raise to your checking account ensures that your budget can absorb higher costs without straining your finances. - One-third to savings:
Whether it’s retirement savings, an emergency fund, or other financial goals, allocating part of your raise to savings immediately ensures you never get used to having that extra money in your checking account. If you don’t see it, you won’t miss it!
Making the Math Work
Let’s say you receive a 3% raise. Here’s how the one-third rule breaks down:
- 1% to taxes: Your employer will typically adjust your withholding to account for this.
- 1% to your checking account: This covers inflation and helps with rising costs.
- 1% to your 401(k) or other savings: If you were contributing 10% to your 401(k), increase it to 11%.
This simple adjustment ensures that you’re not only meeting your current needs but also positioning yourself for a more secure financial future.
Guarding Against Lifestyle Inflation
It’s all too easy to let your expenses grow with your income. That’s why it’s essential to approach raises with a plan. Without one, you risk falling into the trap of lifestyle inflation - spending more simply because you earn more. This can delay progress toward your financial goals and leave you unprepared for future challenges. Intentional financial habits like the one-third rule provide structure and ensure your raises don’t simply disappear into everyday expenses.
Need Help with Savings Strategies?
If you’re unsure how to maximize the savings portion of your raise or have other financial planning questions, we’re here to help. Whether it’s identifying tax-efficient savings vehicles, planning for retirement, or aligning your finances with your goals, our team can guide you through the process. Reach out to us today to start building a more secure financial future—one raise at a time.