Needs vs. Wants: How to Prioritize Your Spending?

Why we need to control our savings

A rational consumer spends only on goods that provide optimal utility at an efficient price and avoids spending on irrational goods. However, when we start spending on items that consume more than 50% of our income, and which are not even essential then the situation changes. Since, these things are regarded as less important, we consider them as luxuries instead of as tools that can be useful in our lives. Still, this urge to buy too much is often caused by the display effect, which is when someone spends money based on what other people have spent, even if they don’t have much money themselves.

So, prioritising your expenses is important for attaining long-term financial stability and economic goals. By knowing the proportion of income you spent, you would ensure that your expenses are not affecting your savings and investment, making for a better financial habit in the long run. Thus, we will learn about controlling our expenses towards achieving future financial stability.

Culture of Spending among Indians

The important thing would be to spend on needs and not on wants. But then this is also easy to say. In these days, most people tend to indulge in luxury before meeting a need. Spending on EMIs is said to have increased significantly, which is also the characteristic financial management for any household. Hence, net financial saving rate slumped to an all-time 47-year low of 5.3% in FY22, as most households seem to be taking out loans instead of saving money.

Consequently, the 18-to-35-year-old middle class is the most vulnerable to economic shocks visiting the land, one of them being COVID-19. Increased debt levels coupled with diminishing savings all pose serious threats to household financial health, especially with inflation and soaring interest rates.

How to control Over Spending

There are several methods to control over spendings as following

1. Categorise the Spending with the 1-2-3 system

• Category 1 covers the Essential Needs
  It involves the goods that are essential and are basic needs for the survival and well-being. This category focuses on the significant requirements like clothing and shelter.

• Category 2 covers the Important but not essential
  This category involves items that contribute to the quality of life, though not necessary for mere survival. These items include the public transportation means which are used for daily commuting, some good athletic shoes intended for fitness activities, and smartphones.
• Category 3 (non-essential and less important)
  The other definition touches luxury items that are not needed and do not influence daily life: For example, snacks, spa treatments, and cinemas.

2. 50/30/20 Rule:

Once you give priority to your spending category, then it is important to understand the concept of proportions regarding spending, saving, and investing of your income.

Take your income as 100%, in which you spend 50% on basic needs, 30% of your income spent on which are important but not essential and rest 20% of the income you have to save to achieve the financial goal like buying a property, New vehicle or on some long term investment.

or

3. 60/20/20 rule:

The data for FY2023 show that 47.4% of Indians availed themselves of home loans, and the trend towards dependence on borrowing continues to grow. For the right kind of financial planning, the 60/20/20 rule is suggested. 60% of the income goes towards necessities and debt repayment under this method, 20% towards discretionary spending, and 20% for saving.

4. Creating budget for household

Every organization considers budgeting one of the key functions; therefore, each person should also have an adequate monthly budget plan with respect to his income that should be verified and reviewed every month. This budgeting habit will help an individual reach a respective long-term financial target.

5. Financial Knowledge

It is quite not shocking to know that Indian’s financial literacy scenario is not much good, as India rank 73rd among 144 countries in 2024. If we talk about financial literacy among Indians only 24% of the population is considered financially literate. Therefore, people should understand the basic of finance as it is the part of their daily life, to achieve financial goals.

6.Setting up a financial goal

It is important to have definite financial goals when handling money. Since, it helps in controlling overspending, whether it is saving for a vacation, settling a debt, or saving for an emergency fund.

Conclusion

The key to saving and being financially secure is controlling money. To stay in control, you need to keep track of spending, have clear goals, know the difference between wants and needs, and stick to a sound budget. Small steps, perseverance, and seeing savings grow over time will help you continue to move toward financial security.

This Article is for information purpose only. The views expressed in this Article do not necessarily constitute the views of Kotak Mahindra Bank Ltd. (“Bank”) or its employees. The Bank makes no warranty of any kind with respect to the completeness or accuracy of the material and articles contained in this Article. The information contained in this Article is sourced from empaneled external experts for the benefit of the customers and it does not constitute legal advice from the Bank. The Bank, its directors, employees and the contributors shall not be responsible or liable for any damage or loss resulting from or arising due to reliance on or use of any information contained herein.