Millionaire Next Door Formula: How are you with saving?

The Coffee Shop
43

That’s fine but the key point I was making is that the amount of your payment is fixed (typically). Unless you pay additional principal up-front on your own, the amount you owe decreases very slowly at first. That accelerates as time goes on because your payment stays the same but more of it is going towards principal each month.

When talking about building equity in home value, there are two ways: growth in real estate value, and amount you paid into principal. The latter is much more effective towards the end of a loan.

That is incorrect. Making payments on the principal is much more effective early on, because of compounding interest. Here is an example:
Say you have a starting with $100k owing, at 6% per annum, and monthly payments. So the first payment will have accrued $500 interest that you must pay. Say your payments are then set to $600 for “maximum affordability”.

The balance owing at the end of each month will go something like this (with a bit of rounding):
Month 0: 100,000 → interest is $500
Month 1: 99,900 → interest is $499.50
Month 2: 99,800 → interest is $499
Month 3: 99,700 → interest is $498.50
…
Month 12: 98,200 → interest is $494.10

In one year, you will have spent $7200 and paid off just over one percent of the principal. So you’re making progress but it’s really slow.
At the end of the mortgage term, if you cough up $1200 all at once then it will take two months off your mortgage payback period.

However, if you were able to pay $1200 extra toward your mortgage in the first year, you would basically double the amount of principal you paid back in that year, and you would take nearly an entire year off the remaining payback period.

When we had a mortgage, most Canadian bank mortgages let you pay up to 20% of the principal per year (usually in a one-time lump sum), and you could increase the payment by up to 20% per period as well. The earlier you could do such a thing, the more money you saved in interest paid.

The benefit of this strategy is different depending on whether the interest portion of your mortgage payment is tax deductible. In Canada, it is not, unless it’s an investment property (i.e. not your principal residence).

44

We’re sitting at 130% of retirement goal projections with a retirement age of 60. There’s home equity on top of that and day to day emergency savings as well, but not as much in the emergency savings as I’d like. It still doesn’t feel like enough, but when I look at others my age and my wife’s (40 and 37), I’m reminded our steady savings and minimal debt is where we need to be and we’re doing fine. Currently I’m saving 18% of income toward retirement, plan to bump that to 20-22% soon, and hope I can accelerate that goal a bit over the next few years and then move out of my job into something at a lower pay it the non profit sector and merge more of what gives me Joy into my work rather than just volunteering consistently. But we’ll see what the investments and future university costs do to that plan.

45

So if I am not saving enough then I just need to switch to a job that pays less and then I hit my number?

This formula doesn’t make sense unless your salary is pretty static; my pay has increased substantially in the past 5 years. I am actually right at my number (if I count my retirement and non-retirement savings), but if I hadn’t increased my pay so much I would look like a much better saver;)

46

The formula is asinine and not worth a nickel. I think when you are 40-45 having 4-4.5 your salary in net worth is a reasonable goal. So a broken clock is right twice a day?

As you pointed, using a linear formula to model an equation with exponential variables means the model over estimates when you are young and under estimates when you are old.

47

Pension plans are assets. You have to figure out what they are worth and work that into the formula.

Also, I don’t understand your logic. It seems to contradict itself. You live off of half of your income (so you save a lot) but you have all these huge expenses (so…you don’t save a lot?).

I am completely aware my pension plans are assets. Collectively, a portfolio that yields $60,000 per year at a hypothetical 4% return would have to be around $1.5 million. So, that component of my retirement income is reasonably valuable, especially since it continues as long as I am alive AND pays a spousal benefit after my death.

Regarding the comment about living off of half my income, I have much lower health care costs right now because I am on my company’s group health insurance. When I retire, I will have to pay full price for my wife’s health insurance for about 8 years and my daughter’s for about 5 years (I will be eligible for Medicare when after COBRA runs out). College expenses will double next year when both kids will be enrolled. Those are costs that will be incurred after retirement, if I retire early when I want to retire. The whole point is that these formulas have to be taken with a grain of salt. I threw them all out the window and created my own pro forma spreadsheet that estimates my expenses and income. I factored in generous allowances for things I want to do in retirement like travel and do more flying. I also addressed the fact that my retirement nest egg needs to outlive my 10-year younger wife, not just my dismal existence. This isn’t taken into account on any retirement calculator I have come across.

