I’m going to walk you through how I’d save money if I were a typical 25 year old with a spouse and one kid on a $40,000 salary.
(Referencing this post, which talked about how a typical family could use $197 per paycheck to end up with $4,300,000 over a lifetime.)
lets look at real life
40000 x 0.72= 28800 don’t forget city taxes 28800×0.0225=648 = 28152/12=2346/month
A couple with 1 child will spend
500 for food
300 for gas and electric
400 for car payment
120 for gas for car
900 for home payment,taxes and insurance
75 for car insurance
or a total of 2295
Just where in the heck are they supposed to get 394 a month to invest???????????????
Poverty is generational. Struggles with money are generational. You pick up a lot of things in life through osmosis. It is the reason that a member in the bottom 10% of society, for example, is more likely to drop out, more likely to smoke, more likely to be obese, more likely to have a child out of wedlock, and less likely to read for knowledge than someone who is in the top 10% of society. During the formative years of your life, you soak up an accent, public behavior, study habits, money habits, relationship patterns … it can all be un-learned later, but it is more difficult. It is that knowledge that determines, to a significant degree once you are in the lower middle class, how much money you amass. Years ago, Human Resource departments figured this out when large percentages of certain sub-demographics would not enroll in the 401(k) plan because they hadn’t been exposed to how they work. (The solution ended up being automatic enrollment for everyone, since people aren’t likely to take the time to opt out of the system.)
Someone who thinks a budget like the one you just sent me is acceptable and isn’t immediately in panic mode grew up with a poverty mentality, currently lives with a poverty mentality, and as a result, is always going to be broke. The struggles he or she faces are not due to a lack of income, they are due to bad financial decisions. You can complain about getting ahead if you are supporting a child on a $14,000 annual wage as a low-skill retail worker. That makes it more difficult to save money. You cannot complain if you are earning $40,000, which puts you in the top 0.51% of people in the entire world. That means for every 100,000 people on the planet, you make more money than 99,490 of them.
You are the problem. Your income is not the problem.
In fact, the budget you sent me was so incomprehensibly bad, I printed your message and put it infront of people – all of whom are financially successful and independent – and said, “Look this over for me. What are your thoughts? Let me hear them as they occur to you.” I wish I had recorded the responses because they would have let you see how truly fiscally sick this kind of allocation is.
But you asked a very specific question. Where is this money supposed to originate? How could someone possibly save that cash?
If I woke up in that situation tomorrow – say I were 25, married, with one child and a $40,000 income – my budget would look radically different than yours. And in 50 years, you would be broke, living on government benefits, convinced that your life were the way it was because you just didn’t make enough, while I would have millions of dollars and be completely self-sufficient. Don’t believe it? I’ll walk you through the numbers. Keep in mind, this isn’t purely academic to me – I lived it. I never inherited any money. I wasn’t given any startup capital. I graduated from high school, moved across the country, and put myself through college. I know what I’m talking about from experience.
The Shelter I Would Choose
You are in Toledo, Ohio. It took me a few seconds browsing the real estate listings as of this moment to find a perfectly nice, 4 bedroom, 2 bath Colonial with a two car garage. You can see the listing for it here.
The asking price is $119,500 but we could probably get it for $110,000. With a reasonable down payment, the mortgage payment, property taxes, and insurance would cost $500 per month, not the $900 you budgeted. That saves us $400 per month, or $4,800 per year.
As a first time homebuyer, I’d take advantage of a little known government program called Mortgage Credit Certificates that will be treated as additional income by the bank, making qualifying for the loan a non-event. Think of it as the type of program Mitt Romney would take advantage of but only for the poor and middle class. As long as you live in the home and retain the mortgage, you can get $2,000 in cash taken off your taxes every year. That is another $167 per month.
So now we’re up to $6,800 per year in surplus cash that I have on this hypothetical $40,000 annual salary that you don’t.
The Transportation Situation I Would Select
With a house secured, I need to get my hands on transportation. Looking at your budget, you have $7,140 put aside each year for car expenses. I want you to think about that for a moment. At this income level, you are allocating 17.85% of your gross pre-tax earnings to automobile expense. That is insanity. You have lost your financial mind. The budget you have submitted in no way reflects responsible household management. It looks like the affairs of someone who is one or two paychecks away from being broke. It’s the type of thing someone trapped in the cycle of poverty would do because they don’t know any better and they are repeating the same behavior they learned from their parents.
(Side Note: To break the hypothetical for a moment and put this into perspective so you know I practice what I preach, despite having a real life household income exponentially higher than the scenario we are running, my automobile expenses last year including gasoline, maintenance, and insurance was only $3,768.59, making it not only a fraction on relative terms, but nearly half on absolute terms. That’s because I don’t allocate a lot of money to cars, and I drive them into the ground until they fall apart. They are depreciating assets. The moment you buy one, every day that goes by and every mile that is driven, it loses part of its capital value. You should not have a significant percentage of either your income or your assets in that type of holding! If I could get away with it, I would walk, bike, take the bus, or join a carpool, avoiding the car expense altogether, but we’ll imagine that isn’t possible due to the presence of a child in the household in this little scenario.
