The Power of the GAP between Income and Expenses

That beautiful gap between income and expenses – it is such a powerful thing. I realize that most people are not as nerdy as I am when it comes to personal finance, but that gap is so powerful, it just has to be exciting for people other than me, right??

Okay, so what do I mean by “the gap between income and expenses?” It is simply the amount of money you earn minus the amount of money you spend. You can calculate this weekly, monthly, or annually depending on what makes sense to you.

Money earned – Money spent = your GAP

So many people base the amount of money they spend each month on the amount of money they earn. If $4000 per month comes in, then somehow $4,000 per month ends up being spent. That would equal a gap of ZERO. This is a problem if you are someone who wants to be able to get ahead financially. I went through a period of my life where the Gap was equaling zero – these were not my best years. You can read about that here.

Simply put, increasing your Gap is how you save money. The bigger your gap, the more money you have. The bigger your gap, the more freedom you have – with your money and with your time.

Freedom allows me time to canoe in the Boundary Waters

Do you need to create an emergency fund? Do you want to save for a house or an exciting vacation? Do you want to get serious about putting away money for your retirement? (Whether it is an early retirement or traditional retirement is a whole separate question I hope to address in later articles!) Regardless of your precise financial goals, if you want to get ahead financially, you need to recognize the power of the gap and then start working to increase yours. To do this, you need to either increase your income, decrease your expenses, or do both!

Here are some examples:

If you earn $4000 per month and spend $5000 per month, you go $1000 into debt each month (do NOT do this!) This is a negative gap and this is bad.

If you earn $4000 per month and you spend $4000 per month, you save $0. Your gap is zero.

If you earn $4000 per month and you spend $3500 per month, you will save $500 per month!! Woo hoo! You have a $500/month gap!

If you earn $4000 per month and you spend $3000 per month, you will save $1000 per month. Well done! You have a $1000/month Gap!

Let’s get nerdy and analyze this $1000 gap a little further:

$1000 per month is $12,000 per year! If you save that under your mattress, that will equal $120,000 after 10 years. Not bad at all. You are well on your way to financial bliss.

But check this out: If you invest that $12,000 per year in a low-cost index fund and the market gives you a 7% annual return* you would have $177,403 after 10 years. You just made an extra $57,000 by investing that Gap money. And it gets even better: If you invest it for 20 years, you will end up with $526,382! Holy cow, you just made an extra $286,382 because you invested that money. (More about the magic of compounding interest in later articles!) 

*7% is a somewhat conservative estimate based on the returns of the last 30 years – but stock market returns can obviously vary. If you want to start reading about investing, I recommend starting here. Jim Collins does a great job of explaining stocks and investing in a way that is simple and interesting.

I know what you are saying: “Okay, Sarah – I see the power of the gap. I understand that to increase my gap I need to either increase my income or decrease my expenses, but how do I do that?”

Well, that is a great question, and there are SO MANY ANSWERS! But my answers are going to have to come in later articles. For now, start paying attention to your gap. Calculate it each month and see if you can find ways to grow it. Good luck!

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Published by sarahlaurencoaching

Financial Coach specializing in helping people find happiness and freedom through learning to manage their money.

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