Who Wants to be a Millionaire?

If you didn’t start saving for retirement yesterday, you should do it today. You may be surprised to learn how little you need to put away to be a millionaire at retirement.

For those of us starting out in our careers, being a millionaire may seem like a goal that’s so far away it may as well not exist. Fortunately, we don’t need to be John Carpenter and cruise through difficult questions on Who Wants to be a Millionaire to attain that goal.

We also don’t need to be making six figures or placing bets on Dogecoin in hopes that Elon Musk’s tweets will send it to the moon.

The two not-so-secret ingredients to achieving that milestone? Time and discipline.

Compound vs. Simple Interest

In order to better understand how time and discipline are our best friends when it comes to maximizing our investment growth, we need to understand how our money earns more money.

There are two types of interest: simple and compound. Simple interest is the type of interest we pay on a mortgage, where the interest rate is only applied to the principal balance of the account. This is why interest payments are much higher in the early years of a conventional mortgage, as the principal balance is much larger than the later years.

On the other hand, compound interest earns interest on top of the accrued interest (hence the “compounding” nature of the term). Savings accounts and investments in our work 401(k), Roth IRAs and brokerage accounts earn compound interest, where the growth of our money stacks on top continuously, “compounding” the amount of earnings we can achieve.

There’s a reason Albert Einstein called compound interest the eighth wonder of the world!

The “Time” Factor: Start Early & Don’t Look Back

How can we use compound interest to our advantage? Start saving early.

If we saved just $10 per day (equivalent to $300 per month), and earned a modest 4% inflation-adjusted return, how much money would we have at age 67 when we retire? The following graph shows what happens the longer we delay our savings.

This is where we see the time factor start to play a major role in getting us to our millionaire goal. Unsurprisingly, the effects of compound interest (as noted by the gold bars in the graph) get increasingly larger the earlier we start to save.

The “Discipline” Factor: Consistency Is Your Friend

Of course, time only works to our benefit if we are disciplined with our saving. Discipline is often considered one of the most important traits needed to build wealth, and our compound interest graph above shows why.

But just how much discipline would it take to ultimately achieve our millionaire goal? Using the same modest inflation-adjusted return projection of 4%, the illustration below shows varying dollar amounts we could save every single day to ultimately end up at $1,000,000, with the blue line indicating the number of years it would take to reach that milestone.

Here, we see the effects of compound interest most notably in the $5 per day scenario: it requires the least amount of initial investment and has the most compound growth, at the expense of taking almost 78 years to reach $1 million.

However, if we can stretch our savings to $25 per day, we can become a millionaire in 42 years. In today’s day and age, this is a pretty standard working career and will definitely require more discipline, but is absolutely achievable.

Slow & Steady Wins the Race

If there’s one lesson that you should learn from this, it’s just that: slow and steady wins in the long run. It’s not flashy and doesn’t make for very eclectic conversations around the Thanksgiving table, but that’s okay. Last time I checked, the tortoise won the race!

Human beings are creatures of habit and the sooner we can develop positive, easily repeatable habits with our finances the better off we’ll be in the long run. The graphics above are an attempt to illustrate this idea: we give up the opportunity to hit a home run in the short term to avoid striking out in the long term.

Regardless which savings path we choose to embark on, it’s just important to pick one and get started. Remember that the choice is not between $25 or $0 today: even if we save $10 per day, using the graphics above, we now know what that will look like over the course of our lives. The simpler we keep our financial lives the better off we’ll be!

In an age of infinite information at our fingertips, it can be very easy to become overwhelmed when you’re trying to make an informed decision. When this decision concerns who you want to entrust your finances with, it’s paramount you make the right choice. I’m going to boil down all the information regarding this decision into 3 important traits you should have in your financial advisor.

On the surface, it may seem like all financial advisors are the same: “They just manage my money right? They have stock picking expertise and can maximize my returns?” Not exactly.

There are really two “worlds” in the financial advisory industry that clients can live in: the broker-dealer world and the independent world. The broker-dealer world is characterized by firms like Merrill Lynch, Morgan Stanley, UBS, Ameriprise, and Edward Jones. The independent world consists of Registered Investment Advisors (RIAs) that follow the guidelines of the state they have a main office in (< $100 million in assets under management) or the guidelines of the Securities and Exchange Commission (SEC; >$100 million in assets under management).

Throughout this post I’m going to be discussing the 3 traits you should look for in a financial advisor and how they operate in each “world” so you can make a more informed decisions on who you want to hire.

• Ensure the advisor you hire is a fiduciary
  • Are there fiduciaries in the broker-dealer world?
  • Are there fiduciaries in the independent world?
• Ensure the advisor you hire is fee-only
  • How are broker-dealer advisors compensated?
  • How are independent advisors compensated?
• Ensure the advisor you hire has the CFP® credentials
  • Do broker-dealer advisors have the CFP® credentials?
  • Do independent advisors have the CFP® credentials?
• The Bottom Line

Trait #1: Ensure the advisor you hire is a fiduciary

Perhaps the most important characteristic in a financial advisor is whether or not they are a fiduciary. According to Investopedia, a fiduciary is defined as “a person or organization that acts on behalf of another person or persons, putting their clients’ interests ahead of their own, with a duty to preserve good faith and trust.”

Are there fiduciaries in the broker-dealer world?

There can be, but it is not a requirement. The firms named above are subject to the “suitability” standard as opposed to the fiduciary standard, where they have a requirement to ensure that an investment or particular course of action is “suitable” for someone in your situation.

Picture two investments: Fund A has an expected return of 10% and has $50 in fund expenses associated with it, while Fund B has an expected return of 10% with $100 in fund expenses, and a broker has determined that both of these funds are considered “suitable” investments for you. The broker bases this on factors like your age, time horizon, and risk tolerance.

Even though both funds are expected to return 10%, a broker may place your money in Fund B if he/she earns an extra commission off of it. This is an inherent conflict of interest that’s present in the suitability standard.

Are there fiduciaries in the independent world?

By definition, all RIA firms are required to adhere to the fiduciary standard. RIAs have an ethical and legal requirement to place client interests ahead of their own.

In the scenario above, a fiduciary would first have to consider more than just your age, time horizon and risk tolerance before making an investment recommendation. Things like debt or emergency savings should be considered first before allocating monies towards investments, and then things like life insurance or an umbrella liability policy would be considered.

