story
Our lifestyle was already pretty comfortable and we were saving. I am struggling with how much of this extra cash we should feel good spending on unnecessary-but-joyful splurges such as fancy dinners, cleaning services etc vs how much of this windfall I should just be saving.
I grew up lower middle class and do not have a great financial background.
Here's what I learned to do, that worked for me:
- Make a cool spreadsheet for yourself and run little experiments to see what works. Never trust a single, fixed number for savings, spending, anything. Life and emotions are way more nuanced than that, and part of you (especially the I'm My Own Person Now part) will practically yearn to disobey those unreasonably-fixed orders.
- The spreadsheet should include projections, so you can adjust some numbers and see the results as they would turn out in a year or so.
- When you notice lifestyle-overage issues, or shortfalls, accept it, make adjustments to the spreadsheet logic that may help, and don't scold yourself too much.
- Splurge, always splurge to some degree. Splurge early and often.
- When your splurging is over and you're going "why did I do that, man what a stupid day/week/month" that's the perfect time to head to the spreadsheet and set some very simple guardrails that may be helpful next time.
- Some guardrails that can help a lot are things like automatic reinvestments and automatic withdrawals to places like brokerages.
Just some ideas from my own experience, in case they help. Good luck...and congrats!
I find it incredibly helpful for making sure I’m spending money the way I intend to. It’s very easy to otherwise forget how much is going where.
Edit: the above didn’t really answer your specific question about “how much” to allocate to saving vs spending. Kind of a tough thing to put a number on but save more than spend
Not even bonds/CDs - just a high yield account. It is instantly accessible when I need it.
If and when the market ever drops 30+% and a recession starts to loom (seems pretty close to what's going on now) - I never have to worry will I be okay, what if I lose my job, what if I get hit with some massive unexpected expense.
I have money in the bank to get me through it all. I won't be forced to sell any equity at a time when its worth a lot less, I won't have to change my lifestyle one iota.
That security is worth the potential loss of future gains. I already have a lot in the market anyway and I keep adding more.
I'm also single with no kids so 1+ year in cash looks very different for me vs someone married with kids and all the associated costs. Even so, it's an approach I find very comforting and I hope to maintain when I'm further along.
Also medical bills tend to be twice as expensive as what you'd think they are, so a single medical incident can wipe out a solid chunk of that 6mo net.
If you start spending, you'll keep spending. Once you taste the fancy butter and breakfast on organic non-bleached sourdough, going back to margarine on toast makes you unhappy.
Money, like food, is dangerous. If you're comfortable, more of it just makes you 'fat'. It's harder to dial back to being acsetic later.
However, going through the journey of opulence is something people should try. Buy the expensive chocolates, eat the steaks with gold leaf, sleep at top hotels for absolutely no reason, buy flights to visit the crowded wonders of the world. Just manage expectations that this indulgence is not the peak of your life, but rather a low point.
Once you get that out of the way, use the money to fund activities that will add to your well being. Careful with adding stuff to your life. Ultimately you will need to take care of it. Many people become slaves to it and the more you have the more you will have to take care of.
If you have money left after paying off debt, pick a % of the temporary windfall that you are comfortable spending and spend it (doesn't matter what categories you want to spend them as long as they are meaningful to you).
Take the remaining and save it. Since you say you are already saving, just add this on to those same saving instruments.
You can apply this principle to any incremental dollar received over your average base income eg: annual raises, bonuses, cash gifts, winnings, inheritance etc.,
Your saving (or investment) pattern i.e., which savings/investment instruments you choose depends on your risk profile.
You'll almost always be better off putting your extra cash into index funds instead of overpaying a mortgage.
Index funds historically return ~7% long-term, while your mortgage will likely be 3-5%. By overpaying a mortgage, you're missing out on an extra 2-4%: it's better to pay ~4% in order to get a gain of ~7% elsewhere.
Not to mention that every cent you put in to your mortgage is now locked in to your home equity, meaning it's difficult to access that money if you need it. You can sell your stock holdings and have the cash in a matter of days. Accessing the money you put in to mortgage repayment probably means taking out a HELOC or similar, which takes time and requires getting approved for the loan. If you're in a particularly bad situation, this might not even be plausible. And you'll pay extra interest for the privilege of accessing your own wealth.
On top of all of that, the tax implications are bad too. Long-term capital gains rates are low. Mortgage interest you pay is deductible. You lose both those benefits by overpaying your mortgage instead of investing the cash.
Of course, in fairness, early repaying a mortgage is a guaranteed return of 4%, while investing in the markets carries risk. However, in OP's situation—where they likely won't need any of this extra cash on short notice—you can ride out down markets and sell once they've recovered.
Also, people often say that you shouldn't invest money that you don't need in less than five years. The present time is a good example of that. So, treating securities investments as liquid in periods smaller than that is dangerous.
