Going from zero to financial independence feels overwhelming. It’s really not. Instead, it’s just a simple process of moving from one step to the next. Here’s a breakdown of every step you need to go through in order to reach it.
1. Moving from negative to positive
You can’t start building wealth until you’re saving more than you’re spending.
For the average lawyer, three years in law school represents a long series of negative months. It might have been tempting not to track your net worth (although you should) because it’s depressing to see your “worth” decreasing each month.
But so it goes. I won’t be the first to tell you that your law school education isn’t free, so you make a calculated bet that you’ll win in the long run.
After law school, at some point you’ll start generating an income that is higher than your spending rate. Surprisingly it might not be your first couple of months of working (security deposits, furniture, moving expenses, etc.) but eventually you reach the tipping point.
This is the first crucial step. When you record a month where your net worth increase for the first time in years, this is a moment to celebrate.
2. Net worth zero
Hitting zero is a bit anti-climatic but is a major milestone on the path to financial independence. When you finally reach the point that if you liquidated all of your assets you could pay off all your debts, you’ve reached ground zero.
For many lawyers, this is a major milestone because it means you’re financially independent from your current job. Obviously you still need to work for money but you no longer have to keep working at that job. If you want to leave law behind and start over, you could do that. Ironically, when you reach net worth zero you’ll probably feel a little less stressed about your job. Now that it’s no longer mandatory, the pressure dissipates.
The other great thing about hitting net worth zero is that going forward you’ll be watching your net worth grow each month. Moving from -$140,000 to -$130,000 never made me feel that great but going from $10,000 to $20,000 seemed a lot more exciting, despite the obvious fact that it’s the same amount of money.
When you hit net worth zero, it’s time to celebrate.
3. Saving your first $100,000
For some people this may happen before you reach net worth zero. Either way, amassing $100,000 in savings is no joke. $100K is a nice round number. It’s six figures of money in the bank and is 1/10th of a million dollars. Even if you still have student loan debt, $100K is the point where you’ve built a solid foundation of saving and spending strategies. Your plan is working. Take a moment to recognize what you’ve accomplished.
4. Paying off student loans
A lot of people employ various strategies when it comes to student loans, some choosing to pay off their student loans as slow as possible while investing the difference. Me? I wanted to get rid of them as soon as possible. Even after I refinanced my law school loans, I still paid them off aggressively. Having zero debt feels great.
Regardless of your approach, I’ve yet to meet many millionaires with student loan debt. At some point student loans become a problem you don’t want to deal with, so you pay them off.
If you started with six figures of student loan debt, paying off your student loans completely changes your perspective on your career opportunities. At net worth zero you could walk away from your job but once the student loans are gone many doors will open that you didn’t see before. If you can remember, it’s like going back in time before you started law school. Anything is possible.
5. Retirement accounts reaching $100,000
Hitting $100,000 in your retirement accounts might seem similar to saving $100,000 overall but there’s a big difference. Since you’re limited to the amount you can put into retirement accounts each year, reaching $100K in the retirement accounts definitely means your plan is working. You’re making consistent progress. Just like with fitness, it’s what you do every day that matters rather than one crazy workout.
Another benefit of $100K in your retirement account? Depending on your age, you’ve probably already saved over $1 million toward retirement even if you stopped contributing today. If you’re 30 years old with $100K in your retirement accounts and you earn a return of around 8% annually, you can expect to double your money every 9 years.
That works out like this:
- 30 years old – $100,000
- 39 years old – $200,000
- 48 years old – $400,000
- 57 years old – $800,000
- 66 years old – $1,600,000
Of course, who knows what $1,600,000 will be worth in 36 years but having $1.6 million will probably still be decent money. So $100,000 in your retirement accounts is definitely worth recognizing.
6. Net worth $500,000
Half a million dollars is a lot of money. It means your net worth is higher than the average American by any age group. Think about that for a second. You now have a higher net worth than the average person in their 60s and 70s who have been working their entire lives. When you hit a half million, you should definitely stop and celebrate. $500K may just be a round number but every dollar after it means you’re closer to being a millionaire than being broke.
