'Discretionary Expenses' is explained in detail and with examples in the Corporate Finance edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.
A discretionary expense refers to those business or home costs that are not considered to be critical for the entity to function or operate effectively. This is important, since both businesses and individuals often are required to pay for discretionary expenses using discretionary income.
As an example, businesses might permit their staff to charge specific kinds of entertainment and meal expenses to the firm when they engage in these activities to build up business ties with clients, vendors, or potential customers. They might also cover meals and entertainment simply to foster better relations with their staff. A home would refer to discretionary expenses as those that they do not need, but instead want to have.
Discretionary income refers to any funds which remain after businesses or individuals pay their taxes and mandatory costs. On an individual level, those persons who do not have any money left once they pay the bills do not have any discretionary income. In order for them to pay for a discretionary expenses, they will be forced to take on debt by obtaining a loan or utilizing credit cards. An example of using debt to pay for a discretionary expense is utilizing credit cards to pay for a family vacation.
There are two kinds of expenses which consumer households incur. Some they are required to pay according to the law. This includes income and other taxes as well as health insurance (at least in tax years 2014 and 2015). Costs they have to pay out in order to make sure the family and household functions are also non-discretionary in nature. These include transportation costs, food, utilities, and rent or mortgage.
The people making the money do not have a choice of whether or not to pay these costs every month without suffering sometimes-severe consequences. The other kind of cost qualifies as a discretionary expense. This would be luxury items such as fine clothing, watches, or expensive liquor and vacation related costs. These are simply those services and goods costs which an earner may choose to pay for according to their personal discretion.
When economic conditions warrant, both businesses and households may find that they have to reduce their outlays as revenues and incomes go down. This is why it is important to have a thorough understanding of discretionary expenses before hand. When these are separately broken out on paper or a spreadsheet, then businesses and consumer decision makers can quickly and easily ascertain what expenses can be lowered or cut altogether.
A helpful technique for budgeting lies in ranking those discretionary expenses by their order of relative importance. This could be done by putting the least important at the top of the list and continuing on down to most important. When business income reduction or a cut back in hours on the job occurs causing businesses or households to slash expenses, then it is easy for the spending decision makers to choose which expenses can and should be cut first.
It is also to keep in mind that there are differences between what businesses and consumers consider to be discretionary in nature. Families which have two cars will likely have two car payments. They may think that the two cars are necessities and not discretionary. The truth is different. In an emergency, they could manage with only the one car in many cases. When times become hard and a job is lost, the family can decide the second car is actually discretionary and not essential. This way, they can sell the second vehicle to remove the second payment overhead from the family or household budget.
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