Ultimately, if it is determined that investing is in the best interest of the client, a fiduciary would be obligated to develop an appropriate asset allocation (percentage of monies in stocks, bonds and cash) that fit within the “life portfolio” of the client at the lowest cost possible.

Trait #2: Ensure the advisor you hire is fee-only

Another important factor for people to consider when hiring a financial advisor is how that advisor is compensated. We all know the prices we pay at the grocery store and the gas pump, and it should be no different for the people managing our money.

The most common way financial advisors are compensated is based off a percentage of assets under management (AUM). Within this AUM structure, there are two ways financial advisors earn their money, which are called “fee-based” and “fee-only.” There are some firms that charge hourly rates, flat fees or even a retainer fee, but these are less common and will not be addressed in this post.

Fee-based financial advisors are paid directly by their clients and can also earn commissions off products they sell to those clients. Fee-only financial advisors are paid directly by their clients and do not receive other sources of compensation. Before engaging with a financial advisor, be sure to read their firms’ Form ADV which outlines their compensation structure along with other important firm information (here is Praetorian Guard’s Form ADV as an example).

How are broker-dealer advisors compensated?

Most brokers tend to fall under the fee-based model, which would be the broker in the suitability example above. A Morgan Stanley or Merrill Lynch advisor will often construct a portfolio with proprietary Morgan Stanley or Merrill Lynch funds that you’ll be paying commissions on, in addition to the AUM fee. These funds will be suitable for someone in your position, but they may not be in your best interest.

Broker-dealers are not required to disclose this information to you prior to engaging their services.

How are independent advisors compensated?

RIAs are most commonly fee-only, as they are also required to be fiduciaries, but some RIAs operate in the fee-based model. Most independent firms are compensated from their clients directly, and they do not receive commissions or other forms of compensation from financial product providers. If an independent firm recommends a specific type of investment for you, it’s because that investment is in your best interest and the firm is not getting paid anything additional for placing your money in it.

RIAs as fiduciaries also have an explicit requirement to be transparent about the fees they earn. They are required to disclose this information (along with any material conflicts of interest) to you prior to agreeing to provide any advisory services to you.

Trait #3: Ensure the advisor you hire has the CFP® certification

Regardless of what “world” you decide to entrust your money with, it is very important that the advisor you choose has the CERTIFIED FINANCIAL PLANNER™, or CFP®, certification. According to the CFP Board website, “CFP® professionals take a holistic, personalized approach to bring all the pieces of your financial life together. As part of the CFP® certification, CFP® professionals also have made a commitment to CFP Board to act as a fiduciary when providing financial advice to a client.”

Advisors who want to obtain the CFP® marks must have a bachelor’s degree in any discipline, complete Board certified coursework (12-18 months), pass a 170-question exam over the course of six hours (roughly 65% pass rate), and have 6,000 hours of professional experience before they are allowed to use the marks in a professional capacity. These rigorous requirements ensure advisors are qualified to provide holistic financial planning to a wide variety of clients.

Do broker-dealer advisors have the CFP® credential?

The short answer: some do, but not many. The long answer: having the CFP® credential in a broker-dealer environment is a bit of an oxy-moron, as the CFP® profession has a foundation in the fiduciary standard. In the financial advisory space, being a CFP® professional and being a fiduciary are practically interchangeable, so it’s a bit strange to be held to a fiduciary standard in a suitability model. Aside from the apparent conflicts of interest (and it being strange), the CFP Board does not bar broker-dealer advisors from being CFP® professionals.

Do independent advisors have the CFP® credential?

The short answer: some do. The long answer: independent firms and their employees are bound by the fiduciary standard, but this does not mean that they need to have the CFP® marks to be advisors. It is much more common to find CFP® professionals in an independent firm as opposed to a broker-dealer, as they both abide by the fiduciary standard and share similar values and approaches to financial advisory services.

According to the CFP Board website, as of March 1, 2023 there were 94,968 CFP® professionals nationally. The Bureau of Labor Statistics, as of May 2021, showed there were 330,300 financial advisors in the United States, which means that CFP® professionals make up about 28% of all advisors. This percentage is so low largely due to the stringent and time-consuming requirements needed to become a CFP® professional. The workload that is associated with holistic financial planning is also much greater than purely investment management, an approach that is more common in the broker-dealer world.

The Bottom Line

Everyone needs financial planning in their lives, at some capacity. This capacity will change for everyone depending on age, job prospects, or family and health situations as they go through life. It’s better to navigate these difficult situations with an experienced professional by your side, guiding you through the financial wilderness.

It’s imperative to ensure the advisor you select is sitting on the same side of the table as you are, whose interests are aligned with yours. It seems obvious a financial advisor should do what’s in your best interest but we know that is not always the case.

Choosing a financial advisor is not always straight forward and there are quite a few factors at play that need to be considered carefully before making a decision. Hopefully this post helped equip you with the knowledge you need to make sure you have a valiant advisor with you through that wilderness!

I’m going to attempt the improbable here and try to make a morbid topic light-hearted and enjoyable, so let’s just dive in.

Death. Along with paying taxes, it’s the only other guarantee in life. Father Time is undefeated and we all return home someday.

No one plans on dying tomorrow (unless you’re David Blaine or you fly in those wing suit things because it’s somehow fun to you). If you told me when you were going to die, we could solve a lot of financial problems for you and your family.

While the timing is unknown, the probability of it happening is known with absolute certainty.

When it’s my time to get called home, I’m going to leave a bunch of stuff behind to people I love: belongings, car, money, sentimental items, etc. Do I want them fighting over who gets it? Well, I don’t really care, because I’m dead, but I’m a non-confrontational person and care a lot while I’m alive, so I’d rather they didn’t.

This is one reason why it’s important to make these decisions today while I’m able to. Doesn’t do me any good to have second thoughts or regrets while I’m up there having dinner with Einstein and Ben Franklin. Or asking D.B. Cooper (if that’s even his real name) over a glass of wine if he really stole the plane.

Fortunately, our legal system allows us to craft binding documents that contain decisions like these and many others. Some of these documents come into force while we’re alive, others after we go home, but it’s important to have them all established and the proper family members notified before that day comes.

