Chapter 3
Can everyone really retire a
millionaire?
“I wonder if it would actually be possible for every single person to retire a millionaire?”
That very provocative question was posed on my blog a few years back.
It’s been rattling around in my brain ever since.
The short answer is a qualified “Yes!” it is possible for every middle class wage earner to retire a millionaire. Though it’s never going to happen.
And that’s not because the numbers don’t work.
The numbers tell us that, compounded over time, it actually takes very little money invested to grow to $1,000,000. Over the 40 years from January 1975 - January 2015 the market has averaged an annual return of ~11.9% with dividends reinvested (~8.7% if you spent your dividends along 1 the way).At that rate just $12,000 invested in the S&P 500 stocks in 1975 2would be worth over a cool million ($1,077,485) today.
Don’t have $12,000 lying around? That’s OK. If you started in January 1975 and invested $130 per month ($1,560 a year) by January 2015 you 2 would have had $985,102.Not quite a million, but not a hand full of mud either.
Want nothing less than the full million? Kicking it up an extra $20 to 2$150 per month—or $1,800 a year—would have gotten you to $1,136,656.
Your million plus a new Tesla and Corvette.
If you think about it, this is pretty amazing considering all the financial turmoil of the past 40 years. However, it’s important to know that compounding takes time, so it helps to start young.
Of course, a million dollars is a very arbitrary goal. Perhaps the better question is: Can everybody achieve financial independence?
On blogs like www.earlyretirementextreme.com and www.mrmoneymustache.com, you’ll find countless stories of people with modest incomes who by way of frugal living and dedicated savings get there in a remarkably short time. For example, if you can live on $7,000 per year as the author of Early Retirement Extreme contentedly does, $175,000 gets it done figuring an annual withdrawal rate of 4%. (See Chapter 29) On the other hand, I remember having lunch with a friend of mine in 1995 shortly before Christmas. He’d just gotten his annual bonus: $800,000. He spent the lunch complaining that it simply wasn’t possible to make ends meet with just a lousy eight hundred thousand dollar year-end bonus. Somewhat stunningly, listening to him list his expenses, he was right. He was burning through more than $175,000 every three months.
Financial independence was a distant dream for him.
Money is a very relative thing. Right now I have roughly $100 in my wallet. For some (very wealthy) people out there, $10,000 has less relative value to their net worth. For (even wealthier) others, it’s $100,000. For still others (the vast number of very poor in the world), $100 might be more than they’ll see in an entire year.
Being independently wealthy is every bit as much about limiting needs as it is about how much money you have. It has less to do with how much you earn—high-income earners often go broke while low-income earners get there—than what you value. Money can buy many things, none of which is more important than your financial independence. Here’s the simple formula:
Spend less than you earn—invest the surplus—avoid debt
As we discussed in the introduction, do only this and you’ll wind up rich. Not just in money. But if your lifestyle matches or exceeds your income, you forfeit your hopes of financial independence.
Let’s consider an example. Suppose you make $25,000 per year and you decide you want to be financially independent. Using some of the lifestyle tips from the blogs above, you’d want to organize your life in such a fashion as to live on $12,500 annually. Two important things would immediately happen. You’d have reduced your needs and created a source of cash with which to invest. Now let’s use our calculators to play with some scenarios.
Assuming you’ll be financially independent when you can live on 4% of your net worth each year, you’ll need $312,500 ($312,500 x 4% = $12,500).
Investing your $12,500 each year (We’d invest in VTSAX—Vanguard’s Total Stock Market Index Fund) and assuming the 11.9% annual return of 3the market over the last 40 years, you are there ($317,175) in ~11.5 years.
At this point suppose you say, “OK I’m done with saving and I’m going to double my spending and spend my full earned $25,000 from now on. But I’ll leave my $312,500 nest egg alone.” In 10 short years it will have grown 3 to $961,946without you having to add a single dime. That amount yields
$38,478 a year at a 4% withdrawal rate. You can now not only quit working, you can give yourself a (rather substantial) raise.
For the sake of simplicity, I’ve ignored taxes at this point. However, I’ve also assumed you’ll never see an increase in income. Plus, I’ve tossed in VTSAX and 4% withdrawal rates. Don’t worry, we’ll look at those in depth a bit later. For now, we’re just doing a bit of “what if” analysis to help you see that your money can buy you something far more valuable than stuff.
Unfortunately, few will ever even see this as an option. There are pervasive and powerful marketing forces at work seeking to obscure the idea that such a choice exists. We are relentlessly bombarded with messages telling us that we absolutely need the latest trinket and that we simply must have the most fashionable of currently trending trash. We’re told that if you don’t have the money, no problem. That’s what credit cards and payday loans are for.
It is this thinking that makes it so hard for most people to see that it is possible to reach a million dollar net worth on an income of $25,000. This is not some evil conspiracy at work. It is simply business pursuing its own needs. But it is deadly to your wealth.
The science behind the art of this persuasion is truly impressive, and the financial stakes are huge. The lines between need and want are continually and intentionally blurred. Years ago, a pal of mine had bought a new video camera. It was the best of the best and he was filming every moment of his young son’s life. In a burst of enthusiasm he said: “You know, Jim, you just can’t raise a child properly without one of these!”
Ah, no. Actually you can. In fact, billions of children have been raised over the course of human history without ever having been videotaped. And horrific as it may sound, many still are today. Including my own.
You don’t have to go far to meet someone who will tell you about all the things they can’t live without. You likely know your share of people like this. But if you want to be wealthy—both by controlling your needs and expanding your assets—it pays to reexamine and question those beliefs.