What Millennials (Especially) Should Avoid to Achieve Financial Independence
In 1984, Paul and Vicki Terhorst decided to retire at the ripe old age of 33.
At the time, they estimated they needed a minimum net worth of $400,000 or more to support themselves indefinitely. That amount of money, they believed, could generate an income of $50/day or $18,250 per year, enough to fund their lifestyle at that point. That is based on a 4.5% annual return on investment.
Retirement has worked out well for Paul and Vicki. Since 1984, they’ve crisscrossed the globe and lived for extended periods in dozens of countries.
Obviously, a lot has changed since 1984. For one thing, the cost of living has gone up considerably. According to the consumer price index, $400,000 in 1984 is equivalent to nearly $1 million in 2019. If your $1 million was earning 4.5% annually, you would generate an income of $45,000 annually without eating into your principal.
But is $1 million enough to be considered “wealthy” in America in 2019? Not by a long shot, if you believe the opinion polls.
Earlier this year, discount broker Charles Schwab interviewed 1,000 Americans to find out how much money they believed they needed to be wealthy. And it was a lot more than $1 million.
The average amount Americans think you need to be wealthy is $2.3 million. A 4.5% annual return on that amount would generate income of $103,500/year. That’s enough for most of us to live pretty well. Even if you invested that $2.4 million in 30-year Treasury bonds backed by Uncle Sam’s “full faith and guarantee” at 2.6%, you’d still generate an income of $59,800/year.
Still, there are considerable differences in how much money different age groups believe you need to be wealthy. Millennials (born 1981-1996) think it’s around $2 million; baby boomers like me (born 1946-1964) believe it’s $2.6 million.
I suspect that difference may relate to life experience. We boomers have lived through more recessions and personal financial crises than millennials have, and we understand that wealth can be fleeting.
That brings me back to Paul and Vicki Terhorst. When they retired in 1984, they were by no means “wealthy,” even by the standards of the day. But they understood they could be financially independent once they saved at least $400,000.
It’s an important distinction to remember. Even if your net worth is nowhere near $2.3 million, you can become financially independent. And while you may not be able to retire at 33, you can take steps now that will eventually give you the freedom to pursue your own goals rather than a monthly paycheck.
One of the largest obstacles to financial independence is the cost of housing. In their 1990 book, Cashing in on the American Dream, Paul and Vicki criticized what they called “mortgagitis” or “inflammation of the mortgage.” Simply put, millions of Americans then – and now – are effectively married to their homes. They’re making hefty mortgage payments “’til death do us part.”
By downsizing or practicing geographical arbitrage – i.e., relocating to a region that offers less expensive housing – you can turbocharge the amount you can save toward financial independence.
But housing is only the beginning. The math is simple. The more you save, the sooner you can be financially independent. One way to do this, of course, is by earning more money. But reducing your spending is a much more powerful strategy to achieve financial independence for three reasons:
It decreases the amount you need to save to achieve your goals.
The money you save can be invested and generate income.
While you must pay tax on increased earnings outside a retirement plan, there’s no tax on the money you save by cutting spending.
The sad fact, though, is that most Americans live paycheck-to-paycheck and have close to zero savings – 59% of us, according to the Schwab survey. Another survey from Lending Tree revealed that 52% of us don’t have enough savings to cover even a $1,000 emergency. Indeed, only 60% of boomers, with decades of working behind them, could come up with $1,000 without borrowing at least some of it.
Naturally, the younger you are, the longer you have to build up a nest egg to achieve financial independence. But younger Americans face unique challenges that Paul and Vicky didn’t have to deal with.
The one we hear the most about is student loan debt. The average student loan debt per recipient is a stunning $33,500. When I entered college in 1973, the total cost for tuition, room, and board at the university I attended came to about $8,000. Today, it’s nearly $65,000/year.
Another obstacle to saving is lower interest rates. Cashing in on the American Dream suggests buying CDs yielding 8% to generate retirement income. Obviously, that’s not possible today. To generate an income anywhere close to 8% you must take much larger risks than you would have 35 years ago.
There’s a third factor, though, that didn’t exist for the boomer generation: social media. It turns out millennials identify social media as the worst influence when it comes to saving money. And a big part of the problem is how easy social media has made it to overspend.
And it’s getting worse. Instagram recently announced a new feature called “Checkout.” Until March, if you found something you wanted to buy on Instagram, the app would point you to a retailer’s website. Now you can simply point and click. What could be easier?
But with 59% of Americans unable to survive past their next paycheck, such instant gratification comes at a high cost. My suggestion is to not link your credit or debit card to any social media account – or better yet, to unsubscribe from all social media platforms. That alone will reduce a great deal of the peer pressure you face to mindlessly spend.
Beyond that, anyone seeking financial independence needs to understand that life isn’t simply about a career or keeping up with the Joneses. It’s about building a life that centers around what you really need to satisfy yourself and those you care about, not what society and your peers on social media say you should have.
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