Skip ahead:

1. Last Will & Testament
   • Advantages of probate
   • Disadvantages of probate
2. Durable Power of Attorney
3. Living Will
   • The Terry Schiavo story
4. Durable Power of Attorney for Healthcare (DPoAH)
5. How Do I Get These Documents In Force?
6. Conclusions

Last Will & Testament

A last will and testament allows an individual to make their final wishes regarding their assets and children, if applicable. This is where we can decide who will receive our belongings, property, and/or prized possessions.

We can leave our assets to family members, friends, or even charities as long as those assets do not have a named beneficiary (more on this below). The probate court will help the executor of our will carry out our wishes, which has both advantages and disadvantages:

Advantages of probate

• Ensures the will is administered properly (court supervision)
• Inventory and valuation of all assets
• Paying of any bills and resolving pending credit issues

Disadvantages of probate

• Loss of privacy (probate is a public process)
• Must go to court and bear the accompanying expenses (lawyers, court fees, delays in process, etc)
• Possibility of a will contest (most states allow certain family members to contest the will if they are left out)

If we have things like life insurance policies, transfer on death (TOD) or payable on death (POD) accounts, or qualified accounts (401k, IRAs, etc), these are called “will substitutes” and pass on to the named beneficiaries we listed on those assets. They bypass the entire probate process and all the publicity, expenses, time, and effort associated with it, which is a major benefit to our heirs.

A will also allows us to name a guardian for minor children in the event something happens to us. This is extremely important for everyone who has minor children, but especially vital for young, new parents who may not even know this is something they need to do.

Durable Power of Attorney (DPoA)

A DPoA grants an individual the power to make financial decisions for you in the event you cannot make them yourself. These decisions can be tax (power to make gifts to family members, power to disclaim, power to sign tax returns) and non-tax (buy/sell assets, collect from debtors, engage in lawsuits) related. Once it’s our time to go home, the DPoA terminates with us.

Having a DPoA is beneficial because it allows us to appoint someone today, while we’re healthy and in a good frame of mind, to have legal standing and make important financial decisions for us if we become incapacitated. We can be assured that someone we know and trust will have our best interests in mind if we aren’t able to speak for ourselves.

Living Will

A living will directs our physician to either continue or discontinue life-sustaining procedures if we are in a terminal condition or permanently unconscious (also called a persistent vegetative state). Fortunately, this document gives us the ability to make that decision today. While it’s morbid and depressing, it’s actually really important to make this decision today while we’re in a good state of mind. Cue the Terry Schiavo story.

The Terry Schiavo story

I won’t go too in depth (I’ll link an article to the story here if you want all the details), but the basic gist is that Terry Schiavo, a 26-year-old Floridian woman, went into cardiac arrest and was left in a coma for over two months in 1998. At that point, she was deemed to be in an irreversible persistent vegetative state by her doctors.

Her husband, and legal guardian, knew she would not have wanted prolonged life support if the doctors did not think she would able to recover, so he elected to remove her from such support. Her parents were obviously distraught and argued for her to be kept on life support. Her husband and her parents ended up battling in court for over seven years, with the case being elevated all the way up to President Bush and the Supreme Court.

Moral of the story: a living will grants you the power to decide what you want today, but also can prevent family members from ending up in a situation with no good outcomes that can affect them for a long time.

Durable Power of Attorney for Healthcare (DPoAH)

Combined with a living will, a DPoAH creates an “advanced medical directive” that allows us to name an individual who can make medical decisions for us in the event of our incapacitation. This is very similar to a regular DPoA, but different in the following ways:

• It only concerns medical decisions
• It is what’s called a “springing” power, which means it “springs” into effect upon our incapacitation. If we are aware enough to make our own healthcare decisions, physicians will grant our wishes
• It is a separate document from the DPoA

The advanced medical directive covers all possible situations that could arise due to medical reasons and allows us to decide today what kind of treatment we do or do not want to receive, whether we’re able to say so ourselves at that time or not.

How Do I Get These Documents In Force?

When we’re young and our lives are not overly complicated, a simple and effective way to get these four documents is through DIY platforms like LegalZoom, Nolo or Rocket Lawyer. While this is not legal advice, it’d be wise to do some research to see which service would best suit your needs. Obtaining basic documents on these platforms most likely will cost less than $500 and shouldn’t take more than an hour or two to complete.

Once we have the documents completed, we need to get them notarized so they hold legal standing. Completing the documents online is not enough for the documents to be in force. Once they’re notarized, it would be wise to digitize copies of the signed originals in addition to keeping the originals in a safe place so you can ensure you, or someone you trust, always have access to them.

Then when we make it big in our careers and we have 4 kids, 5 cars, 3 houses, a yacht and a plane (sarcasm, but you get my point, hopefully), it will probably be in our best interest to see an estate attorney at that point and get new documents drafted to go along with a revocable living trust. That will be a different post at a different time, but the gist is that as our lives continue to grow in complexity, so too will our estate plans.

Conclusions

These four basic documents provide a solid foundation to an estate plan for younger folks. They allow us to cover our bases (will, guardianship for kids, general last wishes) and head off potential Terry Schiavo situations (durable power of attorney’s) in the future. None of it is fun to think about or write down, but it ensures our wishes are carried out and reduces the chances of grievances occurring amongst family members.

Another key point is that having these basic documents allows us to keep our wishes and belongings in the private confines of our families. A few interesting facts to know are that people like Aretha Franklin, Stan Lee, Chadwick Boseman, Prince, and Bob Marley all passed away without a will, known as “intestate.” These are multimillion dollar estates that had dozens of claimants after their deaths, claiming a portion of the estate belonged to them. And all of the court documents regarding these estates are public knowledge.

Moral of the story: we should bite the bullet and face some of the hard questions and decisions in life today so we ensure our wishes are honored and our estates are handled privately. Our family will thank us one day!

When we look at a dollar bill, there doesn’t seem to be anything special about it. It just seems like a piece of paper we might be able to buy a stick of gum with.

But in the world of personal finance, not all dollar bills are equal. Some are special and have tax advantages while others don’t. We’d be wise to employ as many special dollar bills in our personal situations as possible.

This is where Roth dollars come into play.

I referenced Roth IRAs in this blog post as a great vehicle for young professionals to utilize as we get started on our retirement savings path. But what exactly are Roth accounts and why are they so great?

