Modeling Expenses

In general, Expenses are either indefinitely recurring (such as food and electricity) — or they have discrete beginnings and ends (such as a car loan or mortgage). We’ll discuss both.

The following topics will be covered in this Guide:

  1. Indefinitely Recurring Expenses
  2. Expenses that Begin and End
  3. What-If Analysis
  4. Spending Type & Variable Expenses
  5. Expense Growth and Inflation (the Growth Override Field)
  6. Specifying an Expense Source
  7. Specifying Debt with an Expense

1. Indefinitely Recurring Expenses

Unless you believe a particular Recurring Expense will grow or shrink at a significantly different rate than others, it makes sense to lump these expenses together as a single Item. In the example below, that Item is named “Base Expenses”. It is broken into three Ranges, and for two of those, the Expense Group icon in the left column is orange. This means that a “Group” has been created, as shown below.

Expense Group

Groups of Expenses are totaled automatically, and the Amount is entered into the Expense table when you press “OK”. Of course, you don’t have to use Groups, but if you're trying to work within a defined budget, it’s a convenient way to enter and keep track.

2. Expenses that Begin and End

Other types of Expenses begin at a certain time — and eventually end. Car payments, a mortgage, college for your kids — all of these can (and should) be tracked as separate expense Items.

Let’s take another look at the previous example to understand the advantages of modeling them separately. For purposes of the discussion below, let’s assume this individual is currently 41 and has been developing this model since age 38.

Expense Items

Notice that the Item “Car Payment” has three Ranges (Age 46-50, 56-60, and 66-70) reflecting when new car purchases are planned. We know that OnTrajectory automatically takes Inflation into account, so the fact that the last 2 Car Payments are lower than the others simply means this individual is planning to downsize to a less expensive car ($600/month) relative to the one they are paying on now ($750/month).

We also see a Mortgage at age 46, which is the same age their “Base Expenses” increased (likely due to the fact that home-ownership tends to be more expensive than renting). In this example, the mortgage is simply an estimate. Once the amount is known, you can check "Do Not Inflate" to ensure the payment (principle and interest) is not adjusted for inflation over time. We also see two rather large entries named "Daughter College" and "Son College" entered as annual expenses.

Given these Expenses, let’s take a look at this individual's Trajectory.

Expense Graph

Notice that because Expenses were defined to start and stop at certain Ages, the resulting growth is not a smooth path. There are periods of steep growth, slow growth, and stagnation. Of course, it's a combination of Income and Expenses influencing this path, but we can clearly see how those college payments, for example, affect the overall Trajectory.

In addition, another advantage to entering Expenses as individual Items is the ability to perform “what-if” analysis.

3. What-If Analysis

The scenario above produces as "shortfall" warning since the Total at Age 90 is less than $0 — in other words, based on the model this individual has defined, their cash will not last their lifetime. Now it should be noted that ALL models are wrong to some degree — no simulation can perfectly predict the future. The reason for creating models is to gain some idea where you’re headed — to shed light on likely outcomes. For example, this individual modeled an Expense named “Boat” starting at age 50 — OnTrajectory lets you “Exclude” Items Ranges from calculations by checking the box in the Exclude Icon column, as shown below:

Boat Expense

What is the effect of Excluding "Boat" on their financial trajectory? Over $150,000 at Age 90. A successful Trajectory, meaning your final balance is above $0.

The point is that the more granularity with which you enter your Expenses, the better you can judge their impact and run speculative scenarios across your financial future.

In addition, Expenses can be excluded from inflation. This is handy for amortized payments you're already making that will not increase over time. For more information on how Inflation is handled see the Modeling Income Guide, section "Raises and Inflation".

4. Spending Type & Variable Expenses

Expenses can be designated as /month, /year, or % variable. The first two are self-explanatory, however the 3rd requires some explanation.

Variable Expenses

Rather than define Expenses with a fixed dollar amount, you may alternately define them with a Variable Spending percentage. The most famous approach being the '4% Rule', popularized by William Bengen. In the first year the expense amount is determined by the variable percentage you've defined, multiplied by your total assets at the end of the previous year. Thereafter, the amount increases with inflation, which can be overridden as with other expense types.

To define an Expense as a variable spending amount, choose '% variable' from the Spending Type dropdown, as shown below:

Variable Spending

Simply enter the percentage in the 'Amount' field and OnTrajectory will do the rest. To ensure the calculated amount will meet your actual needs, be sure to check it in the Expenses tab of your Output Data.

5. Expense Growth and Inflation (the Growth Override Field)

Growth Override specifies the rate at which an income item is expected to grow. By default, Expenses (and Income) grow at inflation, however, you can override / replace that rate by clicking the checkbox in this column to indicate a specific growth percentage.

If you believe an expense will simply keep up with inflation, there's no need to enter a value here.

This field is useful for either 'freezing' a payment amount, such as for a mortgage or car payment you currently have (i.e. set Override to 0%) — or for accelerating an expected rate increase, such as for healthcare (which many believe will continue to increase above inflation).

NOTE: When setting an Expense (or Income) in the future, the amount will be inflated based on the central Inflation Rate up to the "Start Age" for the item. Thereafter the Growth Override value will be used. If you wish the "override value" to be used before the Start Age, open the item's properties (wrench icon) and select "Apply Growth Override before Start Age".

Finally, if you use OnTrajectory for more than 1-year, you will notice that Incomes & Expenses tied to Inflation appear to "deflate" in the past when viewed in "Tomorrow's Dollars". The rate of deflation is based on actual historical U.S. Inflation.

6. Specifying an Expense Source

If you wish to draw an expense from a particular account, open the expense's properties (wrench icon) and select the account from the "Source from:" dropdown, as shown below:

Expense Source

Funds from the specified account will be used for that expense. If the account is exhausted, only then will other funds be used. If you wish to limit that expense ONLY to the selected account, choose the "Only:" option, which limits the expense only to that account. The result is if the account is exhausted, that expense will NOT be paid even if the End Age for the expense indicates that it should.

7. Specifying Debt with an Expense

If you have an expense, such as a Credit Card, and you wish to associate a certain amount of debt with it, see our guide Dealing with Debt.