My first job after college paid $8 per hour in 1995 — not good start for an Ivy League alumni. That job was something to do while I tried to rediscover myself. I was lost and dispirited because I did not get accepted into a medical school. At that time, I was addicted to Magic: The Gathering. I justified spending $10-$15 almost everyday thinking I will earn that money in 1-2 hours the next day.
With more financial maturity, I realize that justification was silly. Likewise, I think it is silly for someone who makes $50 an hour to think that a $1,000 iPhone can be his with only 10 hours of work.
Calculating Your Real Hourly Wage
The idea that you make $50 an hour because your wage is $50 an hour is completely flawed. First, let’s consider TIME. The hours you work is more than the hours you spend at work. For instance:
- Time to get ready for work — e.g., shower, putting on make up, getting dressed, etc.
- Time to get to and from work — is it an hour commute each way? If you work 8 hours a day, then you really spent 10 hours. This turns your $50 an hour wage into $40 an hour earning power.
- Time at work including breaks
- Time to defuse work-related stress
As you can see, a lot more of your time is spent for work than the typical 40 hours work week. So even if you are paid hourly, once you factor in all the lost time, you’re actually paid less.
This gets even worse for salaried employees. In the United States, salaried employees are expected closer to 10 hours day if not longer and many give up their vacation days willingly in order to advance their career. According to this Washington Post article in 2014, salaried employees work on average 46.7 hours per week and that number is ticking up every year.
For example, someone earning $96,000 might be considered to $50 an hour based on approximately 48 work weeks (2 less weeks for paid vacation days and 2 less weeks for holidays) at 40 hours a week. However, if you consider that most people probably spend closer to 60 hours a week for work related activities (e.g., including commute) and probably closer to 50 weeks.
That is $96,000 ÷ (60 x 50) = $32 per hour!
Contractors and Consultants
This is especially important for contractors and consultants that spend non-billable time running their business and doing marketing. Yes, you might be billing $250 an hour, but it is very possible that these workers spend many hours behind the scene in order to bill that one hour.
Of course, the exact ratio of billable vs non-billable will differ from business to business and from person to person within the same line of business…but I hope you got the idea.
Discretionary Spending Power
Now that you have your Real Hourly Wage, what about your Discretionary Spending Power?
First, we have to account for all the taxes, deductibles, and essential living expenses. For example:
- Taxes — Federal, Social Security, Medicare, State, City, and Local taxes
- Savings — 401(k), IRA, etc. Yes, I advocate paying yourself first and I consider saving for retirement a necessary expense.
- Housing — rent, mortgage, renter’s insurance, homeowner’s insurance, property taxes, maintenance costs, etc.
- Utilities — water, gas, electricity, telephone, Internet, cable, etc.
- Food and Clothing
- Transportation — car expenses (e.g., car loan payment, insurance, maintenance, toll, parking, gas, etc.), or mass transit
- Insurance — life, medical, dental, etc.
- Health — insurance co-payment, insurance deductibles, medicine, supplements, gym membership, etc.
As you can see, your earning power is severely eroded by taxes and all the living expenses.
Discretionary Spending Power = (Salary/Wage – Taxes and Essential Expenses) ÷ Time
Let’s continue with our example above with someone making $96,000 a year.,,let’s call him Joe.
Joe makes $8,000 a month ($96,000 ÷ 12). Let’s say all the taxes and essential expenses total $6,000 a month, that really leaves him with $2,000 a month. He is a typical american working 60 hours a week and work about 50 weeks out of the year, that’s about 250 hours a month. Using the equation above
Discretionary Spending Power = ($8,000 – $6,000) ÷ 250
Joe’s discretionary spending power is only $8 per hour!
For Joe, that new $1,000 iPhone is not 20 hours of work ($1,000 ÷ $50), but more like 125 hours of work ($1,000 ÷ $8) !
Before you fall into the trap of thinking that you can afford to spend $50 on a meal because it is just 1 hour of work…think again. I feel this mentality of think “Oh, I only need to work X hours to buy this” is one of the biggest financial trap.
3 Strategies to Increase Your Discretionary Spending Power
There are 3 main strategies to improve your earning power:
- Increase your income — If Joe gets a 10% raise to $8,800 per month, his new earning power will be approximately $11.20 per hour…a 40% increase in spending power.
- Reduce your taxes and living expenses — If Joe cuts his expenses by 10% to $5,400 per month, his new earning power will be approximately $10.40 per hour.
- Decrease the time spent for work — If Joe cuts his time spent by 10% to 225 hours per month, his new earning power will be approximately $8.89 per hour.
If he does all three? His new spending power is $15.11 per hour!
Pinyo is the owner of Moolanomy Personal Finance and a Realtor® licensed in Virginia and Maryland. Over the past 20 years, Pinyo has enjoyed a diverse career as an investor, entrepreneur, business executive, educator, financial literacy author, and Realtor®.