Hacking your finances — ordering water instead of cocktails, moving to a less expensive area or hoarding grocery coupons just to save a few bucks — has become a bit of an obsession among Americans, especially millennials, looking to get rich and retire early.
Eating $0.69 ramen and skimping on $8 avocado toast isn't a bad idea ... if you're a broke college student. Once you've graduated and hit your 30s, however, it's hard to frugal your way to early retirement.
Why? Because a couple hundred bucks isn't a life-changing amount. The graph below, which uses data from the US Bureau of Economic Analysis, shows that household savings — or whatever income people have left after their spending — has little effect on boosting wealth:
In 2012, I quit my job in finance and retired at 34 with $3 million. But it wasn't penny-pinching that got me there; rather, it was in large part thanks to my abundance mindset. In the realm of abundance, everything — money, happiness, prestige — is plentiful.
More importantly, those with an abundance mindset make decisions based on the Big Picture. They know that wealth is a byproduct of what they do with their time and money, whether it's investing in real estate or the stock market, working harder so they can get paid more, refinancing their mortgage or starting a side hustle.
Super savers, on the other hand, tend to adopt a scarcity mindset. They make fear-based decisions and avoid taking risks at all costs. They give into lifestyle constraints, move to cheaper cities, choose to rent instead of buy and so on. In other words, they believe everything is limited and that extreme frugality is the only way to get rich.
All those financial gurus who preach that ditching your $5-latte-a-day habit could substantially grow your wealth — and even make you a millionaire, thanks to compound interest — are simply wrong. Let's be realistic: You'd have to forgo a lot of lattes and need a very high annual return to turn those dollar bill savings into $1 million.
I'm not saying you should be wasteful with your money. During the initial stages of my early retirement plan, I stayed in on most nights, ate on an incredibly low budget and shared a studio apartment. But that strategy only lasted for so long.
Based on my own experience — and from what readers of Financial Samurai, my finance blog, have shared with me — here are some potential downsides of trying to frugal your way to early retirement:
First and foremost, adopt an abundance mindset. Know that there is plenty of wealth to go around. Stop putting all your energy into "not spending money" — and start seeking and taking advantage of bigger opportunities:
Prioritize your career. Your full-time job is your winning ticket to early retirement, so find something you enjoy doing and devote as much time to it as possible. Grow your skills, impress your boss and build a strong professional network. Become the best in your field so you can get that raise or, even better, land a higher-paying job at another company.
Aim to max out your retirement savings accounts. This is one of the easiest ways for Americans to build wealth, so focus on maxing out your 401(k), IRA, and Roth IRA. If your employer matches 401(k) contributions, at least contribute that amount. Remember, 401(k)s are pre-tax dollars, which means not only is your company handing you free money, but you're also lowering your tax burden by a dollar-for-dollar contribution into your account.
Invest your savings. Once you've taken full advantage of all your tax-advantageous retirement vehicles, it's time to build your taxable investment portfolio. In my opinion, the two most common asset classes that will really help you build wealth are real estate and the S&P 500. The goal is to make prudent investments that will end up generating money for you on its own, so that you don't have to.
Stay on top of your finances. It's vital that you know where your money is going each month. Try to maintain a fixed budget. Check your bank statements. Use a free wealth management tool to track your net worth, analyze your cash flow and manage your investment portfolio.
All these things will help you progress toward early retirement — at least, at a much faster rate than any budget trimming will do.
Sam Dogen worked in investing banking for 13 years before starting Financial Samurai, a personal-finance website. He received a B.A. in Economics from The College of William & Mary his MBA from the University of California in Berkeley. Sam has been featured in Forbes, The Wall Street Journal, The Chicago Tribune and The L.A.Times.
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