Mandatory expenses
Also written Mandatory expenditure · Compulsory expenses · Committed expenses
The first layer of a household budget: amounts that must compulsorily be spent — tax, loan repayment and provident fund contribution — before essential living or discretionary spending.
In plain language
A household budget is not one pile of spending. The workbook splits it into three layers, and the order matters.
Mandatory expenses come first. These are the amounts that have to be paid, with no choice in the matter. Tax. The loan instalment. The provident fund contribution deducted from salary.
Essential living expenses come next. Groceries, rent, school fees, transport, phone and utility bills. Needed for daily life, but not a legal obligation.
Discretionary expenses come last. Entertainment and lifestyle spending. These are the ones that can be cut when money has to be controlled.
The layers explain where a household actually has room to move. A family under pressure cuts the third layer, then squeezes the second. The first layer does not bend, because a tax demand and an EMI arrive whether the income does or not.
How it works
Section 3.2 sets out the order in which a household budget is built. Start with all the heads of income, listing every amount received. Then work down the expense side: mandatory expenses, which have to be compulsorily spent; then essential living expenses, which are necessary for daily use; then discretionary expenses, which can be cut in case there is need for a control on the total amount spent. Total expenses subtracted from total income give the household's savings.
Table 3.1, the ABC Family's monthly budget, prices each layer. Income is Rs 1,37,000 (Mr A Rs 65,000, Ms B Rs 72,000). The mandatory layer:
| Mandatory item | Mr A | Ms B | Total |
|---|---|---|---|
| Contribution to PF | Rs 4,000 | Rs 5,000 | Rs 9,000 |
| Tax | Rs 5,000 | Rs 7,000 | Rs 12,000 |
| Loan repayment | — | Rs 12,000 | Rs 12,000 |
| Total mandatory | Rs 33,000 |
Essential living expenses come to Rs 64,000 and discretionary to Rs 15,000, giving total expenses of Rs 1,12,000.
One member of the layer behaves differently from the rest. The provident fund contribution is a mandatory deduction, but it is also saving. The workbook makes this explicit in its two bottom lines: monthly surplus in hand is Rs 7,000, and savings is Rs 34,000 — arrived at by adding the PF contribution (Rs 9,000) and the investments (Rs 18,000) back to that surplus. Tax, once paid, is gone; the PF contribution is still the household's money.
A worked example
The ABC Family's budget, read as layers (the workbook's own Table 3.1 figures):
| Layer | Amount | Room to cut |
|---|---|---|
| Income | Rs 1,37,000 | |
| Mandatory — PF Rs 9,000, tax Rs 12,000, loan Rs 12,000 | Rs 33,000 | None |
| Essential living — grocery, fees, rent, transport, phone, utilities | Rs 64,000 | Little |
| Discretionary — entertainment Rs 5,000, lifestyle Rs 10,000 | Rs 15,000 | All of it |
| Investments | Rs 18,000 | |
| Monthly surplus in hand | Rs 7,000 | |
| Savings (PF + investments + surplus) | Rs 34,000 |
Now the stress test an adviser should run. Suppose Ms B loses her job and the household income falls to Rs 65,000.
Her PF contribution of Rs 5,000 and her Rs 7,000 tax go with the salary. But the Rs 12,000 loan repayment stays, and so does Mr A's Rs 9,000 of tax and PF. Against an income of Rs 65,000 the surviving mandatory layer is Rs 21,000, leaving Rs 44,000 for essential living expenses of Rs 64,000.
The gap is Rs 20,000 a month, and it exists even after cutting the entire discretionary layer and stopping every rupee of investment. That is the practical meaning of a mandatory expense: it is the part of the budget that does not respond to the household's circumstances at all.
Why NISM asks about it
Chapter 3 (Cash Flow Management and Budgeting), section 3.2 (Preparing Household Budget) and Table 3.1. Expect either a classification question — is a PF contribution mandatory, essential or discretionary — or a budgeting calculation where the three layers must be deducted in the right order to reach the surplus. Chapter 4, section 4.2.3, uses the same three categories when allocating income across expenses.
Common exam traps
- Mandatory is not the same as essential. Tax, EMI and PF are legal or contractual obligations. Groceries and rent are necessary for daily life but are the second layer.
- Deduct in the workbook's order, mandatory then essential then discretionary. Taking discretionary out first produces a wrong savings figure.
- The PF contribution is a mandatory expense and a saving at the same time. It is deducted to get the surplus in hand and added back to get savings. Tax is not.
- A loan repayment is mandatory, not discretionary, however optional the loan felt when it was taken.
- Savings is not the residue of the budget. For the ABC family the surplus in hand is Rs 7,000 while savings are Rs 34,000.
- Do not confuse this ordering with the debt-servicing ratio. Debt to income measures only the lender payments inside the mandatory layer.
Check yourself
1.In making a budget, what is left after deducting mandatory expenses from total income?
- a)Savings
- b)Disposable income
- c)Net worth
- d)Monthly surplus in hand
Show the answer
Answer: (b) Disposable income
Step 2 of the four steps is: "List and deduct the mandatory expenses from the total income. WHAT IS LEFT IS THE DISPOSABLE INCOME." Essential living expenses are then deducted, followed by discretionary expenses, to arrive at savings.
2.Which category of expenses does the chapter describe as those that can be cut if there is a need to control total spending?
- a)Mandatory expenses
- b)Essential living expenses
- c)Discretionary expenses
- d)Non-recurring expenses
Show the answer
Answer: (c) Discretionary expenses
"Finally comes the DISCRETIONARY EXPENSES and these are the expenses that CAN BE CUT in case there is need for a control on the total amount spent." Mandatory expenses must be compulsorily spent and essential living expenses are necessary for daily use.
Where this is taught
Free preparation for NISM Series X-ARelated terms
- BudgetA list of all the money a household expects to receive and spend over a period, and when each amount falls due, used to check whether income is being managed well.
- Debt servicingAll payments a borrower owes a lender, whether principal or interest — the actual monthly outflow that every EMI, card payment and instalment adds up to, before it is turned into any ratio.
- Discretionary expensesHousehold spending that is not essential and can be cut if money is tight — entertainment and lifestyle wants, as against the mandatory and essential living expenses that come before them in a budget.
- Essential living expensesThe spending a household needs for daily life — groceries, rent, transport, utilities — that comes after mandatory expenses but before discretionary spending in a household budget.
- Income-expense statementA personal financial statement showing actual income earned and actual expenses incurred over a period, recorded on an accrual basis rather than when cash actually moves, revealing the real surplus or shortfall.
- Monthly surplus in handThe cash left with a household at the end of the month after every expense and investment — which is smaller than its savings, because mandatory deductions such as PF are savings too.