You can’t have your cake and eat it too, right? You can either have money in your bank account or take that vacation. You can either have a mutual fund or a closet full of shoes. You can upgrade your kitchen or retire early. Sacrifice is what personal finance is all about, right? You have the couple who spends every dime and enters retirement with little but who had a full life and the spendthrift who never did anything and ends up dying during his last day of work before he gets to spend his millions, right?
What if I said you can have both! Take vacations each year, including some trips few people never even dream of, and yet still have plenty of cash available to provide security. Get that dream kitchen, you still retire at 65 with plenty of money to last out your life. Have thousands of dollars to spend on clothes and shoes each year, yet still have more savings and investments than any of your neighbors.
The way to have your cake and eat it to is summed up in one word – Invest! Here’s how:
1. Set a reasonable percentage of your income aside for luxuries and frills. For example, if movies are your vice and you make $2000 per month, spending maybe $30 per month on movies would be reasonable (just skip the popcorn). Be disciplined with your spending, possibly setting aside cash each month in an envelope if needed to keep yourself rom cheating.
2. Start saving money for investing for your luxuries as well. Start out saving up cash, then move money to a bank account, and then finally send it to a mutual fund company when you have enough to meet the minimums. After that, you can send cash straight to the mutual fund company since most let you put in any amount once you have an account established.
(What kind of funds? You want diversified index funds with low fees (less than 0.5%). Maybe start out with a large cap fund, then add a small cap fund. Add international funds when you’re accounts really start to grow.)
3. For each $1000 you have invested in mutual funds (or in your bank account before you have enough to purchase a fund), add $10 to your luxury fund per month. For example, if you have $3,000 invested, you can increase your movie fund by $30 per month. Note if you’re investing regularly, you can just cut your contributions by the $30 or you can make withdrawals from the mutual fund semi-annually or possibly every three months.
Here’s why it works:
Over long periods of time, stocks will return between 12 and 15%. When you’re withdrawing $10 per month with $1000 invested, you’re making an average of $120 to $150 in the mutual fund per year, but you’re withdrawing only $120 per year. The growth of the stocks in your mutual fund will replenish the money you spend on your luxury. Magic!
But what if you have a string of bad years where you don’t make 12-15%? Well, because you’re spending is linked to how much you have invested, if your funds decline for a few years, you’ll start withdrawing less, allowing your funds to recover. During great years, where you’re making more than 12-15%, you’ll be able to ramp up spending.
The system also works with your psychology to get you to invest more. By increasing the amount you have invested, you get to increase the amount you spend each month. You get rewarded for doing good things. If you get a $3000 bonus at work or $3000 back on your taxes, you think, “Hey, I can invest this and then get an extra $30 per month to spend on luxuries forever!” rather than thinking “Hey, I have $3000 in found money to blow.”
It starts slow, but things start happening faster than you think. Granted, it will take a year or more to get anything, but keep investing regularly and you’ll be amazed at the results. Even if you make nothing from your investments, if you can put aside $100 per month, in five years you’ll have $60 more each and every month to spend as you wish. Add the investment of a few bonuses and contribute more on the months when you have the “extra” paychecks and you’ll be feeling like Rockefeller before you know it.
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Disclaimer: This blog is not meant to give financial planning or tax advice. It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.