Financial independence, from a mathematical point of view, is pretty straightforward. You need an investment portfolio 25 times your annual expenses. With some basic assumptions, confirmed by historical market performance, if you withdraw no more than 4% of this portfolio each year, it will last indefinitely.
Financial independence is not absolute; it depends on how much money you need to cover your annual expenses. If you can live on $40,000 a year, you need a million dollars in your investment portfolio. If you spend $100,000 a year, you will need $2.5 million. That is a lot of money but actually getting to financial independence is easier than it might seem because you don’t have to save all of that money on your own. Once you start investing, the market helps you along.
Suppose you save and invest $20K per year. It may seem that it would take you 50 years to get to 1 million dollars. But if we assume that your investment grows at 11% annually (a reasonable assumption based on historical averages), it will take you only 17 years. In other words, you will only have to actually save $340,000, and the rest of the money will come from the growth of your stocks. In the table below, notice that after year 7, the market is actually contributing more towards your portfolio growth than you are. The rich get richer!
Surprisingly, how long it takes you to reach financial independence does not depend on how much you make but only on what percent of your income you save. If you make $200,000 and you save 50% of your income (therefore, you can live on $100,000 per year), it will take you exactly as long to accumulate the $2.5 million you need as someone who earns $80,000 and can save $40,000 of their income to reach their financial independence number of one million dollars. Of course, making more money helps – it is much easier to figure out how to live on 50% of a $200,000 income than to figure out how to live on 50% of a $20,000 income. Nevertheless, the table below will tell you how long it will take you to reach financial independence assuming today you have no assets and no debt based on various level of saving. You can get information based on your specific situation with this straightforward calculator.
Do you feel inspired? What percent of your income are you willing to save? The average US household saves about 7% of their income which translates to 58.8 years until financial independence. Can you do better?
So, you (or your child) are ready to go to college. Now the question is, where to go and how to go there for the least amount of money. Large public research universities (think UC system, University of Minnesota, University of Iowa, University of Illinois, etc.) are an excellent option for many students. Some benefits of a large research state university are:
A lot of options for choosing a major
A wide variety of courses
Access to top research faculty
Variety of student activities such as clubs, Greek life, etc.
Generally, easy to transfer in credit if you took classes somewhere else
There are also some negatives to be aware of. Most of these negatives can be largely avoided if you do some planning:
Large classes: Many of your classes, especially general education classes, will be large, often hundreds of students. You can mostly avoid this issue (and save money!) by taking many of your general education classes at a community college. Do make sure you understand the rules your university has about transferring credits, but most state schools have very generous policies.
TAs instead of professors: Graduate students will teach many of your discussion sections (small sections that go along with your large lecture classes). This is not necessarily a bad thing because, while inexperienced, graduate students usually put a lot of thought and effort into making their classes a good experience for the students.
Adjuncts: Some of your classes will be taught by adjuncts who teach at the university part-time and are often hard to reach if you need a recommendation a few years later. You can select your classes carefully to mostly avoid this issue.
Easy to get lost: Being self-motivated is very important when going to a large public university. Help is available, but you have to seek it. It is easy to fall behind, miss assignments, etc., and it is unlikely than anyone will notice. If you see you are falling behind, seek help right away!
Start taking classes at a local community college while in high school. Make sure you take courses that will transfer. If you take one class per semester each of your junior and senior year and two classes each summer, you will be able to transfer eight classes–cutting your time in college by a whole year! That means not only saving $20K but also entering the job market a year early. If your starting salary is $60K, your hard work in high school will translate into $80K! That’s way better ROI than any high school job that you can get.
If you already missed your chance to take classes while in high school or if you want to super-charge your college experience, take summer classes while in college. You do not have to take summer classes at your university; you can still take courses at a community college, just make sure they transfer. Taking two classes every summer starting with the summer before your freshman year can also give you eight extra classes–cutting your time in college by a year. Some institutions also offer winter term classes for extra fun!
Take a minimum of 15 credits each semester and consider taking 18 credits. Even though 12 credits is deemed to be full-time, taking 12 credits per semester is not enough to graduate in four years. In fact, at most universities you will have to take five full years to graduate if you take 12 credits per semester and that is assuming that you don’t need to retake any classes, you don’t decide to change your major, you never have to drop a class, etc. An extra year in college will cost you not just $20K in tuition and living expenses but also a whole year in lost wages as you will enter the job market a year late.
