Case study: How am I doing financially?

[Krishna]

How am I doing financially? Am I on track for retirement, and life in general?

Life Situation: Married (me 39, wife 37). No kids yet, soon possible. Live in TX

Gross Salary/Wages: 160K (just me, wife doesn't work)

Individual amounts of each Pre-tax deductions 401k (890/paycheck), Insurance (Medical/Dental/term-life/ADD/): ~250/paycheck.

Other Ordinary Income: None

Qualified Dividends & Long Term Capital Gains: Not significant to me

Rental Income, Actual Expenses, and Depreciation: None

Take Home: 4.3K/month



Current expenses:


Rent: 1.5K
Utilities (phone, cable, electricity): $450
Groceries: $550
Non-food household items (e.g. clothes, household furniture, cleaning products, etc): $200 (we don't use this every month but we set it aside so that when we need it we use this money)
Gas: $100
No car payments (Own it outright)
Other expenses such as eating out, movies etc: $200.

Expected ER expenses: (optional, if relevant) Not sure, have not thought about early retirement.

Assets: Amount & description -

Bank: $10K
Emergency Fund: $28K

Retirement Investing:
Roth IRA (rollovers from prev employers): $333K + 27K = 360K
401(k): $2800 (new job)

Other investing:

Mutual funds: 350K
Stocks: 89K

Life Insurance: 800K

Car Value: ~10K


Liabilities: None

Specific Question(s): How am I doing financially? Sometimes I get the feeling people around me have orders of magnitude more than me. Am I doing OK to retire in like 25 or so years and have a similar lifestyle? Any advice would be nice to hear.

[Laura33]

Something doesn't add up -- you are making over $13K/mo. gross, but you are taking home only $4K/mo.?  I am assuming you are paid 2x/mo, which means you've listed about $2500/mo. in deductions, but that still leaves about $6500/mo. missing, and there's no way that's all taxes.  Do you mean your takehome is $4K/paycheck?

Importing the comments from the other thread, you are in fantastic shape to retire in 25 years as long as you don't ridiculously inflate your lifestyle.  In fact, you could easily retire in less than half that time if you stay on your current path; the question with that is how much will buying a home and having kids increase your expenses.

My primary suggestion at this point is to track all of your expenses.  There are a lot of things missing from your listed expenses, and your budget needs to cover those so you know how much you actually spend and how much you need.  So for ex., you have no car payments, but you do have maintenance and registration costs that aren't accounted for (and if you're in TX, registration is a noticeable amount!), and you should be saving up money for your next car.  Tracking what you actually spend money on is the best way to develop an accurate budget.

Beyond that, please change your 401(k) to a traditional one, and look into an IRA for your wife.

Finally, don't get caught up in what people around you are doing.  I'm sure you are surrounded by people who have fancy trucks and boats and second homes and all that -- that's the kind of stuff that salaries at your level enable people to buy.  But what those people don't have is over $800K invested before the age of 40. 

Everything is a tradeoff; you can use each dollar only one time.  As long as you are using your dollars in a way that satisfies you and your wife and allows you to reach your own life goals, that's all that matters.

[tamuaggie2011]

To further answer your question, we first need more concrete goals from you.

I understand this is the first time you've thought about it early retirement (or retirement in general because 25 years from now at age 39 makes you 64) is all about saving to cover your estimated annual expenses.

Havings kids will increase your spending for a few years for sure but those expenses will drop back off accordingly.

There is no "right" answer as to what those should be but you should get an idea lifestyle you and your wife will want in retirement.

Additionally I'm curious as to have you can have 350k in mutual funds but no dividend income to speak of? They may be reinvested at this point (which is great btw) but even at 2% a year that should be $7,000 in dividends you should be starting take into account for income.

[Krishna]

My bad Laura33!

4.2K / paycheck - 24 paychecks/year.

Car maintenance and expenses such as that: I don't have a fund for that yet. I generally put a bit less on savings that month and pay it out. If the paycheck has already passed, I take money from emergency fund and put it back the next month.

Dividend: I reinvest it. I think I pay taxes on like 8K or so every April. That too is covered since I generally overpay my taxes when my 401(k) gets tapped fully. That generally covers most - if not all - of the dividend taxes.

Lifestyle in retirement: If health permits: Travel a bit to visit destinations once a year (We do that now, and pay it off the same way we handle car maintenance, but plan a few months ahead and save up for that).  Other than that, nothing much different than what we do now.

