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Understanding the Cost of Living

The cost of living refers to the money needed to sustain a certain standard of living. It includes all the essential expenses for basic needs like housing, food, transportation, healthcare, etc. 

To put it bluntly, the cost of living is the “price tag” attached to your day-to-day life. 


Sarah is a single mom living in the city. Each month, she budgets for her rent, groceries, utilities, childcare, and transportation to get to work. These core expenses make up her cost of living. If these costs ever increased, Sarah would feel the pinch in her wallet.


Understanding the cost of living is crucial because it helps you understand if your income is enough to cover your basic needs and maintain a decent quality of life. By recognizing the factors influencing your cost of living — location, family size, and lifestyle choices — you can make more informed financial decisions and stretch your dollars further. 

What is the cost of living? 

Typical cost of living expenses for most households include: 

  • Housing: Rent or mortgage payments, property taxes, utilities, maintenance, HOA fees, and renter’s insurance. 
  • Food: The cost of buying food from grocery stores, farmers markets, convenience stores, and restaurants. 
  • Transportation: Car payments, insurance, fuel, maintenance, parking fees, or public transportation costs. 
  • Healthcare: Insurance premiums, deductibles, co-pays, and out-of-pocket medical expenses. 
  • Education: Tuition, school supplies, and extracurricular activities. 
  • Other essentials: Clothing, personal care products, household supplies, laundry (if you don’t own appliances), childcare, pet food and supplies, and entertainment. 

The cost of living varies widely depending on your household size and how you live. For example, a single person who rents a studio apartment in the city and uses public transportation has a very different cost of living than a suburban homeowner with two kids and multiple vehicles. 

To budget effectively, make informed financial decisions, and ensure that your income covers your expenses, you must first know what the cost of living looks like for you

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Factors affecting the cost of living 

The cost of living also varies depending on where you live. For example, the cost of housing, transportation, healthcare, and essential items in New York City is much more expensive than in a city like Decatur, Illinois. 

Using NYC as an example, let’s look at the factors affecting the cost of living. 

Housing costs 

  • Supply and demand. Desirable areas have limited available housing, which drives up the home and rent prices. New York City is notorious for having high housing costs. 
  • Location. Within the same city, some neighborhoods are more desirable and have higher housing prices. For example, average rent and housing prices in Manhattan are nearly double the prices in Brooklyn.

Transportation costs 

  • Public transportation systems. Cities with good public transportation systems may offer lower prices to riders, giving residents the option not to own vehicles. NYC has one of the best public transportation systems in the US, so you wouldn’t need to own a vehicle to live there. 
  • Fuel costs. The average price you pay at the pump varies from city to city. 
  • Parking. Paying to park your car can really add up in some cities, whereas residents in suburban and rural areas rarely encounter parking fees. 

Healthcare costs 

  • Quality of available healthcare facilities. Cities with prestigious healthcare institutions or medical centers have higher healthcare costs because of the quality of healthcare and specialized services. 
  • Health insurance premiums. These often reflect the overall cost of living in an area. The higher the cost of living, the higher the premiums for healthcare. 

Determining the cost of living in a new city 

If you’re thinking about moving, you should know how the cost of living in your future area compares to where you currently live. There are several ways to estimate what living in a new city might cost: 

  • Use online resources and calculators to compare the cost of living for two cities. 
  • Research specific expenses in each city. 
  • Contact online communities in cities of interest and ask lots of questions. 
  • Visit cities on a “fact-finding” trip to experience what it would be like to live there. 
  • Look at a city's overall quality of life to decide if a higher cost of living is worth it. 

Moving is a big decision; after researching, it may turn out that staying where you are is the better choice. 

How cost of living is calculated 

There are several methods for calculating the cost of living. Each one considers the prices for housing, utilities, transportation, healthcare, groceries, or other essential expenses. 

Four well-known methods of determining the cost of living are: 

  • Consumer price index (CPI): Tracks the price changes over time that urban consumers pay for housing, transportation, food, clothing, healthcare, and entertainment. If housing or grocery costs skyrocket in an area, the CPI reflects the increase in the cost of living. The Bureau of Labor releases the CPI on its website. 
  • Cost of living index (COLI): This method compares the cost of living between two cities or regions based on a standard set of goods and services. Numbeo is an online resource that crowd-sources price and quality-of-life data for easy comparison. 
  • Rent index: This focuses on rental costs and provides a benchmark for comparing rental housing prices in different areas. Sources like Rent.com provide market reports for different US metro areas and how they compare to the national averages. 
  • Living wage calculators: These tools estimate the income needed to cover living expenses in a specific location. The MIT Living Wage Calculator is a reputable online tool for determining the living wage for a location. 

