Even the wealthy are having difficulty making ends meet. In June, Bloomberg reported 36% of households earning $250,000+ per year spend everything they earn to maintain their lifestyles. (1) How can this be possible? Do some of your clients fit into this category? How can you help them?
We used to think $250,000 was a lot of money. The 1980’s TV series Hart to Hart started with the words “This is my boss, Jonathan Hart, a self-made millionaire…” According to CNBC, 22 million people in the US are millionaires. (2) FYI: The US population is about 332 million people of all ages.
How can households earning $250,000 be having problems making ends meet? How can you help, using your financial planning expertise?
1. Many people have no plan. You’ve heard the expression “More money, more problems.” Here is another one: “Money talks. It says goodbye.” If you spend money as it comes in, you run into serious problems when an unplanned expense arrives. The house needs a new roof. Your insurance company will not renew your homeowner’s policy until it is replaced. You need a new roof now. It is difficult to find a contractor. Building supplies have gone up in price.
Advice: Your client needs a financial plan. This includes provision for an emergency fund.
2. The good times will last forever. When your client has a good year, they assume the trend will continue. This is very difficult if your client is in sales because many businesses are cyclical. Your client spends assuming their income will always be the same or greater.
Advice: Your client needs to consider “what if” scenarios in their financial planning. Suppose they lost their job? What happens when a two-income family becomes a one income family?
3. Won’t the stock market always go up? We have enjoyed an extended bull market in stocks up until the pandemic started. Do you remember where the DJIA bottomed out during the financial crisis? It went from 14,165 on October 9th, 2007 down to 6,926 on March 5th, 2009. (3) It reached an all time high of 36,799 on January 4th, 2022. (4) Put another way, the DJIA went up for 12+ years. Some investors assume this is the New Normal.
Advice: Your client needs to realize if the stock market has traditionally returned 10% a year over decades and decades, it needs some flat or down years to revert to the mean. That could be now.
4. Not keeping track of expenses. How many streaming services does your client have? How many do they use? How much is their cable bill? How many premium channels? How much is their wireless bill? How much have property taxes increased? How much have groceries gone up?
Advice: Your client needs to treat their lifestyle as a business. They have income and expenses. This needs to be monitored.
5. Housing is expensive. According to Reuters, house prices increased 17% in 2021 and could rise 10% in 2022. (5) That was before the Fed started increasing interest rates. If your client bought a new house, they might have engaged in a bidding war to get it. Now they have to pay for it. They might have a variable rate mortgage. Their monthly payments will increase as the Fed raises interest rates.
Advice: Your client will get squeezed if interest rates continue to rise. Can they convert from a variable rate to a fixed rate mortgage? They can refinance again if rates fall in a few years.
6. $250,000 is gross, not net income. According to Voice of America (6) Americans earning $200,000 a year take home, on average, about $136,700. (2019 figures.) As municipal bond ads used to say: “It’s not about what you make, it’s about what you keep.”
Advice: Clients who feel they make a lot might think they can spend a lot. The government is their silent partner. This becomes evident when you look at taxes on interest and short-term capital gains. Within the rules, they need to optimize how they are being taxed.
7. Keeping up with the Jones’. Their neighbor belongs to the country club. Someone else has a beach house. Another collects art. Another neighbor trades up their house for a larger one. Your client feels they need to do all these things to keep up.
Advice: Back in the Gilded Age, industrialists made their money first, then spent it on flashy lifestyles. Many people think they should spend on the flashy lifestyle now and pay for it later. Talk with them about the goal of financial independence.
8. When in doubt, buy on credit. When expenses exceed income, many people turn to credit cards or their home equity line of credit. They run up big balances without a plan to pay them down. As interest rates rise, their cost to carry debt increases substantially.
Advice: The Fed has raised interest rates by 2.25% in 2022 (so far). This means the client’s HELOC and other borrowing rates has risen by at least that amount. They need to put off big projects and big expenditures, focusing on paying down debt.
9. Not saving for the future. If your client spends everything they earn, they aren’t saving. There will come a day when they no longer have earned income. That’s called retirement. They need to save now to pay themselves later.
Advice: Teach them to “pay themselves first.” Money taken “off the top” from their paycheck is a good place to start. This might be retirement plan contributions and employee stock purchase plans. Generally speaking, people can learn to live on their after-tax income.
10. I don’t need a budget. Some people think sticking within a budget makes you look cheap in the eyes of others. They think not spending money freely communicates you are struggling.
Advice: Your client works for someone else or owns their own business. There is a finance department budgeting everything. There is a purchasing department striving to get the lowest prices on essentials. It is smart to run your life like a business.
11. Taking on long term commitments. People give to charity for many reasons. These are noble causes. When the museum or hospital announces a capital campaign, it often comes with naming opportunities. People will commit a large gift, payable over three to five years to get this recognition. People crave immortality.
Advice: If you are going to commit to a large purchase, build it into your budget, similar to buying and paying off a car. Don’t try to figure out how to meet your obligations at the last moment.
12. They cannot resist when something is on sale. Americans are hard wired to appreciate a bargain. We buy things we don’t need because they are a great deal. We brag about them. A lot of this spending is washed money if you don’t need the item.
Advice: If you are shopping in a store, a simple strategy is to defer the purchase by walking out of the store, visit another store then decide if you really want to return and make the purchase. Often the answer is no.
It might seem implausible some people earning over $250,000 a year are feeling the squeeze. It happens. You can help your client anticipate and address these problems.
Related: eaving a Legacy If You Are Wealthy (or If You Are Not)
- https://www.bloomberg.com/news/articles/2022-06-01/a-third-of-americans-making-250-000-say-costs-eat-entire-salary
- https://www.cnbc.com/2021/12/22/heres-how-22-million-americans-became-millionaires.html
- https://www.atlantafed.org/cenfis/publications/notesfromthevault/0909#:~:text=Compared%20to%20anything%20seen%20since,6%2C926%20on%20March%205%2C%202009.
- https://www.investopedia.com/ask/answers/100214/what-dow-jones-industrial-average-djia-alltime-high.asp
- https://www.reuters.com/business/us-house-prices-rise-another-10-this-year-2022-03-02/#:~:text=Record%20low%20interest%20rates%20and,in%20at%20least%20two%20decades.
- https://www.voanews.com/a/what-americans-really-earn-after-taxes-/4820653.html