Yes, I am surrounded by people with multiple homes, cars, timeshares (which is bad anyway), boats etc. I dont know how they could afford all this, assuming they are saving like we are.

[Laura33]

I dont know how they could afford all this, assuming they are saving like we are.

They're not.

[Krishna]

Laura, you mentioned that I use 401K instead of Roth 401k. My reasoning for using Roth is because the money I have there is non-taxable when I retire, so I have a much clearer picture of what I have when I do reach that age. I was told that taxes could go up in future.

Am I wrong on this?

[Linea_Norway]

Yes, I am surrounded by people with multiple homes, cars, timeshares (which is bad anyway), boats etc. I dont know how they could afford all this, assuming they are saving like we are.

With their high salaries they can probably get high loans. I have understood that other people find it very normal to have a loan not only on their home, but also on a second home and on a car. Cars can also be leased, which is also not a smart financial thing to do in most cases.

[MoneyizHere]

Laura, you mentioned that I use 401K instead of Roth 401k. My reasoning for using Roth is because the money I have there is non-taxable when I retire, so I have a much clearer picture of what I have when I do reach that age. I was told that taxes could go up in future.

Am I wrong on this?

Adding up your expenses you are spending at ~$34k a year.  With standard deduction - at retirement if your expenses do not change - you will be taxed on only $9600 @ 10% ($960) if current deductions/tax rates are in place. 
Right now - you're likely being taxed at 22% marginal tax rate.  So the $ you are putting into ROTH is costing you $196/paycheck.  Chances are that the standard deduction will increase with inflation along with tax brackets.  So you'll actually be in a lower tax bracket retirement than current. 

I would note that you should make sure for the entire year of 2019 (since you started new job recently) - that you should not exceed 19k total combined contribution for your 401k's this year - as you're limited to only $19k for the year.  You may be over-contributing @ $890/pay check

 

[Laura33]

Laura, you mentioned that I use 401K instead of Roth 401k. My reasoning for using Roth is because the money I have there is non-taxable when I retire, so I have a much clearer picture of what I have when I do reach that age. I was told that taxes could go up in future.

Am I wrong on this?

Yes.  At $160K, with no kids or mortgage or other deductions, you are currently in a high tax bracket (looks like 24%).  The traditional 401(k) puts all of that extra 24% in your pocket right now to save towards your other goals.

You are right that if you are in a higher tax bracket in retirement, then the Roth is probably better now.  First, that is unlikely, if you keep to your current expense levels.  But even more importantly, that simplistic analysis overlooks the fact that you have the power to control your taxes when you retire, based on what pots you draw from.  Right now, you have a bunch in Roth and a bunch in after-tax investment accounts.  But remember that you can also earn income all the way up to the standard deduction (currently around $24K) without paying any federal taxes.  Where does that come from?  If you withdraw money from your Roth, that is tax-free, so that doesn't count.  If you sell stocks from a traditional account, that is capital gains, which is taxed separately -- and will also be free of tax if you keep your reported income before certain levels!  So that is going to leave you a lot of space with withdraw money from a traditional IRA while still staying below the standard deduction.  This allows you to use money in a traditional IRA without ever paying taxes on it.  So you always want to have enough in a traditional account to maximize your "free" tax space every year -- at least until SS kicks in and pushes you over the standard deduction.

In other words, don't focus on what your marginal tax rate is, because even if you decide you want to spend a lot when you retire, and even if marginal tax rates go up, you will still have a lot of flexibility to draw money from the different accounts to manage how much income you actually need to pay taxes on every year. 

(In the interests of full disclosure, I should note that DH and I are currently doing Roth 401(k) contributions.  But that is because we want that same flexibility to manage our tax rates in retirement -- we are in the opposite situation from you, in that we have years where a traditional IRA/401(k) was our only option, so now with almost everything in "taxable on withdrawal" accounts, we want to counterbalance that with some in a Roth to have some source of tax-free income in the years we decide we need it for tax purposes.)

[Krishna]

Yes, I am surrounded by people with multiple homes, cars, timeshares (which is bad anyway), boats etc. I dont know how they could afford all this, assuming they are saving like we are.

With their high salaries they can probably get high loans. I have understood that other people find it very normal to have a loan not only on their home, but also on a second home and on a car. Cars can also be leased, which is also not a smart financial thing to do in most cases.

