Apr 10, 2011 68 comments

Getting Started #1 – What am I Supposed to Do With All This Money?

Hi, It’s me the Realist again.

I think I’ve noticed a pattern with Mr. Money Mustache. He is part of what I like to call, “The Religiously Frugal”. For him, the avoidance of spending is not just a way of reaching a goal… the frugality itself is the goal. He actually likes this shit! If you give this guy an extra million dollars before bed tonight, he’ll still be riding his old bike to the grocery store tomorrow and bringing home the organic produce in a backpack from 1999.

But for the rest of us, who might find lifestyle changes difficult at first, let’s focus on the practical side and the numbers.

As soon as you start not buying certain things, you will find that there are some dollars building up in your bank account. You keep getting paychecks, maybe the odd windfall from selling something on Craigslist or a gift from Grandma, etc., and it all goes straight to the bank.

Your goal every two weeks or so will be to count up all this extra cash, figure how much you need for upcoming bills, and sweep the rest to somewhere useful. Somewhere that either pays you interest, or saves you money by reducing the interest that you pay.
Note that there’s a powerful double psychological trick going on here:

You are keeping your bank account very low, which makes you really think twice about impulse purchases.
“Hmm, I can’t buy this $1500 television set, because I’ve only got $300 in the bank and there’s only one paycheck coming before my credit card statement will come due.”
Plus you are keeping the money as active as possible.
Every dollar is actually a little employee that will work for you, 24 hours a day, for as long as you keep it. But you don’t want your employees hanging around eating donuts in the smoking lounge of your zero-interest checking account. You will simply sweep these green paper employees to wherever they will work hardest for you.

For most people those places, in order, are:

paying off any high-interest debt like credit cards
making sure all your deductions for your 401K plan at work are set to their maximum level, especially if they have employer matching
paying off any other debts like car or student loans
paying off extra principal on your home loan
buying a conservative dividend-paying stock index fund – go to Vanguard.com and start an account to buy some units of the VTSAX fund, or if you have a brokerage account you can buy VTI shares.
last resort: just putting the money into a cash account that pays the highest level of interest you can find – Vanguard’s Prime Money Market fund or a savings account somewhere like Capital One that has reasonable rates.

So there you have it. Save this posting. It is simplistic advice, but if you go out and read 50 books worth of financial and investing advice and distill them into only a few paragraphs, you’ll probably end up at the same place.

Mr. Money Mustache actually reads these books every night, since they are part of his unusual idea of fun. He also follows Warren Buffet as if he’s a sports hero and read his 800-page biography over two red-eyed days as soon as it came out. I encourage you to get more into investing too if you find it interesting, but if you just want the cheat sheet of what countless millionaires do with their money, just follow the points above and you are good.

These techniques will keep your employees working for you at a rate of between 5 and 12% per year. If we average it out to 7%, that means for every $100,000 you put to work, they will kick back $7,000 per year to you forever, with no work on your part. Setting some aside for inflation and a safety margin for occasional stock market crashes, we drop that to $4000 (more on that in an upcoming article).

So if you have 800,000 employees, you get a lifetime golden parachute of $32,000 per year, forever, with no thought or effort. Hopefully you are already starting to see the blinding and obvious light at the end of the tunnel. You are now saying, “Damn, I want those 800,000 employees working for me as soon as possible. How can I get them!? When can I start!?

And that boils down this blog to one simple idea – getting rich in the only way that is pretty much foolproof, as quickly as possible.

Previous Post: Mr. Money Mustache’s Own Story Next Post: Getting Started #2 – The Higher Cause

Want More?

Dave April 21, 2011, 8:55 am

Dear MMM,
Your methods seem sound. I do agree with the fundamentals of your ideas. However, please share how you have managed to achieve an average of 7% return over the past 10 years…especially over the past 5 years.

Compounding is a great story. Trouble is, the early dollars are the ones that work the hardest and the longest. In my case, having turned 20 in the year 2000, I have seen little to no growth in my stash during this critical period of my existence due to the fact that interest rates have reached (and held) all-time lows over the same time period. I fear that not only have I missed the oppty to retire at 30, but also that I have not achieved a very good start for the next 10 years (having missed out on anything close to 7% for the past 10 will certainly affect my return numbers for the next 10). Meanwhile, costs are rising continuously, making the impact of ING’s Orange account (currently paying 1%) negligible.

What do you recommend I do to get back on course?

thanks,
Dave

Reply
- MMM April 21, 2011, 9:40 am
  
  Hi Dave, that is an awesome question and thanks very much for it! I am also pleased with your use of the word ‘stash’ as part of a comment on this blog.
  
