The two-income trap

Several years ago, I read a book entitled The Two-Income Trap. While the book focused on the financial situation of two-income American households, the basic ideas behind the book are still applicable to the modern Singapore nuclear family. In fact, given that the Singapore two-income family is more prevalent today than ever before, it can be argued that the perils of the two-income trap are more relevant now than when the book was published.

The idea behind the two-income trap is simple. Decades ago, when the nuclear family was composed of a working father and a stay-at-home mother, most families subsisted on a single income while still being able to afford a middle-class lifestyle. If Mom worked at all (usually part-time), her money was “pin-money”, to be spent on little luxuries like restaurant meals and weekend trips to the amusement park (recall the American context of the book). Certainly, the family didn’t depend on Mom’s income to get by. In the unfortunate event when the father was no longer able to be the prime breadwinner, due to death, disability or retrenchment, the mother could leave the home and get a job, and the family would still be able to struggle through.

Fast forward to today. Now, most families are two-income, with both parents working. Families today enjoy a higher standard of living than ever before, and pay for it with their dual incomes. In other words, most families need their dual income. When I say higher standard of living, I don’t mean frivolous luxuries like holiday trips to Europe or fine dining. Families in general are not spendthrifts; they spend large amounts of money, but on things that are considered vital or worth spending on. These include a good home, a car, domestic help, and childcare (remember Mom is working too). For the kids, there are the computers, private schools, extra lessons of every kind, savings for college tuition etc. Most people would agree that these expenses are justifiable, hence my remark that families need their dual income to pay for all these expenses.

In the Singapore context, it is getting increasingly difficult, if not impossible, for families to get by on a single income, especially if they aspire to a middle-class lifestyle. How will your kids get into a premier school unless you pay to buy a house and live in the same prestigious district? How are your kids going to compete if they don’t have the extra lessons and costly after-school programs? Are you going to squander your time or your kids’ time on house chores, when domestic help is available? Is your kid going work summer holidays to help with the household expenses, or are you going to pony up for those expensive overseas student immersion programs? The resume arms race starts ever earlier …

[As an aside, higher income families tend to pass on lasting cultural advantages to their kids that help them compete better: better education, healthcare, nutrition, free time, discipline and attitudes. The idea that meritocracy is unequivocally good needs to be qualified by the understanding that the playing field is inherently uneven. A high achiever's performance could simply be a reflection of their privileged circumstances. More in a future post.]

Although families with dual incomes enjoy standards of living higher than ever before, they are more vulnerable in the event that either spouse is unable to work. This is because the family that needs the dual income has no ‘spare capacity’, unlike decades ago when only one parent worked (and only one income was needed). Once one parent is unable to work, the two-income family immediately falls into a distressed situation. And it doesn’t take a genius to figure out that with both parents working, a two-income family has approximately twice the probability of falling into a distressed situation as a result of income loss, as compared to a single-income family.

An even sharper irony can be observed if we analyze the expenditure of the most responsible parents. Responsible parents want the best for their kids and as a result, are usually more willing to leverage on their finances for better homes, better schools, better everything. The sticking point is that expenses associated with these better things are recurring in nature. You can’t automatically lower your mortgage payment for instance. If you bought your house on the assumption that a dual-income makes the house affordable, the loss of one income immediately raises the specter of foreclosure.

Contrast that with a family that bought a smaller home and a smaller car, but habitually eats out and spends on ‘frivolous’ things like holidays to Europe. In the event of income loss, the family can immediately tighten its purse-strings by cutting back on these discretionary expenses. This family will have an easier time than the family that bought a bigger house, put their kids in private school, and depended heavily on domestic help and paid childcare, despite all these being “worthwhile” expenses.

The lessons and dangers of the two-income trap are still present today and are arguably even more relevant given the extinction of the working father, stay-at-home mother family model.

So how should families guard against the dangers of the two-income trap? Here are a few suggestions:

1. Earn two incomes, but make a conscious choice to live on only one or one and a half.

2. Limit your exposure to recurring expenses. Instead don’t feel guilty going out to nice restaurants and take relaxing holiday trips! These are precisely the things you can afford to cut back on when times get tough.

3. Save. A lot. And don’t touch it unless you really need to.

4. Understand the competitive environment we live in today, but don’t let the cost of competing overwhelm you. Be conservative with your finances. Having no safety net is worse than ‘missing out’ because a drastic life-changing event can seriously impact you and your family’s future forever.

5. Buy insurance, and make sure it’s the right kind. This includes mortgage, life, health, critical illness/disability, unemployment etc. And buy term, because you get the most protection for the fewest dollars. Yes, you don’t get it back unlike say whole life, but consider it protection money to keep the big bad black swan from your door.