A Young Adult's Path to Wealth - On A Modest Salary
Congratulations! You are in your twenties, beginning your career and are ready to start building wealth. Fantastic; let’s get started. The plan to build wealth is simple; the difficulty is following through on the plan. Let’s start with the easy part: The Plan.
- Contribute enough to be awarded the full match in your company’s 401(k) plan. This is free money; take it! If your employer will match 3% of what you contribute, then put in 3%. If the employer will match 5%, then put in 5%. Don’t leave a penny on the table. (A great thing about 401(k) contributions is that for most people, the contribution will lower your taxable income, meaning you’ll pay less in taxes for the year you contribute.)
- Pay off any debt with an interest rate higher than 6%.
- Take advantage of a Health Savings Account (HSA). The main hurdle is you have to have a high-deductible health plan. Call us (503.397.1545) to discuss an HSA further; there are important aspects that can’t be covered in this short article.
- You have a modest salary, so you can start a Roth IRA and contribute the maximum allowed: $6,000 for yourself. If you are married, have your spouse start a Roth IRA. Your spousal contribution can be $6,000 even if your spouse doesn’t work.
So what will this plan get you?
- Just the Roth IRA portion, starting at age 25 for you and your spouse, with a 6% average annual return will get you close to $2,000,000 in tax-free money at age 65.
- The 401(k) plan: Imagine you start at age 25 and make $50,000 a year and get a 1% raise each year, you contribute 3% and your employer matches that same amount. At age 65 – if you earn an average return of 6% – you’ll have over a $500,000 in your 401(k). If your spouse does the same, that is another $500,000.
Just following this plan – without taking into account your HSA – will have you and your spouse accumulating over $3,000,000 in investable assets. Easy, right?
The hard part is following through on the plan.
The second step in any journey after determining where you want to be is determining where you are now. You need to figure out where your money goes each month. You can build your own spreadsheet, keep a notebook of all expenditures, use our free Financial Planning & Budgeting tools, or use a free phone app like Mint, PocketGuard, or Clarity Money. Often just figuring out where you’re spending money will help you find your way to greater wealth. When you see where your money is going, you are likely to make better choices with it.
After you have discovered where you are spending your money, start a budget. Budget sounds a like a bad word, but think of it as your own personal vault that you guard and prevent money from escaping.
Many experts suggest your budget should be 50/20/30. At least 50% or more of your money covers necessities like: housing, food, transportation, basic utilities, insurance, and minimum loan payments. The next 20% should go to savings and paying down debts. This is where you’ll make your 401(k) contributions, Roth IRA contributions, your HSA contributions, and pay off debts higher than 6%.
The remaining 30% is debatable in that after covering all the expenditures listed, there may be less than 30% left over. These left-over dollars are how you would cover non-necessities, entertainment, eating out (pack your lunch to work to save over $1500 a year), travel, vacations, monthly subscriptions, and charitable contributions (note: some people consider charitable giving a necessity).
There you have it, now just follow the plan and you could be a multi-millionaire when you retire!