  The current lost decade of stock market returns has definitely pushed back a lot of our plans. I too have made very little money in index funds since the year 2000. However, I still use the 7% number because it is a good representation of the long-term average performance of the market. And if you have been dollar-cost-averaging into the S&P, you surely got some of the incredibly juicy half-price shares that were out there in 2008. If you are still in the earning and saving mode, I would say never fear, keep up with the automatic deductions and in the long run the market crashes during your work/save period will work to your advantage.
  
  Your comment also mentions interest rates and ING savings accounts – I personally still wouldn’t try to build a retirement stash purely by putting money in interest-bearing accounts. They are more stable but statistically your odds are worse – as you said, you’ll get under 5% even in the best of cases.
  
  As a quick answer to my own situation over the past 10 years, it has been a mixed bag that added to about 7%. I bought a house to live in in 2000, which went up about 8% per year for 5 years and was leveraged since I had a mortgage – then sold it. So that was some good luck. During my working years I put money into the Vanguard S&P 500 index funds which averaged 4.5% to this date after dollar-cost averaging – not as good luck but still OK. I maxed out the 401(k) plan, and that money is to cover the period of life between age 65 and death, so I don’t care about the 10 year return on that part. I also put money into paying off my main house mortgage, which is effectively a guaranteed 5% return – not too bad. I currently have one rental house that is paying me at a rate of about 6.5% of the capital I have invested in it – very good if the house can follow normal inflation by appreciating at 2%, and amazing if we ever get a housing recovery and see appreciation at faster-than-inflation for a while.
  
  You have inspired a whole new series of posts on this area of retirement that I’ll start writing about right away – much too much to fit into this comment reply. Thanks again!
  
  Reply
  - Agent9 January 8, 2012, 8:24 pm
    
    Will you please clarify the 6.5% ROC? Is that return calculated on a monthly or annual return? Is the return after expenses or gross?
    
    I may be using the terms incorrectly so please feel free to correct me.
    
    Reply
    - MMM January 8, 2012, 8:33 pm
      
      Hi Agent9,
      
      When calculating return for a rental house, I take the net money I get to keep after paying all expenses for an entire year, divided by the amount of my personal investment in the house.
      
      For example, if you have a house worth $150k, with a $100k mortgage, you have $50k of your own money invested in that house. Now say it costs you $10,000 per year between mortgage interest, property taxes, insurance, maintenance, and any management costs (you don’t include the principal paydown portion of your mortgage payments as an expense).
      
      Suppose it collects $14,000 in rent per year. The net profit is $4,000 per year, which is 8% of your $50,000 investment. I’d call that an 8% return annually.
      
      Reply
      - Potato February 5, 2019, 2:14 pm
        
        Adding the principal paydown to the initial $50k is probably also wise — have to track that money somewhere :)
        
        Reply
  - Amy February 28, 2016, 10:41 am
    
    Dear Mr. Money mustache man,
    
    I am a new fan! I love how you lay it out so simply and clearly. I also hope you can help turn the tide of mindless consumerism. My question is about the little worker bees in our mutual funds. How do we make sure we are not investing in slave labor? Are there any good index funds that are environmentally and socially conscious?
    
    Thanks,
    
    Amy
    
    Reply
    - Laura November 7, 2016, 9:20 pm
      
      Chapter 9 of Your Money or Your Life (which I just finished and it’s good!) has a little section on “socially responsible investing” – apparently Vanguard has a SRI fund, Vanguard FTSE.
      
      And the YMOYL author recommends the website of the Social Investment Forum – socialinvest.org.
      
      Concensus seems to be you most likely will not make as much profit with the socially responsible stuff but you may feel better about yourself and the world.
      
      Reply
  - Kevin March 29, 2017, 6:48 am
    
    I’d like to add an example that supports the 7% number. I put a large sum of money into a Vanguard index mutual fund in February 2008 (great timing, eh?!). That sum dipped to about half it’s original value a year or two later. This February -9 years later- that sum of money has about doubled. With dividends the average annual rate of return … 7%. And I picked probably the worst time to put the money in.
    
    Reply
- Kerry Jennings November 13, 2018, 12:19 pm
  
  I worked for Walmart for 16 years, without a promotion yet. I came a cross of one YouTube was talked about you so I came to join with the group. I hope I can retired early someday.
  
  Reply
NM July 11, 2011, 1:34 am

Hi Mr Realist,

Why do you say to get a dividend paying fund? Surely those dividends would be better being reinvested into the fund? Especially to someone early in their saving career and trying to make as much money as possible

Regards

Reply
- MMM July 11, 2011, 6:28 am
  
  Hi NM,
  You are right, the dividends should be reinvested into the fund until you need them. There’s a box you can check in vanguard to enable this feature. But by being sure the fund pays dividends in the first place (as VFINX does, for example), you are helping to ensure you are buying real moneymaking companies instead of only high-p/e ratio “growth” stocks which are more volatile and speculative.
  
