Separate the spending you must cover every year from the spending you could cut in a bad year.
Priya is 34. She works in marketing and lives alone in a four-room HDB flat with a mortgage. Her bank statements show S$45,600 of spending last year (her figures are invented for this example), and she wants to know how much of it she would still have to pay if markets went badly.
Picture the year your investments drop by a third. You have already stopped working, the news is full of the fall, and your investment app shows all red. Some spending has to continue that year: conservancy charges, groceries, the insurance premium due in March. Other spending could wait, such as a trip to Hokkaido, a new camera lens or dinner at the restaurant your friends like. In a bad year, the difference between these two kinds of spending decides whether your plan bends or breaks.
You already have a total for the last twelve months from lesson 1.1, "Your number starts with spending, not a round figure". The next job is to split that total into three groups: essential, flexible and lumpy. You will use the split in every later module.
Essential spending is spending you must cover every year, whatever markets do. For most people in Singapore it includes housing (mortgage, rent, conservancy, property tax), food at home, utilities, phone and internet, transport, insurance premiums and basic healthcare. A monthly allowance to your parents probably belongs here as well, since you would keep paying it in a bad year.
To sort a line, ask yourself: if my portfolio fell sharply this year, would I still pay this? A line is essential if you can answer yes without hesitating.
Some lines are less clear. Groceries pass the test easily. Food delivery three times a week may be partly flexible, because in a bad month you would cook more. A basic phone plan passes, but a new handset every year probably does not. When a line is part essential and part flexible, split it into two lines and sort each part on its own.
Income tax goes in your spending too. Most employees in Singapore pay it out of take-home pay once IRAS sends the bill, so the payment shows up in bank statements. CPF does not show up there, because it is deducted before your salary arrives. Lesson 1.3 covers what happens to income tax and CPF when the salary stops.
Three rules help with the harder lines. First, sort each line by what the spending is for. How you pay doesn't matter: a GIRO deduction can be flexible, and a cash payment can be essential. Second, don't move items into flexible just to make your essential figure smaller. You need the essential number to work as a floor you can rely on, and a floor you have trimmed on paper will be too low when you need it. Third, when you are unsure, put the line in essential. If you are cautious, the cost is a slightly higher number. If you are careless, you may find out in a bad year that some of your flexible spending couldn't be cut after all.
Flexible spending is anything you could trim, delay or skip in a bad year without real hardship. Travel and dining out are the obvious cases. Hobbies, gifts, entertainment, most subscriptions and shopping beyond the basics usually belong here too.
Calling something flexible doesn't mean it is wasteful. Some of it, such as long trips, classes and time with friends, may be the reason you want financial independence at all. The label only means you could cut the item for a year or two if you had to, and that gives your plan room to bend.
Lumpy costs are the third group, and the one most people forget, as lesson 1.1 warned. They come once a year or once every few years: an annual insurance premium, a new fridge, a laptop, home repairs, a big family celebration, a gift when a cousin marries. Looked at month by month they seem like exceptions, but over a decade they come round as regularly as rent.
Enter each lumpy cost in your yearly figure as an average, by dividing the cost by the number of years between occurrences. Using invented figures, a S$6,000 renovation every ten years works out to S$600 a year (S$6,000 / 10), and a S$2,000 laptop replaced every four years works out to S$500 a year (S$2,000 / 4). If you own a car, spread its replacement cost over the years you expect to keep it and add that amount to your yearly figure.
After going through her statements line by line, Priya had three yearly totals:
Essential, S$24,600: the cash portion of her mortgage, conservancy, utilities, groceries, MRT and taxis to work, office lunches, her phone plan, her yearly income tax bill, and a monthly allowance to her mother. Flexible, S$12,000: travel, dinners out, a pottery class, shopping and a few streaming services. Lumpy, S$9,000 as a yearly average: annual insurance premiums, home repairs and appliances, devices, red packets and wedding gifts, and one bigger holiday every couple of years.
The three groups add up to her full spending: S$24,600 + S$12,000 + S$9,000 = S$45,600. Her income tax bill sits in essential because, as an employee, she pays it from take-home pay after the IRAS bill arrives.
Priya found the split useful straight away. A little over half of her spending is essential. In a bad year she could probably cut about a quarter of her total, mostly travel and dinners, without giving up anything she needs. Lesson 2.4 comes back to this when she chooses a withdrawal rate.
If all your spending is essential, a bad year leaves you one option, which is to sell investments at low prices to pay the bills. If a large share is flexible, you can also spend less for a while and give the portfolio time to recover.
The plan is stronger still when income that does not depend on markets covers your essential spending. Your investments then only need to carry the flexible part, so a bad year means fewer holidays while the bills still get paid. That income could be a CPF LIFE payout later in life, rent from a property or part-time work. Module 3 shows how CPF LIFE can cover essential spending from your payout age, and Module 5 shows how part-time work can cover it earlier.
Take last year's total from lesson 1.1 and your statements, and go line by line. The activity below asks for three yearly totals, one per group, so keep a running sum as you go.
Sort last year's spending into essential, flexible and lumpy, and write a yearly total for each.
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