The 3 reasons:

1. Access to contributions, tax-free withdrawals
   • We have to pay taxes, but we can decide when
2. Eliminate Uncle Sam from our future
   • Reduce taxable retirement income
   • Reduce chances of paying higher premiums for Medicare Part B
   • Reduce chances of paying more taxes on Social Security benefits
3. Tax advantages to future beneficiaries

Access to contributions, tax-free withdrawals

Whenever you see the word “Roth” in the finance world, think “taxed today, mine in the future.” A Roth account has after-tax contributions in it, enjoys tax-free growth while it’s invested and, if certain rules are met, all the contributions and the growth come out tax-free.

So what do we get in compensation today for paying taxes up front? Something rare in the qualified accounts world: access to the money.

We have to pay taxes, but we can decide when

The dollars we contribute to most retirement accounts (think Traditional IRA, Regular 401(k) or a pension) are not taxed today because we get a tax deduction for taking care of our future selves. This is a great incentive for us to save for retirement, but it comes at the expense of not having access to those savings today (unless stringent criteria for limited exceptions are met).

However, since we’ve already paid taxes on the money we put into a Roth IRA, Uncle Sam no longer cares what we do with that money. If I contribute $2,000, I can always access that $2,000 until the end of time. However, just because we can access it doesn’t necessarily mean we should: we want to avoid taking contributions out too soon as we will not get the opportunity to put them back into the Roth to realize further tax-free growth.

The Roth IRA is a game changer for young professionals as we get started in our careers (go here to learn about the income and contribution limits for a Roth IRA and other accounts like it). Once we turn age 59.5 and the account has been open for five years, then we have access to every single penny in the account…completely tax-free!

Eliminate Uncle Sam from our future

There’s century-old arguments about the merits of Uncle Sam and the reach of his powers, but I think we can all agree that we tend to not like him very much when he reaches his hands into our paychecks.

With our Roth IRA, because we use after-tax dollars up front to save for retirement, we can take these dollars out in retirement and they are not taxed again. This is beneficial if tax rates are higher in our retirement years, since we would pay the lower tax rate today. And at $31 trillion in debt, I strongly doubt U.S. tax rates will be lower in 40 years.

Reduce retirement income for tax purposes

With most qualified accounts like the aforementioned Traditional IRA and Regular 401(k), the government mandates us to take a Required Minimum Distribution (RMD) once we reach a certain age (age 73 in 2023), whether we want to or not. Since Uncle Sam hasn’t gotten his tax revenue on these accounts yet, he makes us take money out every year after age 73 so he can tax it. These distributions are considered ordinary income, getting taxed at our marginal rates.

But with a Roth IRA, there are no RMD’s. Uncle Sam already got his tax revenue up front so he doesn’t get any on the back end. And when we take money out of the account in retirement, it is not considered income. Theoretically, we could take out $1 million from our Roth IRA at age 73 and recognize $0 of income and pay $0 in taxes!

Roth IRA distributions not being considered income has a domino effect on other aspects of our financial lives, as well. These aspects are not something we tend to think about in our 20s or 30s but if we take advantage of Roth dollars when we’re just getting started, we’ll really be thanking ourselves down the road.

Reduce chances of paying more for Medicare in retirement

When we turn 65 we become eligible for government healthcare, called Medicare.

While Medicare is primarily funded by the U.S. government, individuals also pay premiums for specific portions of the coverage, namely Part B (doctor visits) and Part D (prescription drugs). The base premiums are based off our Modified Adjusted Gross Income (MAGI) and surcharges are added if the MAGI reaches certain thresholds.

These surcharges are called Income Related Monthly Adjustment Amounts (IRMAA). Hopefully the first two words in the acronym tell you where I’m going with this.

If we have a Traditional IRA, a Regular 401k or a pension in retirement that we’re drawing from, then that increases our MAGI. These distributions could bump us into higher IRMAA thresholds which can increase our monthly Medicare premiums by up to $472/month in 2023.

The bottom line: The more income we have in retirement, the more we’ll pay for healthcare coverage. Roth IRAs help to avoid this.

Reduce the tax on your Social Security income

The story with Social Security rhymes with the Medicare story.

When we file for Social Security in retirement and begin receiving benefits the government uses the following formulas to determine if our monthly check will be subject to taxation:

As you can see, the more income we have while we’re collecting Social Security, the higher percentage of our benefits will be taxed. Again, Roth IRAs help to avoid this potential tax hit in retirement.

Tax advantages to future beneficiaries

The “income in retirement” problem doesn’t stop with us: it can affect our beneficiaries too.

We discussed that while we’re alive, we do not have to take RMDs from our Roth IRA because Uncle Sam has already collected his tax revenue. But when we die, the rules change a bit.

The rules are very complicated and beyond the scope of this post, but the important thing to know is that our beneficiaries who inherit our Roth IRA must take distributions. But because we’ve already paid taxes (and the account has been open for five years) our beneficiaries enjoy the same tax-free withdrawals that we do!

This means that our heirs (likely family members) can avoid the income problem related to Medicare and Social Security for themselves as well. In special cases, if our heirs have special needs and they inherit a non-Roth account with RMDs, this could seriously affect their ability to receive government benefits (read more about this here), making the Roth dollars that much more valuable.

The Big Takeaway

Roth this, income that…I get that it’s a lot of fancy Congressional financial jabber. But it’s really important to understand the basics today so that we can make good decisions that will benefit both our present selves, our future selves, and our future inheritors.

“A bird in the hand is worth two in the bush” is the old saying and I think it applies nicely here: if we act on the knowns today (tax rates), we eliminate the unknowns in the future (tax rates). In other words, the big takeaway is this: we pay a known tax today to invest in a Roth IRA and we avoid Uncle Sam’s tax hands in retirement. This gives us maximum flexibility today (access to the money) and in the future (tax-free withdrawals) that allows us to adhere to the seventh ingredient in a healthy financial plan…Keep It Simple, Stupid!

It’s difficult in 2023 to avoid trendy topics, regardless of their validity or sanity (I do my best but a part of me is always plugged in). A topic in recent years that’s garnered some attention on social media is the FIRE movement, or “financial independence, retire early” movement. The acronym is self-explanatory, but maybe what’s not so self-evident is what it costs to pursue.

When we think about money and our expenses, our brains jump to what our actual expenses are: rent, groceries, daily living, etc. Natural, right? But there are also expenses in our life that are intangible, but calculable: the cost of not doing something.

In economics and even everyday life, this is known as “opportunity cost.” It’s the value of what you give up when you choose to do something else.