  Reply
  - Ryan August 30, 2014, 12:41 pm
    
    Hi MMM,
    
    In the early days you posted about VFINX.
    
    More recently, you suggested the total stock market index (http://www.mrmoneymustache.com/2011/05/18/how-to-make-money-in-the-stock-market/).
    
    For someone just starting out, which is better?
    
    Reply
    - MW September 1, 2014, 8:13 pm
      
      Hi Ryan,
      I suggest reading http://www.mrmoneymustache.com/2012/05/26/guest-posting-financial-independence-23-years-later/ and then on to http://jlcollinsnh.com/stock-series/ . What’s right for you sorta depends on you.
      
      Reply
Rachel October 12, 2011, 11:32 am

Thanks for this great advice! I just found your site through a friend and it is refreshing to read. One thing I am curious about– would your system still work if everyone in the country subscribed to your advice? If everyone bought less and spent less and borrowed less, then wouldn’t returns on investments go down? As far as I understand it, the fact that we can get a certain percent interest on our invested money is directly related to the fact that other people are borrowing money at interest. Am I missing something?

Reply
- Mr. Money Mustache January 15, 2013, 6:32 am
  
  You’ll see that same question come up from time to time, and thus every blogger must write their own answer. Here’s my version of it:
  
  http://www.mrmoneymustache.com/2012/04/09/what-if-everyone-became-frugal/
  
  Reply
  - Rachel January 15, 2013, 7:19 am
    
    Wow, thanks for responding to my comment from more than a year ago! It’s actually kind of embarrassing to see it now– since then I have kept up with your blog through the past year and a half, so I read that article responding to this kind of concern and found it very insightful. Now we are expecting a baby, so I’m re-reading your articles on how much babies really cost as we try to fight against the culture (and some friends and family) who say babies require buying tons of new stuff of every kind. I was very surprised recently when we looked at the USDA “cost of raising a child calculator” (as one way to think about financial plans) and found that they tell you it “costs” more if your income is higher. For example, they say a newborn will “cost” you $2500 in transportation if you are in the high income group, but only $1110 in the low income group. What?! Of course, this is based on averages, so it is actually a great demonstration that people will often spend more just because they have more. But I think it is irresponsible to report these numbers as if they are “required expenses” to successfully raise a child.
    
    Reply
    - Susan May 1, 2013, 6:38 pm
      
      Rachel,
      Congratulations on the baby. You might want to check out Squawkfox: http://www.squawkfox.com/2012/10/05/newborn-essentials-checklist/
      
      She’s got a pretty healthy mustache of her own.
      
      Reply
Dv October 13, 2011, 11:25 am

Hey MMM,

I am about to finish my 2 year general associates degree this year, although a bit late. I will be 23 this spring and currently have about 6,000 I could invest, but at this stage in my life, should I? Rent is $150/m and my current job is 12k/yr before factoring a 10 mile commute. I have one line of credit (a $750 limit CC) and am trying my best not spend my income so I have been putting it into a low yield savings account just to keep it away from my debit card.

Should I consider investing the amount into an account with Vanguard or should I keep it available for surprise expenses? My car is a 2000 Impala.

Thank you, I just started reading your blog and I appreciate your insight!

Reply
- DividendMan October 23, 2013, 10:17 pm
  
  Hey Dv,
  
  If I had started reading this blog 2 years ago I would have replied then, but alas, I just started a couple of days ago! My advice would have been: If you don’t need the money in the near future, have a decent “safety net” be that parents or your own cash or whatever, junk it all into the market! And, had you done that two years ago you’d have about $8500 if you invested in an S&P 500 index fund, a 42% gain. If you don’t need the money always put it in the market right away, in the long run you’ll be better for it.
  
  If you still read this, let me know what you did!
  
  Reply
Mike Roberts October 15, 2011, 1:18 am

Hey MMM,
I’m 19 and wondering what your opinion on Roth IRAs? I just barely opened one to invest in VFINX and have only deposited $500 so far.
It seems IRAs throw a wrench in early retirement since there’s penalties for withdrawl before age 65&1/2 but on the other hand, the benefits of tax-free growth is tremendous.
What investment vehicle do you recommend?

Thanks for your help and blog! Keep up the good work!

Reply
- MMM October 15, 2011, 11:39 am
  
  Hi Mike. IRAs and Roth IRAs are great – but I have never covered them in this blog and in fact I’m not an expert on the tax strategies that optimize the use of either. I have only a 401K right now, left over from the working days.
  
