Tracking Expenses

Hey everyone, my name is Cole Anderson with White Coat Planning, and today Jim has asked me to teach you guys a little bit about expense tracking.

Now, one of the most overlooked, but honestly, most important metrics in financial planning is expense tracking. Most of the time, when folks think about the word expenses, they immediately think about the word budget or budgeting. Now, while I don't have anything personal against budgeting in general, it's absolutely not a requirement for the accomplishment of your financial goals or winning the proverbial financial game. The far more important financial metric when it comes to spending is the tracking of expenses.

Now, what do I mean by that, and why is that different from budgeting? Right? Well, when I talk about tracking expenses, I mean that literally, keeping track of what you're spending your money on and how much you're spending. This is vastly different than budgeting, in our opinion, for one large reason: budgeting is inherently restrictive and leads with a scarcity mindset.

For example, in a budget, you may mark $1,000 per month for something like groceries. If you're following a budget really strictly, once you hit that $1,000 of spending, that means no more money can be spent on groceries. I hope you have some leftovers in the freezer, or that the kids are okay with ice soup for dinner. Right?

Expense tracking, on the other hand, is meant to be fluid, empowering, and leading with that more abundant mindset. When we track what we spend rather than budget what we can spend, we have a deeper understanding of what we value and where our dollars are truly going.

Spending is an extraordinarily important vital sign for any financial patient. If you'll excuse the pun, just as a critical exam requires vitals, building a financial plan that actually works requires accurate spending data. Knowing your spending is critically important when discussing things like a properly funded emergency fund. For instance, how can you set aside three to six months of spending if you don't know what you spend in a month? Things like sufficient life insurance and disability insurance and projecting out an accurate retirement date also critically rely on accurate spending data.

Let me give you an example of why this is so important in practice and why inaccurate numbers, when it comes to spending, can really ruin the usefulness of your financial plan. Let's say my wife Mary Kate and I think that we spend $10,000 a month, or, for you math nerds out there, $120,000 a year. Based on a 4% withdrawal rate, in order for my wife and me to retire comfortably at the same level of spending or lifestyle when we reach, you know, average retirement age, we would need about $3 million in our nest egg. Sounds pretty great, right?

Well, what happens if we have underestimated our spending by a few grand a month? Which, let's be honest, guys, most people are going to underestimate what they think they spend. Let's say we actually spend about $15,000 per month instead of the $10,000 stated in our financial plan. That would mean that instead of the $3 million we thought we would need to retire, we would actually need about $4.5 million. That's 50% more money in our nest egg. And as you can imagine, if this were true, my wife and I would be in for a really rude awakening and probably not have the retirement that we were envisioning at the beginning of this.

Now that we know why expense tracking is so important, it's critical that we talk about actually how you do it. When we talk about categories of expenses, we typically think of three types. We think about variable expenses, fixed expenses, and episodic expenses.

Now, these are all pretty straightforward, with fixed expenses being things like your mortgage or your gym membership, variable expenses being things like entertainment or groceries, and episodic expenses being those big, larger things like, you know, an annual travel budget or home repair and maintenance.

Okay, the simplest way to keep track of all these things is to actually go through and look at your credit cards and debit cards and bank statements and aggregate all of your transactions over a given time period. Remember, I said simplest, not easiest.

I have done this for my wife and me since we got married, and let me tell you, it's a tedious process. Now, I love some tedium in my life. I find it pretty cathartic, but I'm also a dork that does financial planning for a living. So I don't assume that all of you guys out there have any interest in manually sorting through all of your statements and categorizing your expenses by hand.

So if you don't want to do that, there's plenty of services out there that do it for you. I typically recommend to folks Monarch Money or You Need a Budget to do the tracking and categorizing for you. The important thing is that you actually do it. I don't actually care where or how. It's just that you actually do the process of tracking your expenses.

For those of you out there that have never tracked your spending with intent before, have no fear. There are no changes that are needed when you start this process. You're simply looking to gather objective data. Now, as you comb through your expenses, you'll almost certainly find expenses that you either forgot about or no longer desire to spend money on.

For example, literally yesterday, my wife and I saw that we were spending $20 a month on a Canva membership. Don't need that anymore. So, you know, pretty quickly canceled that one. For every $100 a month in reduction in your spending, that actually equates to about a $30,000 reduction in your financial independence magic number, or what you need to be financially independent.

If you take that $100 that you have saved by not spending it and invest that money, that equates to another $60,000 toward your nest egg over a 20-year period. Meaning, just finding $100 that you no longer spend and instead invest can mean an aggregate of $90,000 toward your financial independence goal, which is pretty cool.

Another thing is that as you track your expenses over a few months, you'll start to notice patterns and see areas where your spending does not reflect your values. For example, you know my family. We value time with our extended family, our friends. We value travel, splurging on a good meal out, and convenience whenever appropriate. We don't value things like luxury cars or designer clothes or nice shoes or really more materialistic-type things. Not to say that's a bad thing if you do. It's just not what we put value on.

So as we track our expenses on a month-to-month basis, we look for ways to decrease our spending on things that we don't value and increase our spending on the things that we do value. We start to see a trend, or we start to see a through line where maybe we're spending a lot more money than normal on something like clothes or material goods or whatever. Doesn't really matter, right?

Mary Kate and I sit down, discuss where and why these expenses have gone up, and how we can change things going forward so that more of our money is going to what we value as a family. Over time, expense tracking has the added benefit of allowing you to make sure that you are spending your money on what you value most and get extremely accurate numbers for your financial plan and financial independence calculations instead of just being restricted or constricted by a budget, or just floating through life without a good understanding of what you're spending money on and hoping for the best.

Thanks.