Greg

48

49 and bugger all in savings, concentrating on paying off debt from amongst other things a spell of a few years on the sick, a divorce and a house in negative equity we can’t sell. Our life style is far from lavish. We live in a location with a very expensive cost of living (due to remoteness), no flash holidays, don’t drink, smoke or eat out much. Two 9 year old cars (both needed to actually carry out work).

I can’t ever see me having the predicted £147k in savings, my wife’s works out at £172k. It seems unbelievable for us to have £319k in joint savings.

We do have works pensions and maybe money in the house we can’t currently sell (rent just covers mortgage) if we do eventually sell it, but not much.

49

This isn’t really a “how rich are you” question as it is a “how well do you save” question. I just went through our finances today and was happy to see that we’ve crossed the threshold.

The formula is annual income (pre tax) divided by 10, then multiply by your age. You can include assets (like home equity) but not inheritance (since that has nothing to do with your saving/investment habits).

So if you make $30K and are 32 years old, that target number would be $96,000.

If you make $75K and are 42 years old, that target number would be $315,000.

If you make $105K and are 50 years old, that target number would be $525,000.

I’m 46 and am actually short of my target due to a late start on my career, while my wife is well ahead of her number being able to start right out of college with no debt. Combined we are pretty much right at the target (using my age). But, ya know when you make $9 an hour…; )

I don’t think those numbers are realistic if people are living in California. Probably why people are moving out to other states.

50

The formula is annual income (pre tax) divided by 10, then multiply by your age. You can include assets (like home equity) but not inheritance (since that has nothing to do with your saving/investment habits).

Well below unfortunately but have a solid plan in place and working towards being debt free.

Happily paid off and cut up one credit card. Minimal balance remaining on the other, once paid off, will be reducing the limit by half. Small student loan remaining. No debt on vehicles. Mortgage on house, but house has increased in value minimum 13% annually for last 4 years so Im well ahead on that one. Have 500 or so hours of paid annual leave up my sleeve too - equates to about $25k or so.

The above has slowed down since wife stopped working and I am sole income for family of 5. Kids are freakin’ expensive man!

51

"So if I am not saving enough then I just need to switch to a job that pays less and then I hit my number?

This formula doesn’t make sense unless your salary is pretty static; my pay has increased substantially in the past 5 years. I am actually right at my number (if I count my retirement and non-retirement savings), but if I hadn’t increased my pay so much I would look like a much better saver;)"

Just like with any rule of thumb, one is expected to put a modicum of though into it (like you just did). The rule applies to people who have a typical income growth. Its meant to be simple, not perfect.

52

Don’t hate me for bringing the median income of the LR down, but I’ll bite.

By this formula, I’m astronomically low.

($30,000/10)(19 years old)= $57,000.

Yeah right.

53

It is overly simplistic, earnings are seldom linear. It also is most inaccurate when you have just begun your working life.

54

Yeah, I figured as much :slight_smile:

I’ve also not begun my eventual career yet, as I’m still in college, so the good earning years are hopefully still ahead of me :slight_smile:

I am going to open a Roth IRA soon, I’m just trying to figure out if I go through my local credit union, Charles Schwab, or somewhere that I don’t know about yet…

55

This post is depressing. I am really curious to know what some of you are making a yr.

I make almost 85k and wife makes almost 70k. We put 2.5% in to a pension automatically and then we each have our own small 401k. I put 200 in a month and she almost does 100 a month (that needs to change). We have 20k in savings and that is it. We might have 100k in home equity but we are also only paying for a mortgage, car loan (4 yrs left) and daycare (2 yrs left).

We both are educators and have 15 years left. Guess we have a lot to adjust. I should probably sit down with someone to give us more guidance.

56

This post is depressing. I am really curious to know what some of you are making a yr.

I make almost 85k and wife makes almost 70k. We put 2.5% in to a pension automatically and then we each have our own small 401k. I put 200 in a month and she almost does 100 a month (that needs to change). We have 20k in savings and that is it. We might have 100k in home equity but we are also only paying for a mortgage, car loan (4 yrs left) and daycare (2 yrs left).

We both are educators and have 15 years left. Guess we have a lot to adjust. I should probably sit down with someone to give us more guidance.

Unless you have an ungodly high mortgage, you need to be putting away more than $300 a month. I would think at least $1k/month

57

I think you’d need to list exactly where your expenditure is going

Your joint income is high, you need to determine how you’re spending it

A good friend of mine and his wife were making about the same gross as you, the split was different, 120/40. They lived on her salary and saved his.