  I do recommend funding a 401k or IRA of some sort to a high enough level that you expect it to cover you from age 59.5 onwards – and then once it reaches that level, you can move on and save extra for your time between now and that age.
  
  I’ve always understood the penalty-free withdrawal age to be 59.5, someone can correct me if there are subtle details that might make someone wait until 65.5
  
  Reply
  - MW February 2, 2012, 2:23 pm
    
    The 72t rule for IRAs allows you to get the money out of the account early without penalty.
    
    http://www.moneymanagment.info/72T.htm
    
    Reply
  - Brian March 26, 2012, 3:29 pm
    
    I am sure you know this already, but if you have an old 401k balance still in the company’s 401k plan, you are paying more fees than you would rolling it over into a Vanguard IRA. Even if your whole 401k is in Vanguard funds, you are still paying administration fees to whatever company handles the 401k. But I drive a car to work everyday, so who am I to tell you what to do?!
    
    Reply
  - DC April 7, 2015, 8:44 pm
    
    the penalty free withdrawal age is indeed 59 1/2 for all types of IRA’s
    
    However, in the case of a ROTH ira, your contributions may be withdrawn at any time (not the earnings on your contributions- only the money that you invested out of pocket). You just need to make sure your financial firm does the “earmarking” properly to avoid taxes.
    
    As far as 401k’s go, one little used technique is called the “rule of 55” which allows you to access your full 401k without restriction as early as age 54. (50 for certain public safety employees) From the irs.gov site: http://www.irs.gov/taxtopics/tc558.html
    
    one caveat- if you roll over your 401k into an ira, you cannot use the rule of 55 anymore- you will have wait until 59.5 or set up a 72t to withdraw your money before age 59.5 without a penalty tax.
    
    Reply
moondoggle October 18, 2011, 5:47 pm

Hi MMM,
Just discovered the site, loving it. Being a native of the Great White North yourself, do you have any recommendations on a good substitute for Vanguard and their funds for us Canadian mustachios?

Reply
- MMM October 18, 2011, 9:18 pm
  
  I am definitely out of the Canadian Financial Loop these days.. perhaps other Canadians might chime in. One sophisticated investor back home had this to say:
  
  “For mutual funds, I use TD Waterhouse and try to stick to TD mutal funds; they are low MER and there is no charges for trades. For a purely Canadian Index, I have TDB900:”
  https://www.tdassetmanagement.com/Content/Products/MutualFunds/Funds/p_FundCard.asp?FID=3261&PID=10&SI=5
  
  Reply
  - Captian and Mrs Slow November 28, 2012, 12:26 pm
    
    Canadian Couch Patato would be a good place to start.
    
    Reply
Agent9 January 11, 2012, 7:41 pm

In the order of savings, in your article, you put paying down mortgage on primary residence at a higher level than investing in a taxable account. At such low rates do you still recommend it? What about someone planning to move in the next 5 years?

Reply
- Agent9 November 28, 2012, 1:10 pm
  
  I don’t think I ever received a response to this question. Thanks.
  
  Reply
  - MW November 28, 2012, 1:40 pm
    
    I think it would depend on the particulars of your situation. Working on the mortgage gives you a guaranteed rate of return but in an illiquid investment. Not having a mortgage gives you lots of options.
    
    If you plan to move but are underwater on your mortgage, maybe an accelerated repayment might be useful.
    
    Investing in a taxable account gives you easier access to the money (in an emergency, for instance) than if it is equity in your house. That might be valuable if you don’t have other ready sources of cash.
    
    Does being in debt bother you? While a reasonable mortgage isn’t the same level of debt emergency as other kinds of debt (http://www.mrmoneymustache.com/2012/04/18/news-flash-your-debt-is-an-emergency/), it is still debt.
    
    Personally, the only debt I have is a mortgage, which I recently refi’d to a 15 year mortgage at a great, <3% rate. I also invest in dividend paying index funds in a taxable account, as I've already maximized all my other tax advantaged savings vehicles. I don't know if this is the 'best' plan, but it feels okay to me. Don't let finding the 'best' plan get in the way of making progress. Follow a plan, make improvements as you go.
    
    Reply
  - MilwaukeeMN July 14, 2013, 8:43 am
    
    Mortgage is a higher priority because many people are not good investors. Investing isn’t trading stocks every few days because they go up or down yet that is what many do (I fell victim myself during my excitable years). Whereas with the mortgage you can see an immediate value of savings even if it is “just” 4%-6%.
    
    A house also is a terrible “investment” vehicle as it costs a lot in maintenance, furnishings and utilities but it is often recommended because it is the only way some people can be forced into saving some money. It’d be better if you’d act like you are paying a mortgage and send the payment into an investment account even if you are just earning a 4%-6% dividend yield as opposed to paying a mortgage. Boom, you’d be 10% ahead!
    