Hi Linea,
    Thank you for your help! I have also heard that Leasing is bad and so I saved up money and bought my car. But, I do see a lot of very successful people who lease their car. Especially among the Asian community most people lease their car. Why is that? I am not trying to disagree with you but I don't know why it is a bad idea. Can you please explain?

[Krishna]

Laura, you mentioned that I use 401K instead of Roth 401k. My reasoning for using Roth is because the money I have there is non-taxable when I retire, so I have a much clearer picture of what I have when I do reach that age. I was told that taxes could go up in future.

Am I wrong on this?

Yes.  At $160K, with no kids or mortgage or other deductions, you are currently in a high tax bracket (looks like 24%).  The traditional 401(k) puts all of that extra 24% in your pocket right now to save towards your other goals.

You are right that if you are in a higher tax bracket in retirement, then the Roth is probably better now.  First, that is unlikely, if you keep to your current expense levels.  But even more importantly, that simplistic analysis overlooks the fact that you have the power to control your taxes when you retire, based on what pots you draw from.  Right now, you have a bunch in Roth and a bunch in after-tax investment accounts.  But remember that you can also earn income all the way up to the standard deduction (currently around $24K) without paying any federal taxes.  Where does that come from?  If you withdraw money from your Roth, that is tax-free, so that doesn't count.  If you sell stocks from a traditional account, that is capital gains, which is taxed separately -- and will also be free of tax if you keep your reported income before certain levels!  So that is going to leave you a lot of space with withdraw money from a traditional IRA while still staying below the standard deduction.  This allows you to use money in a traditional IRA without ever paying taxes on it.  So you always want to have enough in a traditional account to maximize your "free" tax space every year -- at least until SS kicks in and pushes you over the standard deduction.

In other words, don't focus on what your marginal tax rate is, because even if you decide you want to spend a lot when you retire, and even if marginal tax rates go up, you will still have a lot of flexibility to draw money from the different accounts to manage how much income you actually need to pay taxes on every year. 

(In the interests of full disclosure, I should note that DH and I are currently doing Roth 401(k) contributions.  But that is because we want that same flexibility to manage our tax rates in retirement -- we are in the opposite situation from you, in that we have years where a traditional IRA/401(k) was our only option, so now with almost everything in "taxable on withdrawal" accounts, we want to counterbalance that with some in a Roth to have some source of tax-free income in the years we decide we need it for tax purposes.)

Thank you Laura33. Your perspective makes a lot of sense! Any other advice you can give me?

[Linea_Norway]

Yes, I am surrounded by people with multiple homes, cars, timeshares (which is bad anyway), boats etc. I dont know how they could afford all this, assuming they are saving like we are.

With their high salaries they can probably get high loans. I have understood that other people find it very normal to have a loan not only on their home, but also on a second home and on a car. Cars can also be leased, which is also not a smart financial thing to do in most cases.

Hi Linea,
    Thank you for your help! I have also heard that Leasing is bad and so I saved up money and bought my car. But, I do see a lot of very successful people who lease their car. Especially among the Asian community most people lease their car. Why is that? I am not trying to disagree with you but I don't know why it is a bad idea. Can you please explain?

The only bad thing about is, is that it costs more than owning a car yourself. You are most likely leasing a brand new car for 3 years and then get another new car. In addition to driving very new cars that have their highest value loss in their first years, the lease company needs to earn (good) money on you as well. And when the three years have past, the car is expected to have a certain amount of visible traces of use. If you damaged the car more than that, you will pay an extra high price for that.

Using your own new car all up or driving second hand cars you own, saves you a lot of money, compared to leasing.

Leasing could be an idea, if you need a car only for a certain period. But in that case, you could also have bought a second hand that you sell afterwards. Most people who lease like to drive new cars every few years.

[jeroly]

Leasing a car also requires you to buy full insurance (collision, comprehensive, low deductibles), which is more insurance than a mustachian would typically want to buy.  Since the expected value of purchasing insurance is negative, you're not only paying more but you're 'losing' more on average after taking claims into account.

Moreover, leasing a car is typically done in such a way that the actual cost of the car is hidden - 'you can lease this for just $199/month' while the saleseman waves away the up-front payment, the expected retained value at the end of the lease, etc.  This typically has the effect of making the underlying cost of the car higher than if you were to pay cash - you have a tougher time negotiating, comparing lease options across dealerships, etc.