For example, if it takes me 1 hour to drive to work or 2 hours to take public transit and I choose the public transit, I save money on gas, but I double my travel time. Therefore, my opportunity cost is 1 hour plus the things I could’ve done during that hour instead of being on the bus.

So, how does all of this relate to the FIRE movement?

Skip ahead:

1. What is the FIRE Movement?
2. FIRE Movement Implications: An Example
   • Who Cares If I Retire at 50?
   • What Happens to My Retirement Accounts?
   • What Happens to My Health Insurance?
   • What Happens to My Social Security Benefits?
   • Yeah, Yeah, Cut to the Chase…
3. Conclusions

What is the FIRE Movement?

Proponents of the FIRE movement advocate for living below our means today and paying down debts to achieve “financial independence”, which theoretically allows us to retire “10-30 years earlier than normal”. The “retire early” component has probably the widest variations in definition, but most proponents of the movement do not believe it means laying on a beach sipping a cocktail every day at age 45.

Rather, they argue that an early retirement allows people to pursue their passions they had to put off during their working years or to spend more time raising their children and being “financially independent” allows them to achieve this lifestyle.

The “FI” Ain’t So Easy

The FIRE movement sounds great on the surface, right? It’s no wonder it’s become so popular amongst the Millennial and Gen Z generations in blogs, social media posts, and podcasts. Paying down debt is almost always a sound financial choice and living below our means is a definitive key to long-term financial prosperity.

To me, “financial independence” means that I have enough money attached to my name that I no longer need additional income to support myself. This means that I have enough cash on hand for the “(bleep), now what?” moments that will inevitably happen, enough cash for daily living, and the ability to tap my investment accounts if I need to. From my experience, the people who can actually do this are extremely few and far between.

The “RE” Ain’t So Easy, Either

Remember when we got to college, and we were given the triangle of choices? Sleep, grades, and social life? We could have any two we wanted, but not all three. Some of us tried valiantly to obtain all three but, as it turns out, the human body actually needs sleep in order to function coherently. Who knew?

In my experience talking to clients who are thinking about retirement, a similar triangle of choices is present, but it looks a little different (shocker: partying til 3am isn’t on the triangle). Their triangle tends to have “where, when, and how much” on it and most commonly, retirees choose where they want to retire and how much money they need to sustain them, and those two choices determine the age they can call it quits.

The FIRE movement is backwards: it targets the “when” but downplays the “how much” portion and doesn’t even consider the “where.”

Retiring many years before a “traditional” retirement age has pretty serious implications on many aspects of financial life, such as savings in qualified accounts (refer to a prior post if you don’t know what these are), health insurance, and Social Security earnings history, which we are about to explore. I’m going to assume I’ve achieved “financial independence” in the following example and will focus on the “retire early” implications, as I feel they are more dire.

FIRE Movement Implications: An Example

Let’s say I turned 50 today and retired from my career as a CFP® professional and I pursue an amateur golf career while giving golf lessons part-time for a little income. We’re really entering fantasy land here folks, but it’ll serve its purpose as an example.

We will use age 67 as my retirement age to compare, which is defined by the Social Security Administration (or SSA) as my “Full Retirement Age” (or FRA; this is true for everyone born 1960 or after). A spouse and kids will complicate things so for purposes of this example, those situations are not considered.

All the assumptions used are based on Social Security numbers and are in a table below, and all calculations were done in an Excel file which can be made available upon request.

Data	Assumptions
Birth year	1972
Start working	1994
Current age	50
“Normal” retirement age	67
Death age	92
1994 salary (using SSA avg wage index)	$23,754
2022 salary (using SSA avg wage index)	$59,003
COLA for PIA (avg % 1975-2022)	4%
Annual salary increase	3.3%
File for Social Security	Age 67, FRA
Investment growth rate	6%

Who Cares If I Retire At 50?

Well, as it turns out, the U.S. government and the SSA care when I retire. There are magical ages in the tax code that determine eligibility for things like tapping our retirement accounts, Medicare, and Social Security and if we don’t meet these requirements, we get a very costly slap on the wrist.

For example, we are not allowed to tap our qualified accounts (401ks and IRAs) before age 59.5 without paying income taxes and a 10% penalty (there are always exceptions, but this is a broad point). This is the first slap.

According to the Bureau of Labor Statistics, only 44% of Americans actually have work retirement plans, and for the vast majority of these people, that will be their largest accumulating asset during their working years. Not having the ability to access our largest asset forces us to: have access to large amounts of cash on hand for emergencies and daily living (which inflation erodes over time), keep our debt balances to only necessary and manageable entities (autos and mortgage), and not withdraw money from any taxable investments we may have, as this severely hinders their ability to compound growth.  

But don’t take my word for it: let’s see what the numbers say.

What Happens to My Retirement Accounts?

Retiring at age 50 as opposed to age 67 means I miss out on 17 years of not only higher wages, but also retirement plan contributions. This is related to the first slap, but it might not be on my wrist: it might be in my face.

For example, at age 50, if I contribute 10% of my salary per year into a Roth 401k then I miss out on over $141,000 of completely tax-free money in retirement, not including growth on those dollars.

The story gets worse if my employer offers a match.

A common thing for employers to do is match half of our contribution up to 6% of our salary. Think of it as them basically saying, “You’re smart and a good employee, and we want to keep you, so here’s a little Scooby Snack,” and they kick in a little money in an effort to retain us. This money has never been taxed so it goes into a pre-tax Regular 401k and we have to pay taxes when we eventually withdraw it after age 59.5.

The employer 401k match is essentially “free money” that I leave on the table. In total, retiring 17 years early means I miss out on $184,000 of tax-advantaged dollars, and when the investment growth is factored in…

What Happens to My Health Insurance?

Now, when we’re employed, we don’t really care about health insurance costs because our employers cover them (thanks team!). Once we turn 65, the government provides our health insurance through Medicare. But if there’s a gap when we are not employed and are not yet age 65 (like in our example), then we are on the hook for private insurance. This is the second slap.

According to ValuePenguin, the average cost of private health insurance for a 50-year-old individual in 2022 was $734/month, or $8,808/year. Health insurance premiums have also increased 3.7% per year over the last 15 years, on average. In our example, if I retire at 50 and am on the hook for private insurance until Medicare at 65, it will cost me over $187,080. Ouch!

However, if I stayed employed and instead took that $734 per month and invested it at the same 6% growth as my Roth 401k, I would have roughly $213,461 at age 65. I have healthcare in both instances, but my opportunity cost of retiring at 50 is the delta between the two scenarios…a whopping $400,541.