    Reply
Andrew January 27, 2012, 3:46 pm

MMM — Good sound advice. No fuss, no muss.
Vanguard’s VTI fund is better than VFINX in my estimation. Since they’re both broad-market funds they move in lockstep. Plus VTI has a lower expense ratio. Take a look:
https://www.google.com/finance?chdnp=1&chdd=1&chds=1&chdv=1&chvs=maximized&chdeh=0&chfdeh=0&chdet=1327703969255&chddm=992358&cmpto=NYSEARCA:VTI&cmptdms=0&q=MUTF:VFINX&

Reply
Kookaburra May 9, 2012, 3:48 pm

Question – my work doesn’t have a 401(k) plan…instead it has 403 (a) (no matching) and a 403 (b) plan (with matching up to 4% if you’re putting 10% of your income in).

I have 10% of my paycheck automatically put into the 403(b) plan, but I’m not clear on what the difference between that and a 401(k) is. Am I doing the right thing? Or should I be going it alone with a different sort of savings account not through my work?

Reply
Madeleine September 19, 2012, 1:37 pm

Hey MMM,
Is maximizing your 401K the same thing as maximizing your RRSP? No clue what a 401K is.
Thanks,
Maddie from Ottawa

Reply
- Mr. Money Mustache September 19, 2012, 3:20 pm
  
  Yup, same thing, just in a different country. Canada’s RRSP is actually even more flexible, since you can withdraw with no penalty at any age, rather than 59.5 in the US.
  
  Reply
dstreet6 August 20, 2013, 5:35 pm

Hi MMM,

This may be a stupid question but I’ll ask away since I’m a newbie.

On your advice to open a Vanguard account, what type account are you referring to? Would that be a IRA or a general savings account?

As a background, I do have a 401k that I’m enrolled through at work. I’m hoping to utilize the money on my savings account to get better return to fund this account.

Although I’m a bit green on whether you are referring to opening an IRA account or the General Savings account at Vanguard.

Thank you much in advance.

Reply
- MW August 20, 2013, 6:52 pm
  
  You can have more than one account at Vanguard. I have several. It depends on your needs and goals. If I recall correctly, the current contribution limits on 401ks are $17.5K and $5.5K for IRAs (Roth or Traditional). If you were going to save 50% of an $80K salary, you could, for example, contribute the max to your 401k and a Vanguard Roth IRA which would total $23K. You would then save the other $17K in a regular Vanguard account without any tax advantages.
  
  Don’t get stuck on choosing the ‘best’ account. The most important bit is to save money and Vanguard is a great place to do it. As you gain experience, you will fine tune things. Trust me, your older safe will thank your younger self for increasing your savings today.
  
  Reply
  - the Roamer July 11, 2014, 12:13 pm
    
    Thanks MW for this reply. I have recently read all MMM articles and when I finally visited the vanguard website I was also confused what kind of account I was suppose to open to put MMM’s ideas to work.
    
    I think this is really important information for really cautious people who need step by step instructions or else the stop moving forward. ( like me : P) . I hope this comment get put up somewhere with higher visibility. Maybe this was answered in the forums but that is one feature I haven’t really explored on the site.
    
    Now I can finally get my 3G out of the lounge and back to work
    
    Reply
Rebecca September 22, 2013, 12:19 pm

Hi MMM, I’m new and after sampling around decided I need to read from the start! I have a couple questions:

First: There doesn’t seem to be a VFINX at vanguard anymore, is it called something else now?

Second: I am a stay-at-home mom (I don’t have enough earning potential right now to make more than what it’d cost to put our 2 kids in preschool). Between my husband’s income and some renter income, though, I have been able to scrape together savings each month. I’ve got a lot of student debt (about 25k) but was advised to invest first, since I get all my student-loan interest back each year at tax time anyway. But your list clearly indicates that I should pay off my student loans first. . .

My husband has about the same in student loan debt. So if our goal is ultimately to not have any student loan debt we’re looking at about 50k, which would take us a really long time . . .

So, where should I be putting our meager savings each month?

Reply
- Mr. Money Mustache September 22, 2013, 12:50 pm
  
  Good questions Rebecca,
  
  VFINX is still around: https://personal.vanguard.com/us/FundsSnapshot?FundId=0040&FundIntExt=INT
  
  But these days I am more likely to recommend VTSMX https://personal.vanguard.com/us/funds/snapshot?FundId=0085&FundIntExt=INT
  (A similar fund but with virtually ALL the companies in the stock market, rather than just the largest 500).
  