7. Net worth $1,000,000
People say a million isn’t what it used to be. Well, okay, that’s true. But $1 million is still a lot of money. And who doesn’t want to be a millionaire? Once you hit $1 million in net worth, you’ve basically confirmed that all of your financial decisions were solid decisions. You’re saving more than you’re spending, your money is working hard for you and now you have a million soldiers out there working for you each day.
If you’re single or with a partner, having $1 million is like bringing a new earner into the mix. Going forward you have your human capital earning a salary and you’ve got $1 million earning a second salary for the family. Using the 4% rule, you basically have $40,000 annually to spend that could last indefinitely. Hitting $1 million is definitely cause to celebrate, even if you may be at the mercy of market forces and have to watch that $1 million retreat if the market doesn’t move in your favor next month. That’s okay. You’ll be back soon.
8. Saving enough for retirement
It’s easy to visualize saving enough money for something like a car. You decide you need $30,000 to buy the car, you save up enough money to buy the car and then you’re done.
It’s harder visualizing saving enough money for retirement but just like other savings goals, you can basically reach a point where you are done saving for retirement.
Let’s say you decide you need a $3 million portfolio in today’s dollars to support from age 65 onward. How much money would you need today at age 35?
Assuming a 5% real return (i.e. after inflation), turns out you’d need $694,132 today to have a real portfolio of $3,000,000 at age 65.
If you’re 40, you need $885,908. If you’re 50, you need $1,130,668.
Plug in your numbers here:
The power of compound interest really is amazing. When you’ve reached the point that your retirement accounts will grow to whatever portfolio you need from age 65 onward, you’re basically done saving for retirement. Every additional dollar you save either (1) increases your standard of living in retirement or (2) moves forward your retirement date so that you could retire earlier.
9. Financial independence at minimum rate of spending
Reaching financial independence is the holy grail. You no longer need to trade time for money. Your investment returns can carry you forward indefinitely. At this point, you can sit on a beach, tell the boss to go to hell or finally put your underwater basket weaving degree to good use.
Financial independence comes in waves. Many lawyers working in high cost of living environments may be contemplating moving to a low cost of living location later in life. So while you may not be financially independent in San Francisco, there’s definitely a point where you become financially independent in Phoenix. At this point, working is optional regardless of your age. From here on out it’s all about the standard of living baby!
10. Financial independence at ideal rate of spending
At this point you have “enough”. You’ve won the game and no longer need to play. Your portfolio not only covers the minimum you’d need to live, it supports your current lifestyle and includes enough money for trips to the Caribbean and Paris. Surprisingly this probably isn’t the $10 million portfolio you thought you’d need. It could be considerably less money and is certainly attainable for most lawyers that get started early on the path to financial independence. Once you get here, you can celebrate pretty much however you want.
Joshua Holt is a practicing private equity M&A lawyer and the creator of Biglaw Investor. Josh couldn’t find a place where lawyers were talking about money, so he created it himself. He convinces the student loan refinancing companies to give you cashback bonuses for refinancing your student loans and looks forward to you discovering how easy it is to track your net worth with a free tool like Personal Capital.
Thirteen thoughts on Roadmap to Financial Independence
First good post in the month of Nov ! Keep them coming..
Wait seriously? Can I stop investing right now? I managed to hit the $100k in retirement accounts mark earlier this year (at 30 years old), which felt pretty good when you consider I’ve only got my first job at end of 2013 and had to pay off student loans.
It never really occurred to me that you’ve got a million once you get to 100k. Definitely something that makes me think.
Yeah. The power of compounding always impresses. If you run that with a 5% real return, it’s probably more like $550K but that’s still a lot of money for simply saving up $100K.
This is a great article about milestones!
I remember 4 above – paying off student loans. I had a few friends over for steaks and made sure to ritualistically consign the last few loan statements to the flames. It felt great!
One other number that was a milestone for me when saving for retirement was when I took our living expenses minus expected social security and our investments at 4% withdrawal exceeded that number – basically your number 8 above, but including social security. The next step was living expenses without considering SS – basically your 9 above, but based on current expenses, not minimal expenses.
