Trying to save after tax money is hard.  A much easier plan to wealth accumulation is to invest pre-tax money.

In conversations with folks one thing I’ve noticed popping up is people dismissively saying “I won’t ever become a millionaire…”  My follow up question is always “Why not?”

A million dollars certainly isn’t what it used to be but still people have this mental block about that number.  It’s impossibly far off.  Something to be achieved only by those who win the lottery or make it to the big leagues.  It’s really not as hard as all of that.

Before we start I realize everyone’s financial lives are different. Obviously, the more money you earn the easier it will be but remember it’s not what you earn, it’s what you keep.  Someone who earns $15,000 per year but spends only $14,000 is better off financially than someone who earns $100,000 but spends the entire caboodle.

STEP ONE

Invest in your Pre-Tax Accounts like 401k and Traditional IRA.

Cut out expenses that don’t increase your happiness and invest the money you would have spent on that dumb shit into something that will make money for you.  If your employer matches a percentage of your 401k contribution for sure invest up to that point.  Next invest in either your Roth or Traditional IRA (Roth IRA is funded with after tax money.  This won’t save you on upfront taxes but Roth IRAs have a bunch of benefits over traditional after-tax investment accounts.  Traditional IRAs are funded with pre-tax money). The current maximum allowed in 2018 for an IRA is $5500 if you’re under 50, $6,500 if you’re 50 or older.

If you still have some extra money left over start working towards maxing out your 401k.  The current maximum allowed in 2018 is $18,500 if you’re under 50, $24,500 if you’re 50 or above.  After you’ve maxed out both your IRA and your 401k you can start working on after tax investment accounts.

Why it’s so important to invest

Each dollar you invest will, in the long run, earn you additional dollars without you lifting a finger.  Let’s say your household earns a combined $60,000 per year.  If you don’t invest any into pretax accounts you’ll be taxed on all $60,000 and will probably end up with about $40,000 that you can spend.  $20,000 goes up in smoke.  3-4 months of working is given to the government, every year.

What if you maxed out your 401k?  Now your taxable income is only $42,000 instead of $60,000 meaning you’ll give uncle Sam thousands of dollars less in taxes.

That might be too difficult if your household only earns a combined $60,000.  But what if you’re household earns $80,000?  If you strategize it’s very possible to live on a Gross income of $80,000 and still max out your 401k.

Human nature is to spend what we have available.  If you make $40,000 per year you find a way to live.  You may think, “Sure I’d max out my 401k if I made an extra $20,000 per year, who wouldn’t?”  But the person who makes $60,000 wants $20,000 more before they have enough extra to max out their 401k.   The person who makes $80,000 thinks they need $100,000 and so on.

Wherever you are in your finances why not sit down and map out a way to make the budget work while contributing to your pre-tax accounts?

Instead of giving your hard earned money to the government you get to keep that money in your 401k.  That money will continue to grow on it’s own and your employer will continue to contribute as well.  If you did this for only 5 years you’d have well over $100,000 saved up.

Once you have that amount your investments are basically making you an extra $7,000 for life. Even if you stop contributing entirely, your portfolio will go from 100k one year to 107k the next year then to 115k and on and on.    If you continue to invest on top of that first 5 years your money will start compounding at head spinning rate.

“Thanks,” you’re probably thinking.  “This bag of dicks just told me to invest like $25,000 per year and I’ll become a millionaire. Must be nice to have an extra 25k laying around.”

Yes, while I realize that is a large chunk of change it’s a sliding scale.  You don’t have to max out everything.  Invest what you can, but don’t lie to yourself by saying there’s just NO WAY you can cut any fat from your spending and invest. If you do that you are only hurting your future self.

In the wise words of DJ Khaled: “Congratulations, you played yourself.”  The less you waste your money on dumb stuff the more money you’ll have to put towards retirement accounts.

It’s hard to save money when trying to feed and shelter a family on only $40,000 if you haven’t optimized your life by getting rid of useless expenses that don’t bring you joy.  Once you’re optimized $40,000 starts to feel like more money than you’d even want to spend much less have to spend.

STEP TWO

Stop. Spending. All. Your. Money.

Real life millionaires aren’t the people with fancy watches and brand new cars.  Real life millionaires are the couple down the street driving that 10-year old car that they park next to their modest house.  People have the idea that when they see someone with a Lexus or a 4-bedroom house that that person must be wealthy.  The reality is that person is statistically probably in debt.  They make just enough money to hopefully cover their expenses but they are destined to always be on the hamster wheel never really getting ahead.  Don’t focus on looking wealthy, focus on being wealthy.

I can’t tell you how many times I’ve heard people lamenting about how there’s just no money left over at the end of the month.  Meanwhile they have three new cars in their driveway, a McMansion with three rooms they don’t even use and they still subscribe to magazines.  WHO SUBSCRIBES TO MAGAZINES ANYMORE?!?!

Here’s how we save money

First, we contribute as much as we can to pre-tax accounts.  If you never see the money in your checking account it’s a lot easier to not spend it.

Focus on big ticket items.  We save between $12,000-20,000 every year simply by living in a small apartment.  Housing in Portland is ridiculous.  It’s not uncommon at all to pay well over $2,000 per month.  Our rent is around $1,000.  We are comfortable in our apartment but we use all the space.  We aren’t paying for a bunch of square footage that’s only purpose is to impress our neighbors.

Another way we save several thousand dollars per year by only owning one car.  Owning one car saves on insurance, maintenance and the upfront cost of owning two cars.  Our car is almost 10 years old.  Nobody is envious of our car.  In fact some of Mrs. Burrito Bowl’s coworkers have commented that they knew of a cheap car for sale.  They assumed that anyone getting dropped off to work in a car as old as ours must not be able to afford a nicer car.

Additionally we save money by eating out rarely and not going shopping until we actually NEED something.   I have a small wardrobe and my Mrs. Burrito Bowl has done a 180 from her previous life of shopping habits.

Saving money is hard.  It takes big ticket sacrifices and daily sacrifices.

Does your car really make you that much happier?  Do ALL of your cars make you that much happier?   A nicer car would probably make me a little happier but our car gets us from point A to point B.  Not having a car payment makes me incrementally happier than feeling fancy by having something with leather seats.  Making changes is hard but once you do you’ll find a lot of that stuff didn’t actually make you any more content.

This lifestyle isn’t about cutting out things that bring you happiness.  It’s not a diet.  It’s about intentionally spending your money, not mindlessly spending it.  Do some experimenting.  Cut out some money sucking things from your life.  If your happiness goes down and it’s not worth the trade off then incorporate those things back in.  We’ve found the more we cut out and only keep what makes us happy the less stressful our lives are and the more money we have at the end of the month.

Go team.

Additional Reading:

Purchasing Financial Independence $11.57 at a Time

The 4% Rule- How to Know When You’ve Reached Financial Independence