  As for student loan payoff versus investing: it all depends on the interest rate on your loans. Above about 4%, I’d pay those off first before investing. In your tax bracket, the interest deduction on student loan interest would be pretty minor, so that tax time advice is probably a bit off the mark.
  
  And don’t worry – 50k will soon seem like peanuts – a distant figure in your rearview mirror of savings!
  
  Reply
  - PN November 18, 2013, 4:24 pm
    
    Hello MMM,
    I have a question regarding the order of paying off debt/saving. I have significant student loan debt after med school (<$225,000 at 6.8-7.9% interest). Luckily I now have the means to pay it off, but entering the workforce at almost 30 means I'll have to work & save quickly if I want to become a mustachier. Would you recommend paying off all student loan debt before maxing out 401K or saving? How do you feel about having an emergency fund to cover expenses for a few months if something happened to my husband or me?
    
    My husband brought more to the marriage than I did in terms of savings account and retirement and no student loan debt on his part. I look at his sizable savings account as money that should go toward the student loan debt or at least into a mutual fund, but he insists on having extra cash on hand for emergencies and also for slightly larger house someday. Who is right? Don't worry, I won't rub it in if I am.
    
    Thanks!
    
    Reply
Jason May 18, 2014, 12:39 am

Love the metaphor with the workers in the chequing account. Very creative

Reply
Marie W August 5, 2014, 10:12 am

I’m new to this but very excited to get started! I understand why maxing out 401K contributions is important. However, my husband’s employer only offers an IRA (with a 3% match). Does a contribution to his IRA rank at the same priority level as a 401K contribution? Thanks!

Reply
- Agent9 August 6, 2014, 12:30 pm
  
  Hey MarieW. I would think it depends on your annual tax situation but in my case we max our pre-tax contributions each year before contributing to our Roth IRA’s. I’m assuming you are talking about post-tax IRA’s. Each dollar we contribute to pre-tax accounts helps us to reduce our taxes for the current year. At this point in our careers we put higher emphasis on saving on taxes now instead of trying to predict what our tax situation will be closer to our decumulation phase. If we were closer to 60 then we might have gotten to a different conclusion. HTH.
  
  Reply
The Investor October 31, 2014, 3:28 am

MMM,

Over the long-term (113 years to end of 2013) UK equities have returned a nominal geometric mean return of 9% a year / an arithmetic mean return of 11.3%. By the same measure bonds have returned 5.4%/6%.

If you can lock in a fixed rate mortgage for around 4% today for a decade, say, then I personally like those odds. Even better a mortgage is not marked-to-market (so you don’t face margin calls if house prices oscillate) and most enable some measure of flexible repayments (so you can overpay if the prospective return from equities looks poor).

Moreover there are different ways to effectively borrow to invest via a mortgage. Using an interest-only mortgage is riskier (because you will face sequence of returns risk on the repayment date, although this can be mitigated as above with earlier repayments) versus a repayment mortgage, where you believe you can safely pay off the 25-year term from salary etc, and save on the side into equities (which is what most people actually do in reality with a pension).

There’s nothing wrong at all with paying off a mortgage first, but there’s a risk/reward justification for other strategies, too.

Reply
SAM L December 4, 2014, 6:22 pm

Dear MMM,

I am curious as to which ways of saving money you find most effective. I have never paid a cent of interest on any of my credit cards. However, I only have a savings and checking account with very small interest rates. At most I think I am earning 1/2%. What are some other ways to save money? I am still in college (debt free community college) but where should I start saving first? I guess what I am trying to ask is if you were 20 and could start the MMM process fresh what would be the first step? Thank you.

Reply
- MW December 5, 2014, 5:28 pm
  
  Congrats on no credit card debt and thinking about the future as a 20 year old.
  
  I suggest you start by reading this: http://jlcollinsnh.com/2011/06/08/how-i-failed-my-daughter-and-a-simple-path-to-wealth/
  
  Mr. Collins imparts a lot of wisdom in that article.
  
  I personally do best when my savings is automated. As such, I’ve setup automatic transfers to do this for me every month.
  
  Vanguard is a great place for your stash. It is where my stash lives. But, I’ve read good things about Betterment too. http://www.mrmoneymustache.com/2014/11/04/why-i-put-my-last-100000-into-betterment/
  
  Don’t get stuck trying to find the ‘best’ strategy. Whatever is best for you will change as you grow and change. Just start and know you’ll figure it out along the way.
  
  Reply
  - The Accumulator December 29, 2014, 6:10 am
    
    MMM,
    
    Are you suggesting that a person shouldn’t invest into a pension until their mortgage is paid off? I think that all or nothing approach to debt is likely to mean giving up on the benefit of long-term equity returns and tax breaks, given it takes 20 – 25 years to clear a mortgage on average.
    
