Andrew Goldman has been writing for over 20 years and investing for the past 10 years. He currently writes about personal finance and investing for Wealthsimple. Andrew's past work has been published in The New York Times Magazine, Bloomberg Businessweek, New York Magazine and Wired. Television appearances include NBC's Today show as well as Fox News. Andrew holds a Bachelor of Arts (English) from the University of Texas. He and his wife Robin live in Westport, Connecticut with their two boys and a Bedlington terrier. In his spare time, he hosts “The Originals" podcast.
Remember Steve Martin’s classic bit about how to be a millionaire and never pay taxes? “First, get a million dollars,” he instructed. It’s true that the absolute best way to make a million is by inheriting it, but sadly, being born into wealth is not something you can learn how to do at college. The rest of us must make our million through our own blood sweat and tears. We can’t guarantee that after reading this guide that you’ll be able to join the millionaire’s club, but we’ve got some tips that will serve you well on your path.
What to do before starting on your million
There’s an old Chinese proverb that says: “The best time to plant a tree was 20 years ago. The second best time is now,” but we’re pretty sure if compound returns existed back then, they would have ditched the phrase “plant a tree” in favor of “invest.” It’s hard to overestimate how important an ingredient time is in investing, so we’ll just show you. Assuming a reasonable investment return of 7%, in order for a 25 year-old couple to amass a million by age 65, they’d invest $381 a month. If they wait to start investing until age 35, they’d have to invest $820 a month to get that same million. If they wait until 45, they’d have to stash a whopping $1,920 a month to get to the goal. That means the 45 year-old couple would have to come up with 67% more money to total the exact same final million as the couple that began investing at 25.
Here are a several different ways to get to a million. In one scenario, you’ll put your money in a high interest savings account with a 2% interest rate, and another your investment will go into an equity heavy portfolio with a 7% return on investment, both with monthly compounding. (The good news, as you’ll find out later, is that your employer may be able to help turbocharge your retirement savings and get you to your million much, much quicker.)
|Years to invest to reach your million||Required monthly investment (2% interest)||Required monthly investment (7% return on investment)|
Now that it’s clear how important investing early is, how are you going to make that happen?
Choose a job that allows you to invest early
Look no further than J.K. Rowling, Kevin Hart and David Hockney to illustrate the old saw, do what you love and the money will follow. But this trio are outliers in three not particularly well paying industries—writing, comedy, and art. If your heart tells you that your soul will die if you can’t share your poetry with the world, by all means, follow your bliss. But if you’re smart and you’ve yet to choose a career and know that your primary aspiration is to be financially comfortable, you can choose the kind of career that will put you in a position in which you’ll be more likely to reach your goals. According to Payscale’s recent College Salary Report, pursuing an education in STEM will pay off financially. Atop their list is petroleum engineering, a field which can pay close to $100,000 not long out of school and $176,000 mid-career (and also boasts pretty high job satisfaction ratings.) Engineering ranks pretty high as well. If you want to plot more thoroughly, seek out one of the universities whose graduates on average make more. Since investing early and benefiting from years of compound returns is key to any plan to put away a mil, consider a career that will allow you to save through your twenties.
Pay down debt first
Debt is like the hamster wheel of getting to that million. Even if you’re putting a decent amount of money away, but you carry a significant amount of consumer debt (not a mortgage), you’re likely not really getting anywhere fast. Think about the APR you have to pay on a credit card for instance. Are you paying 15%? Maybe as much as 20%? Now think about the returns that you might expect in an average year from stock market investments. Between the years of 1950-2009, the stock market grew by 7% per year. 20% is way more than 7% right? If you’re serious about the million, reduce the debt you carry to zero and resolve to pay your cards off monthly.