One thing that you have to realize is that the numbers are not monotonically upward – they fluctuate. So one month you might be over a milestone – and then a down market might hit.
With that in mind, it never really feels like you have “won the game and no longer need to play” – you just feel a little better and more secure about your odds. For example, it is great to think about having $1MM and making 10% in the market – it is working for you! Depending on how much you put away, at some point around there your investment will be returning about as much as you are putting away that year (or more!) – which feels good. On the other hand, when a 20% down market comes around and you watch years of your contributions evaporate, it can be hard to take the first couple of times. It was brutal in 2008 – it was also pretty brutal in the tech crash. With those experiences in mind, it somewhat undermines the “solidity” of reaching a “milestone”.
You also have to realize that that as your investment value grows, the amount that your current year’s addition comprises decreases – which further exposes you to market fluctuations and makes it more difficult to overcome market fluctuations with further savings. For example, if you have $2MM and are putting away $100K/year, that $100K only represents 5% of the investment value. If the account goes down 20%, you lose a value equivalent to every single dollar you saved for the last 4 years. That can be very hard to take. It can also make it very hard to maintain your savings/investment discipline. It also represents a lack of control that makes the milestones seem less solid.
I remember the first time I calculated that our investments at 4% withdrawal exceeded our lifestyle spending. I mentioned it to the wife and our thought was generally something like “Well, that’s nice. Let’s see what it is next month.” – in the sense that the actual investment value can be variable. As it goes up, you just start feeling better because then the margin
that the investment would have to decline before it would no longer pay for your lifestyle at a 4% withdrawal rate increases – so you feel more secure. Of course, we recently had a 40%-ish decline in 2008, so you don’t feel THAT secure. Also, the uncertainty on the expense side is a concern – health insurance prices have shot up so much and don’t seem to be stopping. Also, are you going to want to/need to help out your kids at some point?
(Keep in mind that by the time you reach these goals, you will likely have kids.)
Just to be clear – milestones can be fun and your article is great! Just for the sake of honesty, for me and for other similarly situated people that I know, it doesn’t give a feeling of “You’ve won the game and no longer need to play” – just an increasing sense of safety/security (which in itself is so very valuable, but not really talked about a lot).
As always, you make a lot of excellent points Managing Partner. In particular I don’t know what it feels like to have a down market completely erase my gains (my portfolio in 2008 was sufficiently small enough that I could still overcome the bloodbath with savings). I can see how that will make it hard to keep up with saving disciplines. That’s one of the reasons why I decouple my monthly savings rate from my monthly fluctuations in net worth. There’s also a negative effect when you think you’re saving so much because the market is gaining when you’re actually not saving nearly as much as you think (but more on that in a future post).
I’m most curious how you commented on the phrase “you’ve won the game and no longer need to play.” You probably know I borrowed that from William Bernstein and his thoughts on exposure to equities at certain points in your investing careers.
Specifically he said:
“A lot of people had won the game before the  crisis happened: They had pretty much saved enough for retirement, and they were continuing to take risk by investing in equities.
Afterward, many of them sold either at or near the bottom and never bought back into it. And those people have irretrievably damaged themselves.
I began to understand this point 10 or 15 years ago, but now I’m convinced: When you’ve won the game, why keep playing it?
How risky stocks are to a given investor depends upon which part of the life cycle he or she is in. For a younger investor, stocks aren’t as risky as they seem. For the middle-aged, they’re pretty risky. And for a retired person, they can be nuclear-level toxic.”
The idea has always resonated with me that you only need to take on enough risk as appropriate given your circumstances and need. As such, I do see reaching a point where I’ve “won the game” and pulling back from equities. Do you see it differently?
I did not know you were quoting anyone – and I certainly agree that you should not take on disproportionate risk. However, the “won the game and no longer need to play” phrase does not really work for me. For example, even if you go to all cash, you are still playing – you are betting against inflation risk.