    Reply
    - Mr. Money Mustache December 29, 2014, 10:47 am
      
      No, definitely not suggesting that! In general I suggest running the mortgage on normal mode during working years, then consider paying it off as part of early retirement. By that point, if you can’t pay off a mortgage with 5 years or so of really hard prioritization, your house is probably too expensive.
      
      Reply
Tim February 5, 2015, 3:58 pm

You seem to have missed out bonds. Established financial advice seems to suggest an asset allocation split between stocks and bonds. I believe John Bogle, whose company you endorse, recommends a bond percentage allocation of your age and the rest invested in shares.

Reply
Syklist February 21, 2015, 2:16 pm

Your point about keeping your bank account low is ridiculously true. I’ve used Mint.com for a while and they send an email (now text) out when your balance gets “low”. This used to freak me out until I changed to a mustashian frame of mind. Now every time I see a “low” balance, I think, “Damn right! My green army is working hard for me instead of lollygagging about.”

Reply
stan March 4, 2015, 10:50 pm

MMM,

What advice do you have for freelancers who don’t have a 401k plan? Max out IRA, then stash the rest into VTSMX? No debt at the moment.

thanks

Reply
James December 14, 2015, 11:55 am

MMM or anyone else,

It makes sense to max out the employer match on a 401k before, say, overpaying the mortgage as, if I didn’t, I would be turning down a guaranteed 100% return on my investment. But what about investing more than the employer match before paying off other low interest debts, due to the tax advantages and lower investing costs associated with a 401k?

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Tim April 7, 2016, 5:55 am

MMM,

This an excellent item, which clearly lays out the priority for saving. Once thing that interests me is, where does Peer to Peer Lending fit in?

In view of it being less risk than the stock market, though not NO risk, would you recommend investing in Peer to Peer Lending before paying off the mortgage?

Reply
Lavagirl January 5, 2017, 2:29 pm

“For most people, those places in order are:

paying off any high-interest debt like credit cards
making sure all your deductions for your 401K plan at work are set to their maximum level, especially if they have employer matching
paying off any other debts like car or student loans
paying off extra principal on your home loan
buying a conservative dividend-paying stock index fund – go to Vanguard.com and start an account to buy some units of the VFINX fund, or if you have a brokerage account you can buy SPY shares.
last resort: just putting the money into a cash account that pays the highest level of interest you can find – Vanguard’s Prime Money Market fund or ING Direct’s Orange Savings Account.”

Is this still the suggested order 5 years later?

Reply
- Ben June 5, 2017, 3:36 pm
  
  I think the decision of the extra principle toward mortgage debt vs non-retirement (taxable) investments is something of a psychology vs mathematics / probability problem.
  I would say look at the rate you are paying on your mortgage, and don’t forget to factor in any federal deduction on that interest that you may have if you itemize your taxes. So in my case, for example, my rate is a fairly low 3.75% and I itemize so really when factoring in my deduction, I’m only paying something like 2.8% on that outstanding mortgage debt.
  
  Many intelligent and knowledgeable people would look at that number and say it is a no-brainer to invest in the market and expect a 7% long term return (but again that would be taxable, since investing in tax advantaged funds are already lower in the list) rather than pay off mortgage debt and earn only a puny 2.8% return.
  
  Where it gets tricky is evaluating the current market and whether an investment at today’s rather elevated prices is likely to result in those average returns. The 10 Year P/E Shiller ratio right now (June 2017) is a lofty 29. That makes me nervous. Of course, I’m one of those people who’ve been expecting a market correction (or a bear market even) for a few years now and that hasn’t happened.
  
  There really isn’t a ‘right’ answer to the question. Myself, I’m about to put cash that has been sitting idle for 3 years into paying off mortgage principle. I’ve put some portion of that cash into the market also, but I just can’t bring myself to commit all of it to what seems to be an expensive market, ripe for correction. Having that guaranteed return of even a small 2.8% still beats the 0% I’ve been earning on that cash for the past few years (since I’m not factoring inflation into the 2.8% number, I’m also conveniently leaving it out of my cash return number, otherwise it would be -2%, which makes me feel even worse, thanks for pointing it out).
  
  Reply
Demian January 18, 2017, 12:04 am

MMM,

I’m curious why you did not include a RothIRA in your list? Tax-free earnings is huge! To me it belongs in between matched 401(k) contributions & unmatched contributions near the top of my list.

