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What is Discretionary Income?

What is Discretionary Income?

This article will tell you all that you need to know about discretionary income, which happens to be very different from the commonly used term of disposable income.
Rahul Thadani
When we speak of the income of an individual, the two concepts that come to the fore are disposable income and discretionary income. The former is the amount of money that the person can spend after taxes have been deducted from this amount. These taxes can be deducted at source or at the end of the year. On the other hand, the latter implies the amount that remains from the disposable income after expenses related to food, shelter, and clothing have been paid off.
Thus, it can be said that it is the money that is available to spend once all the necessities have been paid for by an individual. Hence, money that is spent on luxury items, vacations, and non-essential shopping fall under this category, making it much lesser than the gross income.
Implications
If the economy sees higher levels of discretionary income, this means that a lot of people are leading a good lifestyle. If more people are buying luxury items and expensive gadgets, this is a sure sign that the economy as a whole is doing well. On the other hand, a rise in the inflation rate leads to a fall in discretionary income, as people tend to spend more on the basic necessities with little or no change in their gross income.
Simply knowing what the definition is not enough though, because a study of this concept leads industrialists and marketers to define their strategies. Add to that, the fact that it is very difficult to establish at what point a person's expenditure crosses over from essential to luxurious, and this makes this concept a highly theoretical one. For instance, food is categorized as an essential item in this list, but for someone, who is a nonbeliever in financial management and spends all his extra earnings in fancy restaurants, this concept becomes misleading. Additionally, there are certain other areas like education, health care, and transportation which are also essential for most people.
For manufacturers and sellers, this income equates to the buying power of customers. They analyze many statistics to determine their sales forecast and production strategies so that there is no excessive or inadequate inventory. But the situation gets even more difficult to understand because of the use of credit cards. Since most people spend more than they make, due to these cards, discretionary income becomes even harder to calculate in such a scenario.
The state of the economy also plays a role in the amount of discretionary income a person has. In times of economic recession, it will obviously be lower. But when the economy is booming, every person will have a higher percentage for discretionary spends. In times of high inflation, the number falls again, and this in turn leads to rising personal debt, which ultimately results in higher levels of national debt as well. Thus, there are a number of things that are inadvertently linked with its levels, even though this is a concept that has no standardized value and formula for calculation.
Here are some useful statistics, sorted mainly by age and other parameters:
  • Only 10% of the households in the US have an income of more than USD 100,000 per year. 70% of the discretionary income is generated from these households.
  • The overall average discretionary income in the country is around USD 20,000 per year.
  • Households headed by people in the age group of 50 - 65 years have 30% of the total discretionary income; this figure is 40% for the 35 - 50 years age group.
Thus, households whose head is in the age group of 35 - 50 have the most, and this is no surprise since this is the age when working people are at their peak and can make the most money. Additionally, households whose heads have a higher education also earn more income, and thus, have a higher aggregate, as compared to someone with lesser education. This is also easy to explain.
At the end of the day, it's a figure for expressing the standard of living of an individual and also provides an idea about the health of the economy. Having said that, putting this concept into practical use is a rather impossible task.