Meet Couple A & Couple B

Couple A

Grosses $50,000 per year.
Left with $40,000 after taxes.
Purchased a small home in an affordable area.
Purchased a car cash.
Take local camping trips.
Spend time at the park with their friends.
Entertain people at their home.
Eat out rarely, cook often, socialize cheaply.
Use Google Sheets to manage their budgets.
Save $20,000 every year starting at age 22, starting at $0.

 

Couple B

Grosses $300,000 per year.
Left with $165,000 after taxes.
Purchased a very comfortable home in an expensive area.
Financed 2 cars out of residency.
Take 1-2 vacations every year to desirable destinations.
Spend time at restaurants and bars with friends.
Rarely entertain because they are perpetually remodeling.
Eat out often, cook rarely, socialize too much.
Uses no budgeting method.
Save $45,000 every year starting at age 32, starting at -$210,000.

 

Couple A

4.5% rate of return, 3% inflation, 10 years at $1,600/mo
4.5% rate of return, 3% inflation, 10 years at $1,666/mo
Same as above but with 20 years of compounding
Same as above but with 20 years of compounding

So couple A ends up with ~$300,000 by age 32 or ~$850,000 by age 42. Somewhere around age 35 that couple could likely retire and live off the interest rate alone.

Couple B

4% compounding, 3% inflation, $3,750/mo, 10 years
4% compounding, 3% inflation, $3,750/mo, 10 years
Same as above, for 20 years
Same as above, for 20 years

Couple B would have around ~$650,000 by age 42 or ~$1,800,000 by age 52. This is assuming they won’t make any major financial mistakes (see below). $1.8 million would not earn enough passively to sustain their expenses so couple B likely has to work until age 59-60. Not to mention there may still be a student loan balance and a mortgage balance.

It’s important to make another distinction. Couple A started earning income and making mistakes far earlier in life. They made these mistakes with much smaller numbers which can be scaled up very well. They have likely gone through a market downturn and have a concrete plan for the future. Next time the markets crash they likely will buy more paper assets or possibly even some investment real estate if that goes on sale (recall 2006). They will be financially independent at a much younger age, allowing them to spend more time thinking about further income if needed/wanted.

Couple B started learning about income and investments quite a bit later in life. They still are burdened with student loans. When the next downmarket hits they will have car debt, housing debt and student loan debt to deal with preventing them from having enough liquidity to jump into the market when funds are on sale. They will also earn a lower return on their taxable investments due to the higher tax rate they will be in. By the time they make their first few mistakes in the market they will be later along in their financial careers… their mistakes will involve several thousands dollars since they are playing with higher numbers unlike couple A that made the mistakes probably with far lower sums of money. Couple B still has to learn budgeting, that also will delay their time to financial independence.

So choose wisely and deliberately. If you truly believe that a larger house and fancier car along with some toys and luxurious vacations are worth it then spend your income on them with conviction. If your financial freedom and youth is more important to you then consider this:

10 years, 4% rate of return, 3% inflation, maximum savings
10 years, 4% rate of return, 3% inflation, maximum savings

The above shows couple B with ~$1,500,000 saved/invested by age 42. This calculation takes into account paid off student loans along with a nearly paid off $200,000 house or just a rental in a more expensive neighborhood. Couple B by age 42 is only spending $30,000/yr which means they could have very comfortable retired  by age 37. If you want to see the details check out this post. That means by age 37 this couple would no longer have to depend on a job for income… to me that’s a powerful statement.

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