Reply
Al April 19, 2017, 8:04 pm

Hi,
Question about the order of application of savings. I have a 4% company match on the 401k and a 3.5% 30 year fixed mortgage. I’m 44 and the mortgage is only a year old so the chances of paying off the house seem slim. Is it wiser to increase the 401k spend beyond the company match (up to IRS limits) or to apply extra cash to the mortgage principal and why?
Thanks

Reply
Rick May 17, 2017, 1:40 pm

Hi there, I am new to the Mustachian website, but for sure not completely new to Mustachian thinking! I’m looking for a little bit of advice on how to move forward on early retirement. I am 39, single, no kids, currently have 292k in retirement savings: 211k in a work IRA, 55k in a Vanguard Rollover IRA, and 26k in a Vanguard Roth IRA, and 25k in a standard bank savings account, renting, and no car payment, no other debt. My goal is to save 750k and retire and live off of 4% interest. By my calculations in 6.4 years. The question I have is how do I used this savings for retirement, when I can’t touch the IRA’s until age 59.5? I know I could withdraw from the Roth, but that won’t give me enough annual spending money. Any advice on how to cover my spending from age 45.5 to 59.5 during my early retirement?

Reply
- Stacy November 28, 2017, 7:11 am
  
  There are many on this site who are much more advanced in these matters, and given that your comment is from May – you have probably found your answer already, but… I’m guessing that recommendations would include consideration of a dividend-paying index funds (not tax deferred, so you can let it grow now and start drawing it down whenever you like) and perhaps looking into Roth conversion ladders, which allow you to gradually transition traditional IRA money into the Roth so that you’ll have more there to draw from when you do retire. Also, maybe early retirement is actually partial retirement and you earn some money doing what you love, part-time?
  
  Reply
Ashtyn March 8, 2018, 9:26 am

Howdy! I get a discount on Starbucks stock, which is already considerably less than VINFX, should I still invest in the latter?

Reply
- Mr. Money Mustache March 8, 2018, 8:26 pm
  
  Hey Ashtyn!
  
  What do you mean by “considerably less than” VFINX?
  
  If you’re just talking about the price per share, you’ll want to ignore that – because each share is a different-sized slice of the underlying businesses. What you care about is how much of the business you get for each dollar invested.
  
  As of March 2017:
  Starbucks (SBUX) has a price to earnings ratio of 18.39, with a dividend of 2.09%
  VTI (a different way to buy VFINX) has a ratio of 19.02 woth a dividend of 1.66%
  
  So, Starbucks is actually a slightly better deal and pays a higher dividend, although VTI is MUCH less risky because you are getting a blend of 1200+ stocks with each VTI share. Starbucks will be a wilder ride, and could run into trouble and fall by 50% or more if bad luck strikes, as it has for many companies. This has never happened in the long-run for the entire stock index.
  
  Reply
Cristina July 3, 2018, 8:38 pm

Hi MMM!
What is your advice for investment at this time of this 2018 year?

Reply
Anonymous July 22, 2018, 8:38 pm

I am new to your site and have been devouring your articles. I have never considered the idea of early retirement because I assumed that it wasn’t possible. I am starting a little later than you as I am in my mid-thirties now. The only thing that I am unsure of is what account type should I be saving in? I currently have a Roth IRA that I am maxing out. Should I be saving for early retirement in a brokerage account or a traditional Roth? I am unsure of withdraw rules or regulations. I still have a long way to go but want to have the funds in the right vehicle. Also, you have changed my outlook on many things such as deciding where to live and on environmental issues. Keep it up! You are changing the world one reader at a time!

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Michael January 31, 2019, 12:05 pm

Love the post. One question, why if houses appreciate ~5% and investments grow at ~7%, would you pay off your house first? I know I’m overlooking something. Thanks in advance.

Reply
- Bret April 26, 2021, 10:58 am
  
  I was reading through the comments looking for an answer to this. If I paid extra principle on my house with all of my extra money each money, I would get stuck there with no money for my Roth IRA or even a brokerage. Let me know if you have an answer.
  
  Reply
Valeria July 22, 2019, 6:34 am

Dear MMM,
Just discovered the site… I’m an italian 27-year-old and I’m not the least bit familiar with this field. Do you have any recommendations on a good substitute for the 401K plan at work and Vanguard and their funds, for an italian mustachios?
Thanks

Reply
George Choy June 23, 2020, 8:41 am

Hi MMM
Great article. I’m a firm believer of paying off expensive debt, just like you.

However I’d also like to offer some alternative suggestions.

Not all home debt is “bad debt”. I have a substantial property portfolio, which enabled me to retire young. This is leveraged with debt, but it provides a high net cashflow per month.

The other thing you can do in the UK is to have a company car through a LLP company structure. It is possible to use the cash as deposit on a rental property (instead of buying a car). You can put the maintenance costs through your company, effectively saving tax.

Then the rental property will pay the monthly lease costs…plus you have an appreciating asset and can increase the rent every one or two years. 🚗

Reply

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