Digging a little deeper, I see several oversimplifications – and these are just a few:
1) Oversimplification – “stocks” are riskier than “bonds”. Well, it depends on the stock and the bond. Right now, Vanguard’s Long-Term Government Bond Fund
has an average duration of 17.3. That means that if interest rates go up 1%, then the fund will lose 17.3% of its value. It is likely that interest rates will continue to rise – so I would propose that in this case “bonds” are pretty risky. If a retiree invested all of his IRA in this bond fund, it would likely be pretty toxic. Of course, the risk portfolio changes drastically if you look at a short term bond fund – for Vanguard’s fund the duration changes to 2.4.
On the stock side, there is a world of difference between a penny stock and a utility stock index fund in terms of risk.
With regard to Bernstein’s phrasing above, imagine an investor that had been investing in a utility company stock index fund, but then moved to a long term bond fund as they retired in an effort to avoid stocks because they are “risky”. That investor has pretty much missed the risk boat with the specific investments – although the general advice to reduce overall risk with age/portfolio size is pretty good.
2) Oversimplification – Risk is asset-class based only as opposed to asset-class plus market conditions. For example, interest rates are very low right now, so bonds are “risky” – as interest rates rise, bond values go down, and that is likely to happen. Further, “stocks” are “risky” right now because PE ratios are generally pretty inflated. However, consider if the PE ratio of the sp500 was around 16 and the interest rate was at 0.25%. At that point, in order to reduce risk, you would want to shift more into equities – or at least drastically reduce the duration of your bond holdings. Reversion to mean is pretty powerful.
3) Agreement – selling at the bottom of a loss curve and not buying back in causes a lot of harm (I personally held and bought more in 2008). Oversimplification – However, in their defense, how do you know it is the bottom until years later? Also, what is not said – failure to sell at the “top” and then riding a price decline down also causes a lot of harm – but then how do you know it is the top until years later? Well, one way is to take a look at factors like the PE ratio -and to remember that the phrase is “buy low, sell high” – not “buy bottom, sell top”. That is, when you recognize that a category is “high”, shift to a category that is “low”. You don’t have to sell everything, but the flow into the “low” category lessens your overall portfolio risk. I note that the market does not necessarily immediately respond to fundamentals, but it will get there eventually.
Bottom line – I don’t think “stocks” are “toxic”. Specific stocks and categories can be less risky than specific bonds and categories, especially depending on market conditions.
Going straight to your comment that you see a point where you will pull back from equities, I would ask – ALL equities? Regardless of market conditions? (You’re going to love this 🙂 ) Well, that seems pretty risky to me! You are limiting yourself to one asset class while your ability to move between asset classes can be a real risk moderation technique depending on market conditions.
However, moving to lower duration bonds and less volatile stocks can certainly also be a risk moderator. Personally, I am not completely crossing off equities.
That’s a great plan, you got it all figured out.
Nice post on milestones. Sometimes I forget to notice and celebrate them along the way. I’ve heard saving for large goals like retirement being compared to a marathon. This is not true at all. A marathon takes a few hours. Less than a day for sure. Saving for retirement takes years, even for those taking it to the extreme. You need motivation along the way and these milestones are a great start!
Excellent comparison! I’ve heard the same – life is a marathon and you need to be ready for the long haul. If paying off $200K in student loan debt was a marathon, that would free up the other 364 days of the year to do things like save for retirement (2 marathons?) and become financially independent (3 marathons?). What would I do with the other 359 days out of the year? Don’t be surprised if I turn this into a blog post. Thanks for the great comment!
I have a post with the marathon theme in my drafts. I keep getting distracted by other topics before I can finish it though. Let me know if you have any interest in each writing one with some cross promotion.
What a fraud. You don’t actually have an underwater basket weaving degree. I’m one hell of a networker, and I never saw you at a single convention.
I’m the fraud? At all of those conventions we have on our SCUBA masks at all times (rule #1 of underwater basket weaving). Of course you wouldn’t recognize me! Now I’m suspect that you’ve ever been …
Just googled the name of the blog post I wrote earlier this week and came across your blog and blog post. I wrote a very involved post about what saving for financial independence would have looked like for a biglaw lawyer from the class of 2009 and then adjusted for periods when returns weren’t as great. Here is the post if you’re interested: https://wp.me/p9uG5Y-4P