What Happens to My Social Security Benefits?

I’m kind of tired of getting slapped, but here comes a third one.

We pay into Social Security out of every one of our paychecks so that when we reach a certain age, we receive a paycheck back for the rest of our lives (yes, it will still be there for us when we retire). The SSA uses our 35 highest earning years to calculate our monthly benefit for life. If we don’t work at least 35 years, then they use $0 to average in for the years we did not work.

Let’s say for purposes of our hypothetical, when I retire at 50 and give golf lessons on the side, I earn 30% of what I was making as a CFP® professional. I’ll project this out until age 67 to determine my monthly benefit, and then compare it to what it would have been had I stayed in my career until age 67. Then I project that out until age 92 to determine a lifetime Social Security benefit in each scenario.

I’m using age 92 because a general prophylactic in the financial planning world is to plan to live much longer than you might expect to, even though the SSA has a male life expectancy at birth of 76 years old. It’s better to have money when you die than to not have it while you’re alive.

The popular financial modeling software MoneyGuidePro uses the Society of Actuaries mortality tables to determine planning ages, and they recommend to plan to age 92 for a male, non-smoker, in good health with about average family longevity. So, what happens to my lifetime benefits if I miss out on 17 years of higher earnings?

Yeah, Yeah, Cut To The Chase…

If all that slapping didn’t wake up my hypothetical 50-year-old self, then I’ll break it down further so it will.

This example shows how easy it is to miss out on over three quarters of a million dollars by retiring from a full-time career 17 years early. It’s also self-evident to see how this number would be exacerbated if a spouse and kids are in the picture.

Paying this opportunity cost affects not only “future me” but also my family members or other heirs who may need an inheritance. I think it’s important to most of us that we financially support not only ourselves but also people we love and care about.

Conclusions

I didn’t create this example to say that no one can retire at 50, or 55, or any age that’s considered “early.” If the earnings history is large enough and the debt management is supreme, then it may be possible for a minority of people to enjoy an early retirement.

The example simply uses average United States statistics for investment growth, health insurance, and Social Security to show what’s given up by retiring from a full-time career at an early age. As it turns out, that number being left on the table is pretty large and can make or break a lot of financial plans.

If you’re considering pursuing FIRE, weigh the pros and cons of both financial and non-financial aspects of the decision. Use this example if it helps to understand the financial impacts of an early retirement and determine if the opportunity cost is worth paying.

I’m not old, but I definitely plan on getting there some day (don’t worry, I’m not going to define what age “old” is). Just like anyone else, I have dreams and visions of retiring and spending time with loved ones, playing golf every day, or doing absolutely nothing on a beach in Tenerife.

All that is well and good, but what about the times when I’m not able to do the things I enjoy because of health needs?

A recent study by the Employee Benefits Research Institute found that a couple retiring in 2022 needs about $273,000 to cover medical expenses throughout retirement, and that does not include long-term care costs. I’m certainly not naïve enough to think I won’t be sidelined at some point in my life because of a health issue. So, how do I plan for that inevitability and the associated costs?

This is where the Health Savings Account, or an HSA, comes into play. Let’s first do a brief overview of the health insurance world and how an HSA ties into it, and then what we can do to take advantage of all of it.

Already a pro? Read what pertains to you:

1. Health Insurance Basics
2. What is a High-Deductible Health Plan (HDHP)?
3. What is a Health Savings Account (HSA)?
   • HSA Features
   • Pros vs. Cons of an HSA
4. HSA Examples
   • The Way Congress Intended
   • The Way Congress Didn’t Foresee
5. So, How Do I Take Advantage of an HSA?

Health Insurance Basics

The basic components of a health insurance policy are referenced multiple times throughout this article so it’s helpful to first establish some definitions:

Deductible: Amount paid by us before the insurance kicks in ($500 for example)

Coinsurance: Percentage of expenses covered by our insurance (80% for example)

Maximum out-of-pocket (MOOP): This is the max amount we will pay out of our own pockets for medical expenses and our insurance will cover 100% of future expenses ($5,000 for example)

Note: All these numbers relate to a calendar year.

What Is a High-Deductible Health Plan (HDHP)?

Congress proved they can keep things simple when they came up with this name.

This is health insurance that simply has a higher deductible than other insurance plans, which means we’re on the hook for more of our medical expenses. Monthly premiums are lower to compensate for the potentially higher out-of-pocket medical expenses.

“Aren’t we just gambling and hoping we don’t need to go to the doctor since we’ll have to pay more?” I can feel you asking me this and the answer is: sort of. But there’s a huge advantage to having a HDHP: we are granted the magical powers of an HSA.

What is a Health Savings Account (HSA)?

As far as the tax code is concerned, an HSA actually does have magical powers because it’s triple tax-advantaged: contributions to it are deductible, these contributions grow tax-free, and distributions for qualified medical expenses are tax-free. There’s nothing else like it.

We’re only allowed to have an HSA if we also have a HDHP. Our health insurance provider (usually paid for by our employer) maintains the HDHP, and a custodian (think Fidelity) maintains our HSA and provides the ability to invest.

We must be under Medicare eligibility age (age 65) and cannot be covered by any other health plan to be HSA-eligible. We are also not allowed to be eligible to be claimed as a dependent by someone else (notice the requirement is eligibility, not actually being claimed).

The contribution limit is set by the IRS every year, which can be found here. For 2023, it is $3,850 for an individual and $7,750 for a family. There is also a catch-up contribution of $1,000 allowed for individuals age 55 and over for both plans.

HSA Features

We’ll talk about funding/distribution strategies in the next section, but let’s first check out some of the cool things that an HSA can do:

1. The list of “qualified medical expenses” was greatly expanded in 2022 to include all expenses that qualify for a medical deduction (go here to check out the full list)
2. Distributions for these qualified expenses are tax-free
   • However, if we take money out of our HSA before age 65 and it is not for qualified expenses, we will pay ordinary income tax plus a 20% penalty on the distribution
3. There is no statute of limitations, meaning we can contribute money in 2023 and leave it invested in the account until 2063 if we wanted (completely tax-free!)
4. At retirement, HSA funds can be used to pay for things like COBRA premiums, long-term care premiums, and prescription drugs
5. Any money in the account we don’t use is carried forward indefinitely until a named beneficiary ultimately inherits it

HSAs are dependent on good recordkeeping. We need to have receipts that match our medical expenses, so we don’t get hit with taxes and penalties on an expense that the IRS doesn’t consider “qualified.” If we can’t prove that we paid for that bottle of Tylenol at Target with our HSA funds…smack!

