Millionaire Librarian

I feel like this quote can be used in a dozen different ways on a dozen different topics. It is important to show others grace, and it as important to show yourself grace. Regarding finance, the most important part is to start making progress on your finances. Whether that is reducing your debt or increasing your investments; today is the day to start building a habit.

Often nerds like I am can get bogged down in the numbers and have analysis paralysis. They are afraid of making a 95% correct action instead of a 100% correct action that they don’t do anything and lose out on the 95%.

If you are paying off debt just understand that interest rates matter so you need to know them at some point, but if doing that little bit research is going to stop you from paying extra, and start making a dent in your debts, then just pick the smallest debt and pay on it. You may pay a little more interest, but paying off the smallest debt will open up some more room in your budget and provide you an early psychological win.

If you are investing and don’t know where to put your money then find a target date index fund with a low expense ratio. This is a one stop shop great (but not perfect) solution for almost all people. If you can buy this fund in an employer sponsored retirement account or Roth IRA then great. With tax benefited accounts please make sure that you do not make too much money to utilize one and only invest the max amount for that year or it may complicate your taxes.

However, the most important part is getting your money working as early as you can and a couple months later come back and read some more about investing.

You first step doesn’t need to be perfect, but it does need to be taken.

Old age is coming for everyone. One of most common themes in stoicism is welcoming old age. Seneca says, “Let us Cherish and love old age; for it is full of pleasure, if you know how to use it. The best morsel is reserved for last.”

I certainly believe this can be true, but is not true for all or even many today. Unfortunately, very few people prepare for old age. Their bodies are in poor condition from lack of exercise and maintenance of illnesses. They fail to save enough retirement and must depend on their grown children for care and resources. By anticipating the blow of old age we can deflect some of its potency and the earlier we can anticipate and begin preparing for it then the better off we will be. Money compounds exponentially meaning a little attention very early has huge potential later. Your twenties are your most important working decade and your far behind if you are like most people and wait to begin saving and investing until your 30’s, 40’s, or 50’s.

Our old age should be filled with grandchildren, hobbies, and travel. Not working retail when we would rather be doing anything else. Seneca says old age is full of pleasure IF you know how to use it. If you have been active and remained healthy and if I am still financially independent, then like Seneca old age will be “full of pleasure.”

Since the creation of the 24 hour news cycle, they have become incredibly efficient at keeping you glued to the television awaiting the next tragic event that has happened in some corner of the United States. However, when you consider the increase in population, then the world has become much more safer over the decades. However the coverage of tragic events would have you believe the opposite. Due to thousands of years of living in the wild our brains pay more attention to potential danger than potential benefit. What is more attention grabbing: 5 ways you may die tomorrow, or 5 ways that the world is getting better. One of these grabs your attention, while the other almost seems naive. If you fall prey and get drawn in by negativity, then you can find yourself in a downward spiral where you see very little light a the end of the tunnel.

This is one of the reasons you need to be wary of the information you feed your consciousness. Positive thoughts floods your brain with serotonin and dopamine which can rewire the circuitry of your brain. Constant breaking news of robberies and the darkest corners of society can make the world seem worse than it is and influence your perspective.

Having a positive perspective will not only benefit your financial life, but allow you to better persevere through difficult times and difficult markets. For example, a negative event can happen to two different people and they can interpret it completely different. Having the resilience to stay invested and continue to invest new money makes the difference between being left on the side of the road and persevering until things get better and making it to the finish.

Their are a plethora of investment products on the market and with the most complex then the people selling you them often do not understand them. The advisors just understand that they get the biggest paychecks with increasingly complex products. Also, often people are understandably overwhelmed by the vast amounts of complex invest options. However, the best products are the simplest to understand and often the increasing complexity of investments hides the ever increasing fees where the real money is made for the brokerages and investment advisors. If you cannot explain an investment product in a sentence or two without a dictionary then you are probably overpaying and underperforming.

Index funds are extremely simple and easy to understand. When you are buying an index fund you have relinquished the false idea that you can predict the future, and are rightfully saying “I just want my fair share of the stock market. that the index represents.”

Interestingly this is not only the easiest and cheapest way to invest; it is also the best.

Rick Ferri had an excellent presentation which I will briefly summarize. There are three stages to your journey as a Boglehead. You understand the importance and power of investing and index funds. The second stage is that you make it complex by trying to get an extra percent based on this factor or that factor or with this technique or that technique. The last stage is simplification. This is the stage when you return back to the first stage in a way and realize that the hours you spend everyday trying to maximize returns is wasting time and hurting your returns.

There is something novel with the human mind in how we think everything must be predictable or controllable. However on Morgan Housel’s collaborative blog, one of his articles can be summarized as saying that investing is a negative art. The less you tinker with it and think about it then the better you will do. Much of the rest of the world doesn’t work like this and it is counter-intuitive. Can you imagine a world where not playing a sport made you better at it or not writing made you a better writer, but in many ways this is how investing works for most people.