Assessing potential risk is just as important as assessing gains.
What exactly is the "much higher" risk of having vs not having a mortgage? There shouldn't be any management overhead; put it on autopay and you don't need to think about it. I'm guessing you mean the risk of default in the event you find yourself unable to make the monthly payments, and consequentially losing your house.
Sure, the type of person who thinks solely in terms of monthly payments and wins a big chunk of change in the lotto would be well-advised to pay off their mortgage because (speaking in generalizations) they aren't making great financial decisions in the first place.
If you manage your finances prudently, I don't see simply having a mortgage as a major factor when comparing the risks of investing excess cash vs paying down the mortgage.
In a nightmare scenario, where you've invested all your excess cash and then find yourself unable to make mortgage payments in a down market, you still have the investments to draw on. Sure, you may be rather unhappy about taking a 20% haircut every month to make your mortgage payment, but you won't lose your house.
Plus, you'd still have other options in this scenario. Maybe you can negotiate temporarily reduced or interest-only payments. After all, your bank would probably prefer to not risk losing a sizeable chunk of their principal in a foreclosure. In a more systemic crash, maybe there's government assistance, deferment, or the like available (eg see 2008's https://en.wikipedia.org/wiki/Housing_and_Economic_Recovery_...).
And just because one doesn't have a mortgage doesn't make you immune to the risk of losing your home. You're still on the hook for property tax payments, and failing to manage those will end the same way.
Of course, this all assumes you're otherwise making good financial decisions anyway. Your mortgage should be affordable when you're making 100% of your normal and expected salary, and that you haven't bought too much house because you suddenly find yourself making 200%.
We should also understand that not everyone approaches personal finance the same way. I simply don't view a mortgage as some kind of existential stressor, and cannot relate to the "emotional burden" you allude to. It's just one other line item in the budget.
On the other hand, my other half hates even thinking about finances, and would certainly get anxious thinking about and trying to manage this kind of stuff — that's why I deal with it :)
For someone like that, I can understand how eliminating a mortgage can have value to them, for the reasons you describe. However, we must admit that this isn't exactly a rational thing, and it's not doing anyone any favors to pretend otherwise.
Let's run some basic numbers:
With a $1m loan at 4% APR over 30 years, you will end up paying $719k in interest.
This $1m loan will have a monthly payment of $4,774. Let's say you were to double your monthly mortgage payment, and pay $9.5k every month. This would get you paid off in ~11 years, and reduce your total interest paid to $232k, a 'return' of $487k over a decade.
On the other hand, if you paid your mortgage for 30 years and you invested your extra $4,774 (assuming VTI's average historical return of 9.81%), you'd end up with $10.5m, a return of $8.8m over 30 years.
Now contrast with paying off your mortgage in 11 years and then investing $9.5k every month for the following 19 years. You'll end up with $6.4m, a return of $4.2m.
$487k in interest savings + $4.2m of investment returns = $4.7m total return
Is paying your mortgage off early really worth $4,100,000 to you?
1. Don't make any sudden changes! Think for a least a month before making any big purchase, sometimes it still is desirable after waiting, sometimes it is not! You got this far without it so far, so another month isn't a big deal.
2. Use a tool like projectionlab.com or a spreadsheet to calculate how much you want to be saving for retirement. If you're maxing out tax-advantaged accounts that is pretty good already, but it is good to have a target for how much to save each year on top of that.
3. Try to keep your "burn rate" low. I think it is better to try and keep your long term recurring costs based off of your old salary as long as possible. Pay cash for any fun things, so if you lost your job tomorrow you don't have big obligations like a huge mortgage or lease payments.
The term I heard is HENRY - High Earner, Not Rich Yet! A lot of people spend it as soon as they make it and never accumulate wealth.
Good dinners are more affordable than fancy ones (even if you eat out for both, you get more for your money at an "average" restaurant than a top class one that exists only to show other people how much money one has).
I'd mainly focus on the things that take up at minimum 1/5th of your lives: Bed quality is nice to improve, keyboard/mouse/screen/computer, shoes, etc.
whatever amount spent, just make sure your savings are always increasing, the faster the better, but don't feel the need to over-do it.
but past that, invest a portion of your savings, since banks rarely meet inflation rates.
Index funds, housing, crypto if you feel daring, etc, don't invest too much (especially if monkeypox becomes a full-blown thing), but also don't invest too little, (or you are basically losing money over time)
and then through that, your retirement will arrive earlier
Maybe enjoy some extra travel but otherwise I try to be pretty anti-consumption soas not to get swept up in the hedonistic treadmill involved with keeping up with the Joneses.
I’m not in the extreme thrift camp but we have no debt aside from mortgage and aren’t into conspicuous consumption. Our van is an 03.