Pros vs. Cons of an HSA

An HSA is about as close to a free lunch as Congress will ever allow. There are many upsides to HSAs but like all other things in the tax code, there are trade-offs. Writing out a pros vs. cons list is a helpful visual to see if an HSA could be beneficial in your situation.

HSA Examples

Let’s take all these numbers and rules and put them into practical, real-world examples of how the HDHP + HSA combo functions. We’ll be using an individual HDHP in our examples, but the family HDHP works the same way with higher limits.

There are several ways we can take advantage of HSA funds: the way Congress intended (annual reimbursement) and the way Congress didn’t foresee (delayed reimbursement). The latter strategy is a healthcare “life hack” that can pay yourself some serious dividends if utilized properly.

The Way Congress Intended

Let’s take a single, 30-year-old individual named Sam as our example. Sam’s HDHP limits and 2023 expenses are as follows:

Deductible: $1,500

Coinsurance: 80%/20%

Maximum out-of-pocket (MOOP): $8,000

Qualified expenses: $10,000

Sam is on the hook for the full deductible and 20% of all remaining expenses up to $8,000. Let’s see how that adds up:

	Sam	Insurance
Deductible	$1,500	$0
Coinsurance	$1,700 (20% x $8,500)	$6,800 (80% x $8,500)
Total	$3,200	$6,800

Sam would be allowed to reimburse himself for his out-of-pocket expenses, which in this example is $3,200. He cannot claim these expenses as an itemized deduction, however.

This is a great, tax-advantaged way to fund your healthcare expenses if you’re able to contribute to an HSA. Assuming a 25% tax rate, Sam would save $800 in taxes because he was able to pay the $3,200 with tax-free money. Pretty sweet for Sam!

The Way Congress Didn’t Foresee

This is where saving receipts and having good records really comes in handy.

As mentioned earlier, the IRS does not have a statute of limitations for using HSA funds, meaning there is no requirement to reimburse ourselves today for the medical expenses we incur. We can do it whenever we want! We can leave the funds invested in our HSA to compound growth and reimburse ourselves in 20, 30 or even 40 years from now.

If we can pay our medical expenses out of pocket today, our HSA ends up essentially being a 100% tax-free cash distribution in retirement that we can use for things like long-term care premiums, prescription drugs, or even that sweet vacation to Tenerife!

The reason this works is because we saved our receipts and have records of our medical expenses, so when we take a distribution from our HSA, we can back it up with the appropriate medical expense and avoid income taxes and the 20% penalty if we’re under age 65.

Using Sam from our previous example, he would pay the $3,200 in expenses out of pocket and keep all the receipts. He’d leave his HSA funds invested in the account, which would compound growth until he reimburses himself in retirement 35 years later. Even sweeter for Sam!

So, How Do I Take Advantage of an HSA?

Now that we have a better understanding of what an HSA is and what it can do, how do we take advantage of it?

If your employer offers a HDHP, a possibility is to negotiate for them to make the annual max HSA contribution as part of your compensation package. The insurance premiums will be lower, the contribution is deductible for them and not considered income to you, and it will help fund medical expenses for the “future you.” Everyone wins!

If your employer is unwilling to do this, look at your budget and set aside a dollar amount each paycheck to put into your HSA. Consider paying your medical expenses out of pocket if you can afford to and let your HSA funds grow over the long term.

In either case, remember that discipline is the most important trait needed to build wealth so come up with a plan, stick to it, and reap the rewards!

Ahhh, it’s that time of year again. Colder weather (unless you live in California), seasons change (unless you live in California), and the holidays arrive (California still has those, thankfully). We can usually count on the last few months of the year to bring some excitement to our lives, whether it’s genuine excitement like seeing family we don’t normally see, or “drama” excitement…like seeing family we don’t normally see.

If we’re lucky, sometimes the end of the year brings us some sweet financial excitement, like a bonus from work or a healthy “I love you!” cash infusion from Gam-Gam. It’s nice to know people.

I get a lot of questions from friends and young professionals about what to do with this money when it comes in, which is great. I’d rather hear, “I just got a $10,000 bonus and don’t know what to do” than “I just got a $10,000 bonus and I bought bitcoin and went to Vegas!”

The questions usually revolve around how to divvy up the cash inflow in the most productive way possible, so I’m going to pose some absolute things to do as well as some things to think about here in this article that will hopefully help guide your next large cash inflow.

Navigate to what you need:

1. Always, Always, Always…Pay Yourself First
   • To-Do #1: Pay Down Debts
   • To-Do #2: Fund Emergency Savings Account
   • To-Do #3: Contribute to Tax-Advantaged Accounts
2. Now, It’s Time to Celebrate!
   • To-Do #4: Now, It’s Time to Treat Yourself
3. Conclusions

Always, Always, Always…Pay Yourself First

I find it strange that most of us are willing to pay everyone else before we pay ourselves. Could you imagine if our employers did that? Paid all the bills EXCEPT salaries and no one got compensated?

Spending our money before saving is the exact same thing. We should strive to pay ourselves first, in the form of paying down debts or saving, and only then should we splurge on ourselves. We cover our bases so that “future me” isn’t picking up the pieces that “today me” left behind.

The percentages recommended are just that: recommendations. There are no hard and fast rules, but use the actions laid out below as guidelines to help yourself get started.

To-Do #1: Pay Down Debts

Most of us have a car with a loan on it, or furniture in our apartment or home that isn’t fully paid off yet, or student loan balances remaining. It’s okay to initially have debt like this in the sense that it helps to improve our quality of life, at least in theory. I need a car to get to my job every day, I like having somewhere to sit in my apartment, and my higher education advances my future career prospects.

However, as long as we have these debts, they are the primary source of quicksand our paychecks are subject to (aside from the U.S. government). This means less money going into our pockets because somebody else has a claim on our money that trumps our own claim on it.

Attitude Towards Debt Determines the Payment Method

When paying off debts, it’s important to understand our attitude towards the balances. Does the dollar amount bother us the most, or do the interest rates? There are two different methods for paying down debt and they revolve around the answers to this question: the snowball and avalanche methods.

