There’s a science about How I Got Out of Debt and Became a Millionaire. It’s simple math! I spent less money than I earned. I saved as much money as I could sustain. It really is as simple as that. Here’s how I prioritized my money and how I accumulated more than a million dollars in net worth.
Let’s Jam!
Level 1: Create a Financial Picture
The very first step is to create a financial picture of my current situation. What are all my Assets, and what are all my liabilities. The tool you use could be Quicken, Personal Capital, even Excel or Google Sheets. It doesn’t matter what tool that you use. But, it should be low maintenance and that you will stick with and keep updated every week. This is why I use Quicken. It provides a good balance of automatic transaction download with ability to do manual record keeping that some online tools do not work well with.
When I was young, I knew my dad tracked all the family financials in Quicken and QuickBooks. In college I gave both a try but just didn’t really like the “old school” feel. As a result, I didn’t really track my financials. It wasn’t until 2010 when I finally said, “ugh, I don’t like how dated Quicken looks, but I’m just going to do it.” And I’m glad that I did this because that decision spawned a recurring series of rituals that I follow. I don’t budget my money per-say. Instead, I am mindful and aware of where every dollar comes in and where every dollar goes out the door.
I update my finances once per week and it takes less than 25 minutes. In fact, I use the Pomodoro techniquehttps://en.wikipedia.org/wiki/Pomodoro_Technique. I am able to update and assess my current financial picture across 28 accounts in that amount of time. If I can do it, so can you. You need to rule your finances so that your finances don’t rule your life. This weekly ritual means I am always confident in where I stand in relation to my money and helps me make informed decisions about putting my money to work for me so I don’t have to work for my money.
Level 2: Pay off High Interest Debt like Credit Cards
The very first step is to prioritize paying off all high interest debt. This means credit cards. Anything that has an absurd 20+% interest rate. This debt will quickly eat your alive so you must prioritize paying off this debt first and as fast as you can. You cannot start growing your wealth until this high interest debt is paid off.
I’m not saying all debt is bad. There can be very good debt. For example, my primary residence is highly leveraged. However, that debt is at a 2.8% interest rate and fixed for 30 years. When inflation is far higher than this it basically means this is a free or negative interest rate loan as long as my income grows with inflation. I have no intention of paying off this mortgage faster than required because this is good debt!
Low interest debt that’s used to finance an asset, such as a house, is something I don’t want to pay off. Let the bank’s money be tied up instead of my own money. That frees up my money to invest in other things that compound my wealth accumulation.
I never pay interest on credit cards. I always pay off the full balance every statement. This is a free 30-day loan from the credit card company!
Level 3: Pay off Mid-Interest Debt like School Loans
When I graduated from grad school, I had over $30,000 in government subsidized school loans. These loans were about 6.5% interest. So, while not super high, this is bad debt. It’s debt that is not being used toward an asset that will grow in equity. It was an investment in myself, sure, but this debt is something that I prioritized paying down right after credit cards.
Now We Can Build Wealth!
Finally! Now that the anchors of debt aren’t holding me back and all that “bad” mid to high interest debt is paid off, it was time to start saving money.
I didn’t do the next Levels in order because early on in my wealth accumulation journey I did not have access to things like employer sponsored 401k plans and such. Therefore, I have adjusted the order around to take this into account and represent the order I would have ideally gone about things. This represents the order that I follow now. If you don’t have access to some retirement vehicles, skips those levels and move to the next. Everyone’s journey is their own.
Level 4: Max your Employer 401k & HSA Matches
Don’t leave money on the table. If your employer offers matching contributions to a 401k or HSA plan, max both of these out. I would do this even before saving an emergency fund because if you do not contribute anything to your 401k and HSA you are literally missing out on more money that could be yours. Therefore, while Level 5 Emergency fund is very important, in this situation I would at least minimally maximize matching by my employer to capture every extra dollar that I can.
Level 5: Save $10,000 for Emergencies in High-Yield Savings Account
I opened a bank account with Ally because it provides the highest interest rate for Savings Rate that I could find. This first step is critical because it’s the safety buffer. I’m glad I had this safety net stashed away in a savings account for emergency situations only. When the COVID-19 Pandemic struck in early 2020 and we went into lockdown, there was the real prospect of losing my job or taking a pay reduction. We didn’t know how things were going to play out. At the same time, the stock market indexes dropped 30+%. When it rains it pours.
Had the worst happened and I lost my job, while at the same time my portfolio was down 30%, the last thing I wanted to be forced to do would have been selling off investments at a loss at the bottom of the market. That $10,000 was a critical safety net. Had I not had a reserve of emergency cash ready to go, I could have easily missed out on 60+% gains that the market rebounded in the months that followed that dip.
How did I pick $10,000? Arbitrarily. It’s the number that felt right for me that would give me about 3-6 months of runway to figure out my situation before having to seriously consider drastic actions such as liquidating my investments just to put food on the table.
Level 6: Max your Roth IRA Contribution
Make the maximum contribution you can make to your Roth IRA. You want to open your Roth and get your first contribution in there as early as possible so that the withdraw clock starts. Especially if a Roth Ladder is something you want to consider in the future. There’s a limit of $6,500 (as of 2023) and you can’t catch up on this until you’re old. This should be your next priority to max out.
Level 7: Max your Series I-Bond
Similar to the Roth, there is an annual limit of $10,000 for Series I Bonds from the US Government. You can’t catch up so make sure that you get your money into this fund bucket each and every year that you can while working at this level. I’m not a big fan of bonds, but the nice thing about these bonds specifically is that they are adjusted for inflation. That is huge! You won’t build your wealth snowball by investing in I-Bonds, but you won’t lose money to the inevitable erosion of inflation either. This makes for an excellent secondary backup to your cash reserves after 5 years when you can withdraw your funds without penalty.
Level 8: Maximize 401k Contributions of Pre-Tax + Roth
The mix between Pre-Tax deferral and Roth contributions is up to you. I’m doing nearly a 50/50 split because I want the tax advantages of deferral, but I am also planning to do a backdoor conversion of the Roth funds and withdraw my contributions before retirement age. You do what you think best, but make sure you maximize your contribution, nonetheless. The combined contribution limit $22,500 as of 2023.
If you’re lucky enough to have a 401k plan that allows for After-Tax contributions, take advantage of this if it makes sense with your plan. And if your 401k plan does not After-Tax contributions, call your 401k plan administrator at your employer and ask them to consider adding this feature.
Level X: Invest, Options Wheel, Real-Estate
When you reach level X, and have maxed out all retirement and savings vehicles at your disposal, it’s time to have fun! What you do with your extra money now is up to you and what you know best. Still invest this money with intention and purpose. This money is not to spend on a Tesla or some other waste of money. Instead, explore options of monetizing something that you love doing in life. Something that you would do even without being paid. For me, right now I really love investing and turning the Options Wheel. I probably won’t love it forever, and that’s okay. But for now, in this present moment, it is an activity that I enjoy putting my mind to exploring and doing. And hey! I make a nice flow of cash on the side. That’s a win-win situation!
Look for your own win-win. Keep learning. Keep your mind open to new ideas and opportunities. Be ready and in a position to grasp good luck and fortune when it happens. You can create lucky situations because you manage your situation and move and adapt, every day, one day at a time.
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