This obsession with transportation is the embodiment of the problem I wrote about in this article, when I said the single biggest cultural indicator to me that tells you immediately that someone was born into, and will pass on, the cycle of poverty is to look at the percentage of their income and assets they allocate to a car. I built upon it in an article called The Importance of Frugality in Building Wealth. I have even broken down my own opportunity cost decisions when buying a car as I considered upgrading my own vehicle last year.)
I’d go to my bank, which is offering car loans for 2.99%, and get a 5-year loan for $11,000 to buy a barely used extremely fuel efficient car, like a Fiat 500. There are only three of us you said – me, a spouse, and a child – and 34 miles per gallon is about as good as I’m going to get, generating some fairly significant fuel savings, keeping even more cash in my pocket. (Some men seem to have a problem driving a smaller car to save money, stop compensating for your shortcomings elsewhere. The price differential in their case could be known as an “insecurity tax”. You need to put your family’s well-being and your own independence ahead of your short-term misplaced pride. You need to focus on being financially successful, not looking financially successful.)
My payment is $197.61 compared to your $400.00, providing an extra $202.39 per month, or $2,428.68 per year.
You are spending $120 per month on gasoline, or $1,440 per year. The price of gasoline right now is $3.16 per gallon, so you’re banking on buying 455 gallons in a year, assuming steady gas prices. That should give the car I bought 13,000 to 16,000 miles on the road, so we’ll call it even and keep it the same. That seems like a reasonable enough allowance.
At this point, my hypothetical family has an extra $9,228.68 per year in cash than your family, which is $769.06 per month. We live in a four bedroom Colonial and drive a one year old used, but still practically new, car.
How I’d Handle Other Expenses
For now, I’ll leave your other expense assumptions in place, even though I know I could get them much lower and add a couple thousand more dollars to the household income. After all, you’re talking to the guy who has a negative cost of milk because we did the math on the system. At this point, we’ve mastered the French peasant dishes. The phrase “extreme coupon” would not even begin to describe my approach in this alternate universe. I’d be using Upromise to get at least $1,000 in extra cash back per year on things I would have had to purchase, anyway.
What I’d Do From This Base
One question that goes unanswered – in this alternate world do I have my own skill set? If so, I’d use that $9,228.68 in after-tax cash to start a business that required very low capital investments but had very high returns.
One option would be catering. We know how to throw a party, and we know how to make the food taste better than most people have experienced in their lives. From perfectly molded cakes to seasonal favorites like corn chowder, I am absolutely certain that within 18 to 24 months, I could build a business from a standing start, with that little capital, and no bank loan, generating at least $50,000 in additional income per year for my family. I’d then use that money to fund the investments.
Another option would be a form of retail, but I’d have to be careful and focus on a system that let me effectively dip into the vendor’s inventory without typing up my own capital. Again, I could get to at least $50,000 in profits very quickly from a standing start if it were just me. Is the kid old enough to work? If the kid in this scenario can work a computer, I can do it faster. The free labor would be a huge boost (though I would pay him or her in stock certificates for the help so that he or she got a cut of the profit as an incentive).
Most people have their own skill sets that can be upgraded and used to create cash by giving other people the products and services they desire at a price that generates a profit. That would be the real key to kickstart the capital accumulation phase.
If my normal skill set is out – and even things that require no startup capital, like writing, which I could do in my sleep – I’d shove the money into high quality, high dividend yielding, fair or undervalued securities. If I were perfectly mediocre in every way, putting $9,228.68 aside every year for 50 years – we’ll assume I’m 25 in this hypothetical and want to measure my wealth at 75 – would give me $10,741.339. Adjusting for inflation, that would be the same purchasing power as $1,511,442 today.
For never doing anything else, and never starting any sort of business, never improving my life by getting better employment, never trying to work my way up a self-made system like Edward Jones or Avon, that’s a more than satisfactory result. My house would have been long paid for, so there is also additional equity there that would have allowed me to save, spend, reinvest, or give even more.
Some Final Thoughts
In the real world, do you think the tooth fairy came down and handed me the capital I used to start everything? No. I didn’t buy a car until I was in my early to mid 20’s, opting to walk everywhere or get rides with people. I shopped at Army Surplus stores to get dirt cheap clothes. I needed every penny of investment capital I could get my hands on so the money would start working in my place. Every $1.00 I saved could be employed by an oil stock, for example, and earn me 5.4¢ per year in dividend income.
As long as there are no excessive medical expenses due to a health crisis, if someone in the United States earning $40,000 per year doesn’t retire with at least a seven-figure portfolio, it is because they didn’t know how to manage money. Period. There are no exception. It is basic mathematics. If you don’t want that, fine, but don’t act like it was because it was impossible. It wasn’t. You just didn’t do what was necessary (which isn’t even all that much sacrifice, let’s be honest) to do it.
Bottom line: If you are managing your money like the breakdown you sent me, you’re going to stay poor forever and you’re going to teach your children the same habits of poverty that will trap them in the same cycle. You are transferring all of your wealth to car, oil, bank, and real estate companies. You’ve allowed yourself to become a slave, a handful of paychecks away from total ruin. You are mismanaging your affairs. It has been a long time since I’ve seen a household budget that poorly run. I want you to do better. It doesn’t have to be like this.