Create an emergency fund
Now that you’re debt free, make sure you stay that way. The easiest way to find yourself suddenly in debt is by not planning ahead for emergencies—an unexpected loss of a job, an illness, or having to move in a hurry because a Cessna flew into your house. Make sure you have access to between three and six months of your total living expenses put away in a safe, easily-accessed place, like a high interest savings investment account. An emergency fund will prevent you from having to rely on high interest credit cards or, God forbid, break into your retirement accounts and pay the penalties that can come with that maneuver.
Start on your million by l
Ready to start on that mil? Great. The one decision that’s arguably as important than how you invest is where you invest, as in the type of account you choose to put your money in. Taxes are like investment termites — they’ll chew clear through your investment if you let them. Ideally, you should do anything you legally can to lower your tax bill.
We’ll assume that you’re trying to put away this million for a day when you aren’t actually earning an income—aka, your retirement. The government has created programs to encourage you to save by giving you tax breaks on retirement savings, and your employer very well may do the same in the form of retirement matching funds. These are two sources of free money that can turbocharge your mil making engine. Spend a few minutes fiddling with a retirement calculator like this one to discover the power of compound returns and employer contributions. Let’s take for example a hypothetical 25 year old making $50,000 a year, assuming an annual 3% cost of living raise. If this person put away 10% of their salary every year, by age 65, they would have personally contributed $388,316 pre-tax dollars. Assuming a very conservative 5% rate of return, compound interest would have turned that into more than $969,000. Now add a 50% employer match to that sum and you’d end up with $1.454 million—investment gains helped along by those employer contributions would have netted you $1.065 million from your investment!
For this reason, you might want imagine your future million as one of those cool champagne towers and your investment as the bubbly. Think of tax-advantaged accounts with employer contributions as that very top cup, and only once that one’s filled, or maxed out, should you invest in any other types of accounts.
Pay Yourself First
Pay yourself first is a philosophical way to approach savings that states that no dollar is to go anywhere—be it rent, entertainment, or food—until you’ve first put money towards your goal of become a millionaire. Modern auto-transfers will make this a heck of a lot easier than it might sound. Most employers will allow you to make direct deposits of pre-tax dollars into your retirement accounts; freelancers can arrange automatic monthly debits that go directly from your bank account into personally administered retirement or investment accounts.
Save or Invest?
Investment in stocks is naturally risky. Money’s precious so who would blame you if you wanted to make sure there was no chance it disappeared. So in order to get to a million should you put money in a savings account or invest it?
Unless you’re going to need to access your money within a very short period time, like fewer than five years from now, you should absolutely invest.
High interest savings accounts and CDs are fantastic places to park money that you’re going to need in the short term. And shopping around will pay off since there are some newer players in the industry who offer considerably better interest rates than many banks. But since inflation rates are currently hovering at around 2% annually, and few savings products offer more than 2% APR, if you save for several years, you may find that however much you put away, it’s actually decreasing in value owing to inflation.
There is a silver lining about stock investment and risk that might put your mind at ease. As studies like this one demonstrate, though stocks may be extremely volatile in the short term, historically, the risk reduces over time and investors who hold onto stocks for more than 10 years will be rewarded with higher returns that offset any short-term risks. Most investment professionals recommend portfolios containing a mix of stocks and bonds. The longer the investment horizon, the higher percentage of stocks relative to bonds. Unless you inherit your mil from a rich uncle, your path to becoming a millionaire will likely involve stock investments. But which stocks?
Here is a totally uncontroversial opinion. If history is anything to go by, one of the most reliable ways to turn not-a-million into a million dollars is by investing in the stock market. But what stocks should you have bought? Chances are you’ve heard stories about some dude who invested a thousand bucks in Amazon in 1997 who now lives in a castle. What you don’t hear about as much, however, are the stories about some other guy who went all in on Snapchat and now lives in his mom’s basement. Stock picking is extraordinarily hard. Famously rich stock picker Warren Buffett has spent the last decades discouraging pretty much everyone not named Warren Buffet from trying to make money picking individual stocks and in fact, has encouraged his own heirs to invest the lion’s share of their inheritance in low-fee, highly diversified stock funds.
