The Secret Number That Can Make You Rich

Is $100,000 a lot of money to earn in a year? Is $1,000,000? What amount determines if someone is “rich”? The answer? It’s not what you make in a year that determines how wealth you are but an entirely different number that rarely gets talked about.

Talking about $100,000

A recent conversation flared up on my Facebook wall over this article. In it the author spins a somewhat sad-sack story of a life spent living well beyond his means despite earning $100,000 or more per year, only to now be heading towards retirement with nothing saved. He pivots at the end of the article to clarify his situation is one of his own doing and that the real issue lies with a system that allowed him to get into trouble but more seriously harms people who earn less than he does.

That led to a conversation about whether $100,000 is a large yearly income in the United States. There were arguments on both sides: it puts you in the top quintile of income earners in the United States, it’s about double the median salary for Americans, but it’s impacted by where you live and it has less buying power than $100,000 did in 2007. As Facebook conversations so often do it began spinning in circles with no side really making any type of progress.

So what do you think? Is $100,000/year a lot of income? Does earning that much money in a year make you “rich”?

It’s not about what you make

I read a great quote on building wealth once that said, “It’s not about what you make but what you keep.” That nails it exactly. What we lost in the conversation about determining whether $100,000 is a lot of money is that it’s impossible to make that call without a reference point. Consider it this way: if you make $100,000 every year, but you spend $120,000 are you rich? Not by most definitions! Instead you’re slowly accumulating $20,000 of debt every year. Someone who earns $20,000 each year but only spends $19,999 is actually “richer” than you would be with that -$20,000 in earnings each year!

The reality is that when it comes to building wealth it’s not your earnings that matter the most. It’s not your spending that matters the most. In fact, it’s a number we rarely hear about and that few people understand. It’s so rarely discussed it’s practically a secret.

The secret number

I’m talking about your savings rate, the amount of money you stash away each year. Wealth isn’t determined by how much you earn over the course of 12 months; after all, if you earn $100,000 and spend $120,000 you’re going negative even though you earn about two times what the average American earns. Instead your wealth is determined by how you have in assets, the amount you have saved. And that amount is determined by how much you put away each year. The equation looks like this:

(Income) – (Spending) = Savings Rate

So how does your savings rate impact your wealth? If you take home $50,000 each year (for ease of calculations we’ll call that post-tax income) and you spend $25,000 each year, you have $25,000 left for saving. That’s half your income. Over two years you’ll save $50,000, which is equivalent to one year of your income. Financial independence, when your wealth can pay you as much as you need to live on in a year without working, comes when you’ve saved 16-24 times your yearly expenses. After just two years you’ve already managed to put together one year’s salary in savings, which is two years’ worth of expenses. If you started that savings level at 20 years of age, you could potentially retire at just 36!

Your savings rate offers you other benefits. The more you save, the more you harness the most powerful force in the universe, compound interest. That turbocharges your savings and allows you to reach financial independence even faster. Increasing your savings rate can even save you more money if you properly allocate it to government favored savings programs. Even at $100,000/year you can get your taxes to near $0 if you invest things properly!

So is $100,000 a lot of money?

Back to our Facebook discussion. Is $100,000 a lot of money? According to CNN that puts you in the top quartile of all income earners in the United States. A whopping 76% of Americans earn less than $100,000. Wikipedia pegs median income at right about $50,000 meaning you’re earning about double that amount.

But in my own Seattle, a recent article claims you need over $72,000 to live “comfortably” in the city, nearly $100,000. Yet my family lives comfortably for about half that with expenses just under $40,000 (and income closer to the total that kicked off the Facebook conversation in the first place). That comes from closely monitoring our expenses and working hard to utilize the most powerful financial tool available to us.

To me $100,000 is an extraordinary amount of money because it represents nearly three times what I need to live on in a year. That means a savings rate of close to 60%, and a financial independence date that approaches quickly. Getting to the point where $100,000 is a lot of money, however, meant providing a context to make it so. And that context was a secret number that gets left out of money conversations: our savings rate.

What do you think? Is $100,000 a lot of money?