Necessary vs. discretionary spending 

Distinguishing between necessary and discretionary spending is crucial in achieving financial stability. 

  • Necessary spending: Vital expenses for meeting your basic needs and sustaining a decent quality of life. It includes housing, utilities, food, transportation, and healthcare. 
  • Discretionary spending: Expenses that make your lifestyle more comfortable. It includes dining out, travel, non-essentials, hobbies, and entertainment. 

The first step in budgeting and financial planning is being brutally honest about which buckets your expenses fall into. 

Here’s an example of how you might prioritize expenses and make the most of your money: 

  • Step 1: Create a budget by tracking your income and expenses. 
  • Step 2: Allocate money to cover all necessary expenses before any discretionary expenses. 
  • Step 3: Look for ways to save with sales and discretionary expenses you can eliminate. 
  • Step 4: Set realistic short-term and long-term and long-term financial goals, such as savings or debt payoff
  • Step 5: Practice self-control to prevent unnecessary purchases or overspending. 

Budgets change as your finances change, so plan to revisit your budget every few months. 

What is a cost-of-living adjustment (COLA)? 

A cost-of-living adjustment (COLA) helps wages, pensions, and government benefits keep up with the cost of living and mitigates inflation's negative impact on purchasing power. 

COLAs reflect increases in the Consumer Price Index. As the price of goods and services causes the CPI to rise, COLAs adjust salaries, pensions, and benefits. This adjustment helps create financial stability for those living on fixed pensions, keeps salaries competitive, and allows consumers to maintain their current standard of living. 

You should know most employers aren’t legally required to provide COLAs unless mandated by law or agreement (such as unions). There’s no established threshold for when a CPI increase calls for a COLA, and employers don’t have to provide COLAs every year. 

How does the cost of living index work? 

Along with comparing the cost of living among different regions, the COLI tracks changes in the price of groups (or “baskets”) of goods and services over time to provide insight into inflation trends. This information helps individuals and organizations plan and adjust financial strategies. 

Constructing the COLI involves: 

  1. Data collection. Economists gather data on the prices of a basket of goods and services most households purchase, such as groceries, housing, transportation, and healthcare. 
  2. Weighting. Since some expenses are more important than others, economists determine an expense's importance (i.e., weight) in the average consumer’s budget. 
  3. Calculation. Using the price data and weight values, economists calculate the index to show the average change in price for baskets of goods and services. 

Different businesses, organizations, and decision-makers in the US economy use the information from the COLI to create financial decisions and policies at all levels of the US economy. 

  • Policymakers use the COLI to create fiscal policies, such as central banks adjusting interest rates based on inflationary trends the COLI shows. 
  • Economists use COLI data to assess economic health and to forecast future trends, such as consumer spending and overall economic activity. 
  • Businesses rely on the COLI to make pricing decisions and adjust employee wages, such as raising prices in high-inflation areas or offering higher wages to attract talent. 

The difference between the cost of living and standard of living 

“Cost of living” and “standard of living” are often used interchangeably. But they’re different concepts with different implications. 

While the cost of living is the money needed to cover the expenses for a certain lifestyle, the standard of living is a holistic view of a lifestyle. It considers access to education, healthcare, social services, environmental quality, and overall quality of life. It looks less at how much it costs to live and more at the conditions people live in. 

For example, let's say you've moved to a major city with an affordable cost of living. You're enjoying a comfortable lifestyle, but you've noticed the area's poor air quality (due to pollution) and lack of quality schools and healthcare facilities. Despite living in a spacious home, these factors have caused a decline in your overall standard of living. 

Assessing a location’s standard of living, even when the cost of living is reasonable, requires weighing many factors. 

Navigate the cost of living with confidence 

Your cost of living is more than just a number; it’s a financial snapshot of your lifestyle. By adopting proactive budgeting and financial planning strategies, you can take control of your expenses, make informed decisions, and achieve a comfortable, fulfilling life no matter your location.

Notice: Information provided in this article is for informational purposes only. Consult your attorney or financial advisor about your financial circumstances.

Bree Ewers headshot About the author

Bree Ewers is a senior editor, copywriter, and content writer whose work has been featured across the media, small business, and financial industries. She operates Nomad Freelance Content from her home office in Portland, Oregon.

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