If the dollar amount bothers us, then we need to pay off the smallest loans first to feel a sense of accomplishment. This is the snowball method. Once we pay off a balance, we roll the payment onto the next lowest balance and continue until all debt is paid off.

If the interest rate bothers us, then we need to pay off the highest interest rate loan first. This is the avalanche method. This works for people who don’t like paying more money than they originally borrowed and are disciplined enough to stick with the payments, even if they don’t see any debt balances going to $0 in the short run.

ACTION: Decide how you feel about your debts and choose the method above that will best address your situation, and use 25% of your funds to pay them down.

To-Do #2: Fund Emergency Savings Account

Sometimes paying ourselves is as simple as having cash on hand to solve our immediate problems (not stuffed in our mattress or buried in the backyard somewhere, though). I talked in a previous post about the importance of having an account that has sufficient cash reserves for the inevitable “uh-oh” moments in life, and I’m going to reiterate that point here.

Funding this emergency account should be your next priority after paying down some debt. If you don’t have an emergency account, open a second checking account and get started.

How Much is Enough?

The general rule of thumb is to have 3 or 6 months of expenses sitting in cash. So, how do you know which is the right amount for you?

Ideally, if you’re single and have multiple income streams or are married with two solid incomes, then 3 months of expenses is probably sufficient. It’s easier to withstand hardships if multiple revenue sources are involved, so fewer reserves are required.

On the other hand, if you are single or married with one source of income, then 6 months is an appropriate amount. A salary decrease or job loss is much more impactful if there is only one income source, so it’s smart to have a larger amount of dry powder on hand.

ACTION: Determine if you need 3 or 6 months of expenses in cash based on the criteria above and set that as a goal, using 25% of your bonus funds as a baseline.

To-Do #3: Contribute to Tax-Advantaged Accounts

A tax-advantaged account is so important to a financial plan because it allows us a tax break either today or in the future, or sometimes both. Congress designs the tax code around incentive structures so we’d be wise to take advantage of it where we can.

After we’ve paid down some debt and/or beefed up our emergency savings, we should look next to invest in tax-advantaged ways.

Fund a Roth IRA

In 2022, if we are single and make less than $129,000 ($138,000 in 2023) or are married and have a joint income less than $204,000 ($218,000 in 2023) then we are eligible to contribute directly to a Roth IRA. We are allowed a max $6,000 contribution ($6,500 in 2023) if under age 50, and $7,000 if we are over age 50 ($7,500 in 2023).

We always have access to our contributions in a Roth IRA because we contribute after-tax money into the account. Uncle Sam has already had his tax bite on those monies, so we’re allowed to withdraw our contributions if need be. This could act as our “backup” emergency account if we really had a tough day, but these monies generally should never be tapped.

The next decision we have to make is how to invest our Roth IRA.

When we’re young and building up our asset base, it’s hard to get the proper diversification needed for a balanced portfolio simply because we don’t have enough money to spread around. Fortunately, it’s easy and cheap these days to put our money in an S&P 500 index fund and have access to thousands of companies inside one wrapper. This could be a place to start.

I’m not making any specific investment recommendations here, but I do recommend staying diversified if possible.

Fund an HSA

A Health Savings Account, or HSA, is a triple tax-advantaged way to save for healthcare expenses. It requires a High-Deductible Health Plan (HDHP) and allows us to contribute tax-deductible money into the account, invest it and have the earnings grow tax-free, and take it out of the account at any time for qualified health expenses, tax-free.

If we are single, we are allowed to contribute up to $3,650 ($3,850 in 2023) if under age 50, and $7,300 ($7,750 in 2023) if we are married and under age 50 in 2022. There are no income limits with HSAs, and just like the Roth IRA, there is a $1,000 catch up contribution allowed for those over age 50.

I will be writing a future post about the intricacies of HSAs but for now, if you have a HDHP and do not require consistent medical care, then an HSA could be a great fit for you. The investment options in an HSA are the same as a Roth IRA so I’d recommend investing them both the same way if you can.

Fund 529 Accounts

This may be a few years down the line depending on where you’re at in life, but 529 plans are great vehicles to kickstart college saving for a child, niece, or nephew. They are state-run savings plans that you fund with after-tax dollars and invest tax-free and withdraw tax-free for qualified higher education expenses (this tax treatment is similar to a Roth IRA, except the 529 funds have to be used for school expenses to receive the favorable tax treatment). The investment options are limited and are provided by the specific state the plan is in, but they tend to be broadly diversified funds.

I’ve only scratched the surface on the power of 529’s and it’s probably best to have a 529 at the bottom of your “paying myself first” list, but it is worth mentioning due to all of its great features.

ACTION: After paying off any debts and funding the emergency account, determine which of the above account(s) applies to your situation and set aside 25% of your funds to contribute.

Now, It’s Time to Celebrate!

To-Do #4: Treat Yourself!

Either you worked hard at your job to deserve the bonus, or you worked hard to get in Gam-Gam’s good graces to receive a cash gift from her, and in either case, you deserve to treat yourself!

The sooner we take care of our financial futures, the more flexibility we have to do the things we want in life. I’m a big believer in controlling our finances so they don’t control us, and that’s what the first 3 to-dos in this list consisted of.

But I also think it’s important that we reward ourselves for our hard work, recognizing that it’s okay to spend money on ourselves sometimes. As long as we cover our bases and take care of our future selves first, it’s perfectly reasonable to splurge a little.

Take a look at your budget and see how much you’d be comfortable spending on yourself. This could be new golf clubs, a mini vacation, a spa day, or a steak dinner. There’s no right answer on what constitutes “treating yourself”, but it’s unwise to spend more than your remaining bonus funds on whatever it is that you want (unless specifically budgeted for).

ACTION: Use your last 25% of your bonus to do something for yourself!

Conclusions

Year-end bonuses obviously improve our financial situations almost instantaneously, if we allocate the funds correctly. They tend to not be so useful if we take them to Vegas for a weekend, put it all on red, and wake up Monday morning not remembering what happened.

It’s important that we practice a bit of delayed gratification and first take care of the basics and help to ensure our financial longevity before splurging on gifts for ourselves.

But this doesn’t mean that we can never splurge, because we should! I think the beer ad disclaimer “please drink responsibly” applies here: treat yourself, but do so responsibly. Congratulate yourself on the hard work and have fun!