Besides taxes, there’s going to be another Big Bad Wolf that’s going to attempt to divert you from your path to millionaire-hood. Fees assessed on your investments. These fees come in many forms, though the two biggies that you’ll want to watch out for are investment management fees and Management Expense Ratios (MERs). Investment management fees are the percentage of your entire portfolio that an advisor charges annually to manage your money. MERs are the fees that a mutual fund or ETF issuer will assess annually on the product that your advisor buys on your behalf. These operating costs are baked into their funds. For example, if Fund Manager Janice charges you a 1% management fee and buys for you an assortment of ABC Investment funds that all have 2% MERs, you’ll be surrendering a full 3% of your entire portfolio every year to Janice and ABC Investments, regardless of how well the investments perform. 3% might not sound like a huge number, but considering that between the years of 1950-2009, the stock market grew by 7% per year, it could mean saying goodbye to half of your gains in decent years, and losing ground in bad ones. Fees are like little investment vampires and left unchecked, they’ll suck every drop of gains in an account. One Toronto-based investment advisor showed that a fee of just 2% could decrease investment gains by half over the course of 25 years. And studies regularly demonstrate that fees are directly predictive of returns in a very simple way; the higher the fees, the lower the returns. So if you want to get to that million, you should start thinking of yourself as the Van Helsing of fees, driving a stake through the little buggers whenever you can.
How to reduce the fees you pay
One particularly effective way to cut fees is to concentrate on investing in funds with lower MERs. Mutual fund managers may say you that their expertise is worth the fees, but, on the contrary, studies show that over the long term, the vast majority of professionals paid to pick stocks fail to outperform the market as a whole. So ideally you might seek average stock market results but reduce your fees as much as possible. This is easily attained by purchasing ETFs, bundles of different equities that trade on exchanges just like stocks, and often mirror stock indexes like the S&P 500. ETFs’ MERs are generally a small fraction of those of those of actively managed mutual funds. The other way to effectively reduce fees is by cutting investment management fees. A management fee of 1% is common among financial advisors.
A relatively new entrant into the financial advisory world are what’s called automated investing services, also known as robo advisors, which tend to create portfolios of low-fee ETFs for their clients for a fraction of the fee of a typical financial advisor. Do your research. Some robo advisors may be all digital and offer limited if any human support for clients. At the other end of the spectrum are those that offer unlimited human telephone support for every client.
Making your million in real estate
Watch enough cable TV, and you’ll assume that anyone with a tape measure and a barrel of hair gel can make millions flipping real estate. In reality, it’s a business with huge risks that have been known to ruin unwise speculators). But home ownership has also been a common place for regular folks to own something that increases in value, getting them to approach the magic millionaire mark. And indeed, home ownership has long been a kind of forced saving plan for undisciplined investors.
However, as the global financial crisis of 2007-2008 taught us, real estate investments aren’t considerably less volatile than stock investments, and the upside doesn’t historically match that of equities. Mega-successful Canadian entrepreneur Joe Canavan, who built GT Global (Canada) and Synergy Asset Management from scratch, found he could make a lot more money investing in equities than real estate and has since become a renting-over-owning evangelist. When adding up the hidden fees of real estate, like property taxes, insurance, and necessary maintenance, he realized that he could amass much more money in the stock market than owning property.
On your road to a million, there is absolutely something to be said for diversification of investments, so those who would like to invest in real estate without having to pay a mortgage, fix leaky toilets or answer calls from whiny tenants might consider investing in real estate investment trusts, or REITs, companies that sell shares in their various real estate investments. REIT investors can spread their risk among dozens — or even hundreds — of REITs through REIT ETFs, of which there are literally hundreds to choose from. REITs also offer some major tax benefits that neither home ownership, nor investments in stocks or bonds, offer.