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Mobility Basics - Understanding spendables

Following on from our look at the home-based salary approach and the Cost of Living Adjustment, we delve deeper into the concept of spendable income – the portion of salary to which the cost of living index is typically applied.

What is included in the spendable income?

The spendable income includes household expenditure on goods and services. Adjusting the home spendable by a cost of living index to produce a host spendable is essential to ensuring an assignee’s buying power is maintained in their host country while preserving housing and savings obligations in their home country.

According to ECA’s Expatriate Salary Management Survey, 55% of companies that reference spendable income use the total spendable portion of salary, which includes all expenditure except housing costs and savings. The total spendable can be further broken down into index spendable and other spendable. Index spendable (used by 31% of companies) covers day-to-day expenditure such as food and household essentials that are covered by ECA’s Cost of Living basket. Other spendable covers less regular expenses such as furniture; luxury purchases such as jewellery or holidays; and items that are often compensated for separately in the salary package such as education and health insurance. A small subset of companies (14%) choose to use an adjusted index spendable that incorporates expenditure on specific groups within other spendable such as utilities or public transport.

An alternative method used by some companies is to apply indices to a flat percentage of net salary - most commonly 60% - irrespective of the assignee’s personal circumstances. This generic approach is certainly much simpler to implement but can be much more difficult to defend. 

Components of salary

Total spendable
Housing and savings
Index spendable
Other spendable
 
Food, including meals out
Utilities
Rent
Alcohol and tobacco
Furniture
Mortgage payments
Clothing and footwear
Childcare
Property repairs and maintenance
Household products and services
Private health services
Private pension contributions
Medicines and medical products
Vehicle purchases
Life insurance
Toys and hobbies
Public transport
 
Sporting goods and services
Education
 
Cultural services
Holidays
 
Audio-visual goods
Jewellery
 
Vehicle running costs
Bank and legal fees
 
Personal care
 
 

How is spendable income derived?

The data to calculate spendable income is obtained from household expenditure surveys published by government statistical offices. These surveys give an overall picture of how a typical household in a particular country allocates its income. The frequency at which such surveys are conducted varies from country to country. Some update annually while others will only survey the population every five years. ECA updates its spendable assumptions each year based on the latest available information.

Variations in spendable income

Differences in spendable income can be explained by a combination of three key factors: the household income, the household size and the nationality.

Nationality

Household spending patterns can vary enormously between countries.

The cost of living in a country can influence how households allocate their income. High accommodation costs in Hong Kong for example explain why housing accounts for close to 30% of income for the average household, while the proportion allocated to items within other spendable is relatively low.

Institutional differences, such as the level of state funding for pensions and healthcare, can also impact spending behaviour, in particular it can affect a household’s propensity to save. A less generous state pension system, such as that seen in Japan, would encourage households to save more for retirement, while households that can better rely on the state, such as in Finland, save less.

Other factors, such as climate, infrastructure, demographics and societal norms will also contribute to spending pattern variations.

Furthermore, these factors which contribute to variable spending patterns can evolve over time. A rise in inflation will likely necessitate an increase in spending and result in a drop in savings. Populations are aging across the globe, and continuing to impact average spending patterns, as will rapid urbanisation in countries such as China.

chart showing how the spendable components of a net salary differ by locationHousehold income

As household income increases, the total amount spent on goods and services will logically also rise. However, the rate at which this spending increases is not consistent.  Spending on basic necessities - covered by index spendable -  typically diminishes as a proportion of salary as the salary increases. This is because the actual quantity of items consumed within index spendable does not change significantly at different income levels. Expenditure on items covered by other spendable and expenditure on housing also tends to increase at a slower rate compared to any rise in income though not to the same extent. Higher income households therefore understandably have an improved capacity to save.

This is illustrated by the example below for a family of four in the USA. At a junior manager level, the index spendable accounts for 28% of net income, other spendable 29%, housing 23% and savings just 21%. Comparing this to senior executive level we see that household spending behaviour changes significantly. The index spendable share drops to 21%, other spendable and housing both fall but at a slower rate, to 25% and 19% respectively, and the rate of saving soars to 35%. 

chart showing how the spendable components of a net salary differ by seniorityHousehold size

The third key component which influences spendable income is the size of the household. As the family size expands, so do certain costs, which can diminish the ability to save. Though the impact of an increase in family size on spendable income does vary by country and income size, one common trend is that index spendable takes up a greater proportion of income for larger households. However, the impact to housing and other spendable is not as consistent.

A common assumption is that, at a fixed income, all expenditure will increase as the family size grows, especially after the arrival of a new baby. However, this is not always the case, particularly for households with lower incomes. We find that the majority of households live within their means. A larger family will need more food, more clothing, larger accommodation and so forth, but this will often necessitate a change in spending behaviour, such as buying cheaper products or seeking accommodation in lower cost districts if their income is unchanged. An increased spending on basic goods may also be offset by lower expenditure on luxury products (i.e. other spendable). Savings do fall but still usually account for a significant portion of income.

chart showing how the spendable components of a net salary differ by family sizeHost spendable

The level of home spendable does change year to year, but these changes are typically small relative to the impact of index movements on the host spendable when quoted in home currency. When the host spendable component of the salary package is quoted in host currency, it is protected from currency fluctuations and will vary depending on the relative price movements in the home and host countries, moving up or down to account for the cost of living.

Summary

The spendable element of a salary package can often be the most challenging to explain to an assignee, particularly when their spendable has fallen.

It is important to remember, particularly when communicating the spendable element with an assignee, that the data is based on an average household. Though it is a highly refined estimate, it is still an estimate. All households are different so the spendable income will not exactly reflect each individual household’s experience.

It is vital that global mobility managers have an understanding of the underlying facets of spendable income to help inform policy decisions when using the home-based approach to salary delivery.

  FIND OUT MORE

Spendables form part of ECA's Cost of Living data offering. ECA publishes Cost of Living data for more than 460 cities around the world. It is available from ECA in several forms: as part of a subscription in a calculator which allows you to experiment with different types of index and review the outputs; in reports, providing background detail for specific indices; and as part of the Build-up Calculator for performing balance-sheet calculations. Cost of living data is also pre-populated in ECAEnterprise, our Assignment Management System, and in our Net-to-Net Calculator.

If you'd like advice on the application of cost of living data, understanding different approaches to assignee pay or would like help designing or reviewing your mobility policies, please get in touch.

  Please contact us to speak to a member of our team directly.

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