I have worked at Facebook and lived in San Francisco for a few years and met an unfortunate number of highly paid people who don’t save a dime. Mostly because they have no idea what to do with extra money and are confused about investing.
It’s not really that complicated. Spend less than you make, save the rest, and invest it wisely. But what does that mean in practice?
You don’t need a high income to get started: I started doing most of this 15 years ago when I mowed my neighbors’ lawns.
Start pretending that each paycheck is 10% smaller. Or do what I do and pay yourself a fixed amount of money out of each paycheck and give yourself raises when you need them — not when your company decides to give them to you. My income has gone up a lot over the past few years but I’m still paying myself basically the same amount I was two years ago.
You can also do what I used to do, which is to pay yourself first. That means when you get a $1,000 paycheck the first thing you do is save $100. It’s rare but at times I did this even though it meant I was unable pay off my whole credit card for a given month. To me maintaining this habit is more important than a few dollars in interest charges.
Treat found money like it’s money that you earned. If you get $1,000 bonus or inheritance take a piece of it and do something really nice — this could even mean just buying yourself an ice cream and thinking about how awesome that found money was. Then save the rest.
Don’t treat money as a status symbol
Money is points, money is ability to pay for experiences, and money is absolutely power and independence. But money is not useful to impress people. No one cares about how much money you paid for something. If you buy expensive things people will generally be happy for you or they might think you’re a jerk, but they will rarely be impressed 1.
Sell stuff you don’t need
I’ve started tracking every major purchase I make in a spreadsheet and the items that aren’t useful after a few months get sold. In aggregate I’ve sold more than $10,000 worth of cameras, electronics, clothes and luggage over the past year and gotten 80% of what I paid for back from it. Losing $2,000 isn’t great — but at the same time effectively renting a $2,000 camera and $1500 worth of lenses for nine months for $400 was awesome. Having all that money back in my savings accounts instead of looking at me every day in the form of things cluttering my apartment is awesome.
In general try to buy either high end or low end products. High end products can be bought easily used and they can be resold for 60-70% of their new price or sometimes even more than their used price. High end products are also generally more liquid — I’ll write more about this later.
Mid and low end products maintain almost none of their value, so minimizing upfront cost is crucial. The same is true of most clothes: you’ll probably have to sell them for pennies on the dollar or give them away.
Where do you put all this $$?
Online savings accounts are a fairly good place to park cash. Check out Ally Bank, they have decent rates and a good design. The general wisdom is to get enough in cash to cover your basic expenses for six months, then pay down all your debt, then start saving for bigger things.
At first I found six months of living expenses unbearable so I settled for having a few thousand in cash and knowing that I could raid my retirement accounts if things got grim. Today I keep about 6 months in cash or very liquid assets 2.
Today all my money is in online banks. Retail banks are horrible, they charge all kinds of hidden fees, and they don’t pay enough interest. Not having a retail bank only becomes a problem when I need to get a bank check or deposit cash. In these few situations I’ve had friends help me out or I’ve opened an account and closed it a month later3.
Retirement savings is in general overrated. There’s a really good chance you’ll be dead before you can spend it and from now until you retire it doesn’t give you the freedom that working capital does.
Try not to make yourself short-term broke by saving for retirement. For my first five working years I saved 15-30% of my income into retirement accounts depending on what else was going on in my life but I never had enough cash around for downpayments or short term financial moves.
Last year I stopped saving for retirement entirely and started buying taxable investments. It’s empowering to have cash available when you need it for big purchases but it takes some responsibility.
So I will advocate balance. Save for retirement but don’t try to max your accounts out just for the principle of maxing them out. When you do save for retirement learn about prioritizing investments.
I agree with the general rules: 401k to get your match, Roth IRA if you can do it, and savings for near-future goals and freedom4. After that feel free to pour the rest into your 401k.
If you aren’t going to save much for retirement the main thing to concern yourself with is tax efficiency. Some investments cost more than others due to weirdness in tax laws. This is too complicated to get into detail but here is a good article to get you started.
Basically try to buy stock index funds, my favorite is Vanguard Total Stock Market5. I prefer to buy it directly through Vanguard because there are no fees, the customer service is extremely helpful and works for me6, and I can direct-deposit my paycheck into them.
If not index funds then buy individual stocks, and in either case try to hold them for more than a year to avoid short term capital gains.
These days interest rates are low enough that you won’t owe meaningful taxes on cash savings. When you’re only making 0.85% interest on taxable cash savings, and you have six months of cash sitting around, the taxes just aren’t worth worrying about.
Managing all the numbers
I’m a huge fan of the software You Need a Budget for spending and cashflow. A subject for later writing is that I have 6 credit cards right now, some of them with spending limits to hit in order to get free flights, and this software is invaluable for letting me optimize and track everything without going insane.
YNAB also provides good insights into past spending behavior and helps keep me honest with myself.
After all this just try to put your savings plan autopilot and focus on more the more fulfilling parts of life. Soon you’ll have a sizable amount saved and start feeling much more financially secure. On good days you’ll make more from investments than you do at work!
One final note is that giving away money feels great. I used to feel conflicted about this until I setup budget categories in YNAB specifically for random gifts for friends and donations to charity. My favorite charity is charity: water.
I get more way more mental benefit from giving away money than I do from spending it on myself.
- Vanguard is a mutual fund company owned by their investors6 and they offer high quality funds and advice on investing. The Bogleheads are strange people obsessed with Vanguard who wrote an awesome book and wiki. The Bogleheads Wiki is a great place to start. If you’d rather read a curated book check out the The Bogleheads Guide to Investing. It’s investing in plain English for normal people.
- Your Money or Your Life. A classic on breaking bad spending habits and treating money like a store of value instead of status. Do the real hourly wage estimate and be shocked that you don’t earn nearly as much as you think. Warning: The latter half of the book is kind of new-agey and has some dated advice about savings bonds. The US Government gave up on saving bonds a decade or two ago and they are rarely optimal investments anymore.
- All About Asset Allocation. When you have more than 1 year of income saved read this one, before then asset allocation isn’t very important. This book will teach you more than you ever wanted to know about how capital markets work and how you probably can’t beat them.
Strictly speaking this isn’t always true. In rare situations people are impressed by money. Error on the side of caution. ↩
Cash, BitCoin, and some incredibly non-volatile stocks. The cash is enough to get me through emergencies but if I was unemployed for a long time things are a bit staggered in volatility. In 2007-09 everything but cash took a huge nose dive so it’s really not worth thinking of anything other than cash as being safe. We will see how BitCoin performs the next time the economy crashes. ↩
Closing accounts isn’t that hard. First get all the money out of the account and then use the secure message center to tell them you are moving abroad, want to close the account immediately, and are not interested in special offers. If that fails call them and say the same thing. ↩
I actually have a mutual fund playfully called my war fund. It’s for the situation where I need a large amount of money before retirement: buying a house, voluntarily taking time off work, or in rare cases buying obscure investments. ↩
My favorite fund if you have less than $3,000 to invest is Vanguard Star which has a $1,000 minimum — but switch it to Total Stock Market as soon as it breaks $3,000. ↩
Vanguard is the only mutual fund company owned by their investors. So their interests are aligned with yours. Most other mutual fund companies are owned by other people, so they want to take as much of your money as they can. ↩ ↩2