[I hesitated before publishing this post because of the real-life finances contained herein but, in the spirit of putting myself out there, I decided to go ahead. My current financial situation can be attributed primarily to luck and happenstance, and I feel very fortunate to be where I am. Please forgive anything that may seem like a humblebrag; my true intentions could not be farther from that.]
Confession time: I am lazy at heart. Sure, I’ve learned some tricks to motivate myself over the years, but I am still that kid who watched Rocky I-V—back-to-back—one Saturday in 1993, only peeling myself off the couch to address critical bodily functions.
It’s not pure laziness, but a calculated laziness.
Many with frugal tendencies have one or two things on which they allow themselves to spend. Some crave a particular material object—house, car, clothes—and others prefer something more experiential—food, wine, travel.
I choose to spend on two things: travel, and what I think of as “budget drift.”
Budget drift means a couple of things to me: not keeping close tabs of what I spend, and not caring—both within reason. I trust that I will not drop $10k on a diamond-studded belt or $3k on a 22-karat gold thread dog mattress, nor do I sweat picking up a $200 tab at a restaurant. I’m not thrilled with an unexpected $2000 car repair bill, but I won’t eat ramen for a month to compensate.
As a result of budget drift—not tracking spending and being fairly loose with the purse strings—I inevitably waste some money. But on the bright side, I worry less about hitting specific monthly budget targets, which, knowing myself, would be a source of stress.
I euphemistically think of this tradeoff as “paying for the luxury of budget drift.” Some mental gymnastics, but it works for me.
My very first big-boy budget
Many moons ago (about 70), as I began my first job after residency, I sat down with pay stubs and bank statements to create a simple budget based on 3 data points:
- Money coming in
- Money going out
- Desired nest egg for early retirement
Assuming numbers 1 and 2 hold steady from year to year (I reassess them periodically), the math is pretty straightforward. I need only choose my nest egg target number. More on that in a minute.
I hear the screams: “How can you know your nest egg number if you don’t know annual expenses?!”
My answer is that I don’t know precise annual expenses, but I know ballpark figures, and there’s a good chance those numbers might change in 5-10 years. So I make an educated guess.
Setting ourselves up
I sort of stumbled into a job that pays well, and then chanced upon an interest in personal finance, which has allowed me to careen toward early retirement. Some calculated choices along the way have also aided my family’s approach to financial independence.
- High paying profession. My parents never earned more than $50,000 per year throughout most of my childhood, so I am flabbergasted and supremely grateful that our household can earn that much in a month. I don’t think it’s a stretch to say that most doctors earn high salaries. I would be lying if I said it wasn’t a factor in career choice (not the only factor, of course).
- Dual-income household. Related to #1, but worth a separate mention. Both my wife and I work, realizing that the extra cash comes with strings attached: the need to pay child care, and the sometimes crazy juggling act that accompanies dual-working-parent households.
- Keeping our “starter” house. We purchased our current home while both still in residency, and paid it off years ago. It was cheap, costing us less than $200k in our LCOL area. Over the years, we remodeled a good bit and occasionally cursed its 100-year-old walls, but we are glad we stayed. The lack of a mortgage payment helped create even more laxity in the monthly “budget.”
- Luck. My recent visit to Vegas proves that luck is not always a lady (some advice: don’t spend an hour at the bar before trying to recall the blackjack charts you had memorized). However, fortune has shined upon me at a few other pivotal life moments.
- When I first obtained life insurance late in residency, the broker gave me the hard sell for a pricey whole life policy. Frustration at my own ignorance made me purchase my first personal finance book—and subsequently discover the personal finance blogosphere—before I made any rash decisions (I got term life insurance).
- My wife and I attended state medical schools from 2001-2005, and left with substantial but not staggering student loan debt, totaling around $300k. More, we were both able to consolidate at the crazy-low rate of 1.875%. Compared to what I read about student loans these days (83k per year?!), I feel like we got off easy.
Now for some numbers. I debated whether or not to use my real numbers, and in the end decided to be straight with yinz*. Perhaps someone will find this exercise useful in contemplating a career decision, or in thinking about what is realistic and possible from a savings perspective.
*plural of “you” in the local dialect. Can you name the region?
- Household W2 income (2016): ~$600,000
- Taxes: ~$200,000
- Tax-deferred retirement accounts
- Me: $53,000 ($18,000 elective deferral + $33,000 profit sharing)
- Spouse: $28,000 ($18,000 elective deferral + $10,000 profit sharing)
- Take home pay
- ~$31,000 per month
- Fixed monthly expenses (pre-retirement)
- Discretionary spending
- $31,000 (take home pay) – $20,400 (fixed monthly expenses) = $10,600 “discretionary spending”
- A $10,600 cushion allows our month-to-month budget to vary quite a bit, to say the least. We don’t spend it all on hookers and blow: some is needed for gas, food, entertainment, and travel, and some is donated to charity. Any leftover money goes into our taxable retirement account.
- Total annual retirement savings
- Tax-deferred ($81,000) + taxable: ($120,000) = $201,000
[Edit: We also fund our backdoor Roth IRAs with part of our after-tax money]
- Nest egg target
- To calculate my nest egg, I only really need 2 numbers: my overall projected expenses (fixed + discretionary) and my expected withdrawal rate.
- Fixed monthly expenses (post-retirement)
- Come retirement, many monthly expenses will up and vanish like a fart in the wind, and they will look closer to this:
- Other expenses (post-retirement)
- Now time for some real speculation: discretionary spending. I plan to track this more closely as I approach retirement (i.e. actually look at my budget again). Based on monthly credit card statements, I’ll use an additional $5000 in discretionary spending, meaning a total of $10,000/month and $120,000 annually to cover all expenses.
- Health insurance: The need to purchase health insurance would be an added fixed expense. At the moment, my plan is to maintain a minimum, part-time work schedule and keep employer-sponsored health insurance.
- Withdrawal rate
- An educated guess disguised as an informed choice. I need to provide $120,000 annually. At a conservative 3% withdrawal, that leaves me with a nest egg target of $4,000,000. At 4%, that number becomes $3,000,000. Amazing what a percentage point can do!
- Taxes in retirement
- I will actually need more than my $120k annual expenses to appease the tax man each year. One thing is certain: taxes will be much lower than during my working years. The beginning of an early retirement will be funded from taxable accounts, taxed at LTCG rates. I have yet to sell any taxable assets for a capital gain, so I have some homework to do!
After completing this exercise, I am most struck by what I don’t know—expenses, “safe” withdrawal rates, taxes, and the future in general. Despite this uncertainty, my current assumptions and calculations tell me early retirement could come as soon as 7 years from today.
But a lot can change in 7 years! In 7 weeks, I will have another child, which will alter my “money out” calculus for sure. At a minimum, monthly child care costs and 529 plan contributions will double. If I quit work completely, I will need to factor in health insurance costs. And—as my nest egg approaches the lower target estimate ($3M)—the devil on my left shoulder will start to whisper about that 4% withdrawal rate.
How do you approach your own budget? Are any of my assumptions way off? Please comment below!