Brenden Leese, CFP®
High Earner, Not Rich Yet?
Updated: May 26, 2022
At your young age, you earn substantially more than most Americans. Why aren’t you feeling wealthy?
Are your graduate school loans, credit cards, car payments and mortgage getting in the way of saving for retirement? Or, do you have way too much cash in your checking account?
Why not make your money work as hard as you do? Are you taking full advantage of your retirement plan and other options through your employer?
Are you a HENRY? He or she is typically a high-earning professional in their 30s to early 40s, with at least $250,000 of income, individually, or a household with $500,000 of income. Despite earning at least four times what the average American makes, you’re not seeing much left over after taxes, schooling, housing, and family costs—not to mention saving for a comfortable retirement. Sound familiar?
The term HENRY was coined in a 2003 Fortune Magazine to describe the “working rich” in our society.
At Novi, we meet plenty of HENRYs. We recently began working with a professional couple who were very worried about eliminating their high debt, while also saving for retirement. Despite their very high income, they were concerned that servicing their large outstanding loans were putting them further and further behind on their retirement savings goals. It’s easy to feel overwhelmed and frustrated in this situation, especially when you are working extremely long hours to build your career. To start, we broke down their situation into a simple strategy:
(a) Focusing on paying down “bad” high intertest debt;
(b) Making sure they have enough cash on hand to keep their family secure,
and then (c) Socking away the maximum into their retirement plans.
Following these straightforward steps opened their eyes and now has them well on their way to a successful retirement.
Whether you’re a fast-rising young executive, doctor, attorney, entrepreneur or other high-earner in the early stages of your career, here are six key money moves you can make this year to substantially grow your wealth and improve your peace of mind.
1. Pay down high interest debt. We see many HENRYs with way too much money in checking accounts or savings accounts earning little or no interest. At the same time, they often make only the minimum payments on their high-interest credit cards, car loans, and high-interest student loans from law school, medical school or business school. You’re a HENRY. You may have more excess cash to work with than you realize. Make your money work as hard as you do and put it to work paying down your high-interest debt. The compounding effect of doing so can be substantial.
2. Establish an emergency “rainy day” fund. Make sure you have at least three to six months’ worth of living expenses stored safely in a dedicated cash account – an account you DO NOT touch except for true emergencies. You never know what life will throw your way. You don’t want to be cashing out investments or raiding your retirement account to pay for unexpected major medical expenses, repair bills or other family emergencies.
Email me any time if you need help figuring out what your average monthly expenses are. HINT: You must budget for more than just your mortgage, groceries, utilities and insurance.
3. Max out 401(k) contributions. At your age and income, you can sock away up to $20,500 in your 401(k) for 2022 of your own money, and you certainly want to take advantage of your company match if offered. But at your compensation level, you probably have (or should have) additional discretionary income that you can be saving for your retirement, if not already maxing out your contributions. Taxes naturally go hand in hand with higher income, and in many instances, there is not much you can do to avoid Uncle Sam. By contributing the maximum allowable to your 401(k), you are able to reduce your taxable income by the amount contributed, thus reducing your overall tax bill.
NOTE: If you’re a business owner, there are vehicles such as Solo 401(k)’s or Simplified Employee Pensions (SEPs) that may allow you to sock away substantially more than the $20,500 you can with employer-sponsored 401(k)s or Roth 401(k)’s. Email me any time if you’d like to discuss further.
4. Choose between restricted stock or stock options. Like many HENRYs, you likely have opportunities for equity participation in your company’s growth. This type of deferred compensation tends to come in one of two forms: (a) stock options or (b) restricted stock. Stock options have a longer period of time in which you can exercise those options. With stock options, you receive the right to buy your company’s shares at a certain price over a certain time frame (typically 10 years). Even better, you generally don’t pay tax on your stock options unless you exercise them for actual shares in your company. However, when you do exercise these options, you will be taxed at ordinary income rates. With restricted stock, you receive actual shares in your company, but there’s usually a vesting schedule involved and you’ll have to pay tax on those shares (at ordinary income rates) as they vest. So, you might want to wait to exercise your options in a year when your income is lower than usual – or in a year when you have a lot of losses to harvest – so you’ll be at a lower tax rate. We would analyze your current situation and advise on the best route to go year over year.
5. Make sure you are contributing some of your excess cash into an after-tax brokerage account. After establishing an emergency fund and maxing out your retirement accounts, you want to keep some extra money invested (and growing) until you need to access it. This can be for your major expenses such as a down payment on a home. Even better, the gains on that account will be taxed at the more favorable capital gains rate rather than the ordinary income rate. Also, you won’t have to pay an early withdrawal penalty on that money like you would if taking it from a 401(k).
6. Explore other income deferral options your company may offer, such as a nonqualified deferred compensation (NQDC) plan. NQDC plans, sometimes known as deferred compensation programs (DCPs), or elective deferral programs or (EDPs), allow high earning employees like you to defer a much larger portion of your compensation after you’ve maxed out their 401(k). By deferring some of your excess compensation, you don’t pay tax on that money until the deferral is paid out. Depending on the plan, that date could be five or ten years down the road, perhaps even into retirement when your income bracket is presumably lower. Definitely look into deferred compensation if your company offers it – we’re happy to advise.
Conclusion You’re fortunate to be so well-compensated at this early stage of your career. But you want to make sure ALL of your money is working as hard as you do. If you or another high earning young adult in your life has questions about the aforementioned strategies above, please don’t hesitate to reach out.
BRENDEN LEESE, CFP® is an Associate Wealth Advisor at Novi Wealth Partners