The only thing guaranteed with the stock market is volatility including both ups and downs. For some reason, I enjoy checking on my funds daily. I remember reading a Fidelity Study that one group of people who have above average returns in the market are the deceased. You read that right; the dead are excellent investors and it is because they are unable to change their allocations. In the same study, another group who outperformed were people who forgot they had accounts. Weathering the ups and downs of the market and not jumping in and out of the market is the best way to come ahead.

One mental trick I play on myself to weather the storm of volatility is to be happy whether markets are up or down. If markets are up over the last few months, then look how much money I have. That is a great feeling.

The other market direction is downward. To be happy when the market is going downward requires a little more knowledge of the market. First the market cannot grow forever upward. “Trees do not grow all the way to the sky” is a common saying by distressed debt investor Howard Marks. At some point if stocks are inflated, then they will return to the mean. Business’ can only grow so fast and eventually expectations will outgrow real growth.. When this happens then stocks will eventually snap back to be based on the companies that they represent. Therefore, if you are constantly buying you should welcome pullbacks and recessions because it allows you to buy the company at a cheaper price.

Think of an asset you own, possibly a house or a car. If someone comes a tries to buy one of those for half the price they are worth, then you would surely refuse their offer and wait until prices rebounded.

Think of stocks in a similar way. When you are buying them then hope the bottom falls out and hopefully you can hold for decades in the future when their value will be a multiple of its current price.

Taxes are a big cost, but takes priority after getting your spending in control and learning about index funds. You want to pay all the taxes that you owe, but you need to take advantage of all tax advantaged accounts.

401k and 401k equivalents delay paying taxes which allows your full amount of money earned to continue to grow until you take it out of the account.

One advantage for people but especially those retiring early is that once you quit your day job then you can control how much you are taxed by how much you withdraw from the account. Income taxes generally are at different tiers and the more you make then the more are taxed at the higher tiers. Therefore, it important to spread out how much you withdraw year to year.

Roth accounts are funded with taxed dollars and the funds grows tax free and when you withdraw them then you can do so tax free. We talked briefly about them in a previous post titled “Roth IRA’s; Available to Almost All and an Extremely Powerful and Important Tool.”

Its important to understand the differences of Roth IRA’s and traditional retirements tools and it is best to use a little of both to control how much you are taxed in any year.

Hypothetical Mary needs 50k to live on a year. If federal taxes increases dramatically after 40k then Mary should withdraw 40k from her regular 401k and the rest from her Roth account. Doing this she will only be taxed on her initial 40k and stay at the lower amount.

Another thing to keep in mind is that it is almost always better to delay taxes or grow you money tax free if possible using retirement accounts. Though retirement accounts generally have rules about taking funds out early, some retirement accounts have ways of accessing the money early even if you are young. For example, with a Roth IRA you can withdraw contributions early, but not earnings and with a 401k you can use a strategy called a Roth IRA ladder to access the funds early without penalty.

An index is a list. An index fund is a list of companies that the fund buys blindly. Index funds are the easiest and best investment for several reasons.

First, index funds are extremely low cost. An index fund may have an expense ratio as low as .03%. Some Fidelity funds are free. Unlike most things you buy, most funds take a percentage of the total amount you invest in the fund. For example, someone who cleans your house isn’t paid a percentage of the cost of your house, but in the financial world this is how you pay for your funds. Also because expenses compound negatively they can greatly influence your returns, especially, over a long period of time.

Index funds trade less often the funds that are actively managed. This means they are taxed less which is another way they save you money.

Index funds are an extremely diversified product. There is a saying in the financial world the only free lunch in investing is diversification. With an index fund if Apple is wiped off the world with a meteor, then your returns will be effected but another company will take its place.

Broad U.S. total market based index funds are generally what I recommend.

However not all index funds from all companies are created equal. I recommend index funds from Fidelity, Charles Schwab, and Vanguard. All three are discount brokerages with extremely cheap products.

Everyone knows the story of Goldilocks. She wants the porridge that is not too hot and not too cold, but just right. Similar can be said for buying a house.

Buying too small of a house is the lesser of two evils. However some financial gurus go to the extreme by trying to live in a tent to retire a few months earlier. A too small house may be a little cramped, but hopefully that means you will spend more time outside and in a rural area you should have a yard to do that. Another thing to keep in mind is perspective. The average house size in 1950 was 983 sq. ft. and it housed 3.37 people. In 2023 the average house size is 2164 sq. ft. and the average family is 3.13 people. In short, houses have doubled in size and families have gotten smaller. Everyone expects to have a huge house like their parents when it may have taken decades for your parents to work up to that house.

If you have read my previous post, then you know I prefer living in LCOL areas where housing is still affordable. However, even though you may be able to buy a $500k house there are plenty of reasons why not to.

First an expensive house means an expensive neighborhood and if you are like most people then you will probably get a case of “keeping up with the Joneses.” This happens in several ways but here are some examples:

People in expensive neighborhoods generally have nicer cars and if you are stretching your salary to get in a neighborhood, then how will you feel when you are driving the beater car on the block. A horrible reaction would be to try to keep up with your neighbors. Almost always car values drop in value considerably and are the easiest way to detonate your financial future. In a middle class or working class neighborhood it will be easier to fit in if your car is a little weathered.