On the other hand, taking 18 credits each semester will shorten your time in College by nearly a year. Keep in mind that 18 credits is a large workload. Be sure you can handle it before committing to such a plan. Taking summer classes may be an easier route to take to shorten your time in school.
Consider alternative living arrangements. Room and board run around $12K per year, but you do have options. If living at home is a possibility, seriously consider it. Maybe you feel ready to be out of the house, but if you stick it out for four years, you will start your post-college life $50K richer! And your chances of being academically successful are probably better if you are away from the college party scene.
If living at home is not an option, consider getting a job as a live-in nanny. It is usually easy to build your schedule around the hours the family will need you, and you can get all the benefits of living at home without actually living at home.
College is expensive, but that doesn’t mean that you should approach it with the mentality that you will “spend whatever it takes.” Making smart decisions about this huge investment will have a significant effect on your financial health for many years after you get your degree.
My wife and I both have PhDs, and we both work in education, so it is safe to say we deeply value education. I have also been a faculty member at a large state university for the last 15 years, and I have seen many students come in, take some classes, and then drop-out for various reasons. Hopefully, the experience was valuable to them, but without a degree, the rate of return on investment (ROI) is likely to be poor. Many of them ended up with $20K-$30K in student loan debt, which will affect their financial health for years to come without getting the boost to their earning potential that a degree provides. There are also students who did finish but have not worked at a position that requires that degree. The ROI here is a little bit less clear as a degree is probably helpful even if it is not related to the person’s job.
Different students also “invest” very different amounts of money into their education. For me, this is most jarring when the education they receive is basically identical, but they choose to pay very different amounts of money for it. Going to an out-of-state public university can cost many times more than going to a similarly ranked in-state institution.
Let’s look at an example. Mary and Beth are both graduating from high school in Wisconsin, and each of their families is able to pay $10K per year towards their college education. Mary decides to go to the University of Wisconsin-Madison (currently ranked #46 in National Universities by US News). She pays $10,725 for tuition and $11,558 in room and board (based on 2019-2020 costs). Assuming costs stay fixed for four years, she will graduate with roughly $50K in debt. Beth decides she wants a warmer climate and goes to the University of California-Davis (currently ranked #39 in National Universities by US News). She pays out-of-state tuition at $43,484 and $15,863 to live in the dorms. After her parent’s contribution of $40K over the four years, she will graduate with almost $200K in debt! And this doesn’t even account for the extra money she will be spending to travel to visit her family.
The value of the degrees that Mary and Beth will start their careers with is roughly the same. They both graduated from well-known large public institutions. They also had approximately the same experiences living on campus and had very similar opportunities to build their social network. However, Mary paid a total of roughly $90K for her degree, and Beth spent a total of about $240K. If you view a college education as an investment, you are essentially choosing if you want to pay $90K or $240K for the same investment. Of course, how your ROI looks depends on how much you decide to spend in the first place.
Mary, the student going to an in-state school, may be able to avoid debt altogether if she lives at home and spends her summers working to make the roughly $2K a year–that is the difference between what her family can afford and the cost of tuition. Or she can live at home and take summer classes to graduate in 3 years. In this case, she will be ready to enter the job market a year early with no debt at all. Her ROI, in this case, would be totally different than Beth’s.
The ROI computations becomes more complicated if a student is choosing between two different types of schools. If instead of going to UC Davis, a large public university, Beth decides to go to Augustana College – a small private liberal arts college where she will get a lot more attention from faculty. While Mary will likely take her math requirement in a class of 400, Beth will be in a class of 15. Beth will be paying about as much in tuition as she would have at Davis (assuming she doesn’t get financial aid), but the investment she will be buying is actually different than what Mary is purchasing. Is it worth it? That depends. Beth will receive a lot of personal attention. If she doesn’t show up to class, her professor will likely contact her to make sure she continues to be successful. That is unlikely to happen in Mary’s school. On the other hand, Mary will have access to a much larger variety of opportunities and will have much broader choices for building her social network. The ROI, in this case, depends on the type of people Mary and Beth are and on their future goals.
In the next several posts, we will explore how to choose the best environment for each student and how to minimize the cost of your investment in every case. We will bring in our experiences both as former students and as current educators. Please put your questions or tips in the comments below.