58

**We both are educators and have 15 years left. Guess we have a lot to adjust. I should probably sit down with someone to give us more guidance. **

It sounds like you have no idea where your money is going each month. You and your wife should pull out your bank and credit card statements and write down every single thing spent in the last month including all expenses that come out automatically. For many, they have set up so many monthly payments that come out automatically “for their convenience” that they lose track of their money. The mindless daily habits like coffee shops, magazine subscriptions, buying things you don’t need because they are on sale etc., can kill any chance of savings.

59

This post is depressing. I am really curious to know what some of you are making a yr.

I make almost 85k and wife makes almost 70k. We put 2.5% in to a pension automatically and then we each have our own small 401k. I put 200 in a month and she almost does 100 a month (that needs to change).
As others said, look at the spending side. $155k combined income is more than enough to have built a substantial nest egg. My wife does not work, and only about 3 or 4 years ago was my single income higher than your combined. But even when I first started working and had a significantly lower salary, the first thing was to pay future self. I always maxed out my 401k space. It was taken off the top so I had to adjust to a lower take home pay.

Obviously if you live in a high cost of living area it will be more of a challenge. Fortunately we live in an average cost of living area, but we have never lived to keep up with the Jones’s, paid off our house early to avoid as much debt as possible, buy new cars but drive them until their death, etc. We don’t have kids, so we saved a chunk there. Today, because we have low expenses, I can easily save at least $4k/month on an income about 5% higher than your combined.

Our basic expenses (home/auto insurance, property taxes, utilities, HOA) come to under $24k. Even when we had a mortgage, that figure would only be another $15k or so. Butnnthat leaves a ton of headroom for food, entertainment, additional saving, etc. But the etc is where you can get killed on saving. Just because you make more than you need to live doesn’t mean you should spend it all each month…

61

I agree with the gist of your post. But be careful about making generalizations about how much they can set aside. 150k combined may seem like a lot, but it is very dependent on where you live. I could see that being stretched in a hurry in a place like NYC or San Fran (esp considering child care also).

Still worth talking with a financial advisor though.

We make around 175k but our mortgage, for a small 70 year old house, and childcare for 1 kid is close to 70k a year.

We aren’t saving nearly as much as I would like to.

62

This post is depressing. I am really curious to know what some of you are making a yr.

I make almost 85k and wife makes almost 70k. We put 2.5% in to a pension automatically and then we each have our own small 401k. I put 200 in a month and she almost does 100 a month (that needs to change). We have 20k in savings and that is it. We might have 100k in home equity but we are also only paying for a mortgage, car loan (4 yrs left) and daycare (2 yrs left).

We both are educators and have 15 years left. Guess we have a lot to adjust. I should probably sit down with someone to give us more guidance.

First few years of marriage early 90’s 2 incomes total income then was probably 60Kish, I put 10% into 401k but that was only my half, wife did an IRA. Have ever since never really changed, after about 3 yrs had a kid went down to 1 income probably . 3 kids, have always put 10% in my 401k, and aggressively invested, have made about 9% avg return over the 28ish yrs. Income maybe 5 - 8yrs ago crossed into 6 figure, now slightly above. Mortgage paid off, same house we bought in the early 90’s though did an addition (which cost more than the original purchase price, and just did a kitchen overhaul that cost about 2/3rds the initial house cost). I attribute it to putting in early, steadily and AGGRESSIVE investing. Had a year with 75% growth… had a year with 50% loss. Have now gone to 30% cash as I am within 10yrs of retiring. the other 70% is all in market index funds

The sad reality, if you didn’t start young, and didn’t invest aggressive, its very very very hard to make it up.

All of my kids know Day 1 of your job put at least 10% or more into the retirement plan. If you never see it in a paycheck you will never miss it. You will learn to live a lifestyle of someone with 90% of your income.

63

I agree with the gist of your post. But be careful about making generalizations about how much they can set aside. 150k combined may seem like a lot, but it is very dependent on where you live. I could see that being stretched in a hurry in a place like NYC or San Fran (esp considering child care also).

Still worth talking with a financial advisor though.

I say excuses. Put 10% in your retirement from day one no matter what you make, You will adjust your lifestyle accordingly.

So much harder to take a pay cut later and change your lifestyle. At 150K income your probably close to paying 30% total in income take so put $15k in 401k and bring home 10k less per year. Yup might mean moving into a smaller place or further out, but I bet they can make it work.