Landscaping is another thing you need to probably budget for in an upper class neighborhood. Mowing your yard yourself every few weeks and having a few bare spots from the dogs is okay in a middle class neighborhood, but once you enter the world of HOA’s, then you will have the added HOA expense as well as the pleasure of paying for professional landscaping less you make those that have no life place a lien on your house. That’s right a HOA can take your house if you don’t follow the covenants.

A smaller house means less house to repair when you need to repair. Smaller roof, plumbing system, eletrical system, HVAC system and less walls, floors, and ceiling to maintain. If you need to replace any of these systems, then it will be cheaper and because you are not house poor then you will have the money to replace them. If you need to reinsulate the house then a smaller sq. footage will allow you to do it for cheaper. Simply less house means less to repair.

The linchpin in my entire system is buying an affordable house so you have a large gap between your expenses and earnings so you can save as much money early in your career to get it compounding. Also though there are considerable expenses when buying and selling houses, buying a small house early and then upgrading later when you are on firm financial ground with your investments is a great and responsible plan. I believe that throughout our lives we work and live in different seasons. Frugality for a time early means you can be extraordinarily generous or a spendthrift later while maintaining excellent financial health.

It also needs to be said that there isn’t any shame in appearing middle or working class. In my post titled Stealth Wealth, I make the argument that it is much better “to be rather than to seem” wealthy.

It is a hard sell for me to tell you to buy less house than you want; much of American culture and commercialism preaches for you to buy more and more forever, but there is financial independence, retiring early, and creating generational wealth to gain of you can follow the path.

The acronym IRA sounds complex, but they are extremely powerful and relatively simple. IRA is short for individual retirement account. Instead of an employer providing this account; you can make your own. Opening one at Fidelity, Charles Schwab, or Vanguard will take you about 10 minutes at most. Currently in 2023, you can contribute up to $6500 a year to the account. Occasionally Washington increases the amount you can contribute. However, there is one catch. What you contribute must be earned income. That means that you must earn the money from an employer. You cannot have the money gifted to you and the money cannot be earnings from investments. For many of us in the middle class that isn’t much of an issue because once we start driving, then we start working.

If you read my last post, then you followed the hypothetical situation of Emma. In that hypothetical, Emma receives $2800 that is invested for her when she is born from a generous, loving, and compound interest understanding parent or grandparent. When Emma turns 67 then she will have a little over $2 million if it grows at an average of 10%. However. Emma will have an ugly problem when she trys to sell; taxes at the tune of up to $400,000. Things could be worse, but by utilizing the Roth IRA when she starts working in her late teens or early twenties she can save her almost all of the money that would be taxed in the prior scenario.

Continuing with our prior scenario at around 20 years old Emma’s little account will be worth around $16k. Emma gets a part time position where she earns income then she can sell her brokerage funds for the amount she makes that year from her job and use those funds to fund her Roth IRA. She does this for a few years until all the money is gone from the brokerage. From that point on then her funds in the Roth IRA will grow forever tax free until she needs them at 67 when they will be worth $2M.

There are some pitfalls for this scenario. First $16,000 at 20 years old is extremely tempting to blow on a better car or improving an existing car. As Dave Ramsey says “We want this money to be a blessing and not a curse.” Allowing a young adult the power to buy something that could hurt them like drugs, alcohol, or a muscle car would be a detriment to them. Another pitfall would be to spend it at 30 when they are buying their first house. At that point the money would be around $50k and would make an excellent down payment on a new house. Though there are far worse things than buying a house; your child or grandchild may buy more house than they could afford or maintain. Later we will talk about the importance of buying a house only as large as you will need.

If you can stress the purpose of this money, which is for retirement and if they follow the path you lay out before them, then not only will they have an amazing retirement, but they can also leave substantial generational wealth to their loved ones.

In my last post, we learned about compounding and in my hypothetical example Mary worked from 25 to 67 and saved an impressive 1.5 million by only saving $200 a month during that duration. We are going to have another hypothetical person, Emma. Emma is born and her parents want to make her a multi-millionaire by the time she retires at 67. If the money grows at 10%, then how much do you think her parents would need to put in as a lump sum to get her to $2 million dollars. The answer is a little below $2,800 dollars. This isn’t 2,800 each year, but $2,800 one time when she is born. As explained in my earlier post, with a sum $2 million then if you were to make 10% the next year then you would have an additional $200k that year without putting another dime in.

This is a great technique for new grandparents or parents who may not have much money now to leave behind considerable wealth for our grandchildren and children decades in the future.

In my next post, we will look at some ways of making this money tax free so when they retire they get to keep more of their money.

Update:: With the new Secure 2.0 at the beginning of 2023 you can now roll a portion of a 529 to a Roth IRA for a beneficiary. This allows flexibility for recipients to turn education money into retirement money. This additional perk persuaded me to park our own daughters $3k in her 529 for her future retirement. There is still the requirement for this money once rolled to a Roth IRA to be earned income and you are still limited to the annual limits when you do the rollover.