New US College Graduates: I have exciting news for you as you prepare to dive into the real working world (or maybe already have). But first a note about my Wife’s favorite time of year…
The NBA’s Free Agency period is almost upon us, something that I am reminded about every year from Mrs. Money Pebbles, being the avid NBA fan that she is. As is the case every season, we’re about to hear about some ridiculous sounding contracts as NBA players whose contracts are now up, but whose services are still in demand, seek to sign new contracts to extend their employment another 1-5 years while hopefully getting paid more to boot (or shall I say, to shoot).
And some will get paid more… a lot more, because NBA teams are currently able to offer some of the richest contracts in NBA history with the help of the NBA’s TV deals leading to increased league revenues. As an example, last year, one player signed a 5-Year $153 Million contract last year, and he’s not even considered a top 10 player at his position! A rising tide surely floats all boats.
My hope is that these players will use their fortunes to build a financial legacy that lasts generations. Unfortunately, a number of NBA players have instead squandered their big contracts away through poor money management. Here’s an article detailing a few examples if you’re interested (but please come back!).
Good News: New College Graduates Are Getting Paid More Than Ever
Back to my good news College Graduates: As you enter into your own free agency, you are entering a job market that is signing fresh college grad free agents to the best average salaries in history! You have the rising tide of a good job market and roaring bull market to thank. You’re welcome.
Let’s look at a snippet of the press release announcing this good news from executive search firm Korn Ferry (bold emphasis mine):
“There’s good news for recently minted college graduates, according to a recent study by the Hay Group division of Korn Ferry (NYSE:KFY) showing that average salaries for 2017 grads are at an all-time high. The study reveals what salaries grads can expect to earn, depending on their location and career choice.
In the Hay Group study, researchers analyzed salaries of 145,000 entry-level positions from more than 700 organizations across the United States. Based on this data, the firm issued a snapshot report of 25 jobs, spanning multiple industries, with corresponding projected salaries.
Based on the 25 analyzed positions, 2017 college grads in the United States will make on average $49,785 annually. That is 3 percent more than the 2016 average ($48,270). Adjusted for inflation, 2017 grads will make 14 percent more than those who graduated in 2007, just months before the start of the Great Recession.”
That’s a pretty good average starting salary young folks. But instead of just looking at this amount in per annum terms, I want you to view this amount in terms of total value, similar to how NBA contracts are quoted. We’ll make two assumptions to do so.
1. You will work for 40 years (Age 22 to Age 62).
2. You will receive an average raise of 3% every year, until you cap out at 100k per year (reasonable assumption given good performance, increasing responsibilities, and future inflation).
With the above in mind, you are about to sign a roughly $3.3 million deal! That is outstanding! I’m willing to bet that you never thought about your future earnings in such terms, but I want you to take this view so that you can see just how much money could potentially pass through your hands throughout your working life.
Notice that I said “pass through” your hands. You’ll want to keep a portion of it, which we will get to, but there are some necessities that will need to be taken care of. I’ll point out the big four that you’ll need to take care of as a working adult:
• Taxes: We’ll assume an effective tax rate of 22% for 40 years (includes Federal, Medicare, and Social Security) = $725,000
• A roof over your head at an average of $1250 per month for 40 years (10 years renting while saving for a mortgage down payment, followed by paying off a 30 year mortgage) = $600,000
• Food at $500 per month for life = $240,000
• Necessary bills such as transportation, electric, water, phone at $500 per month = $240,000
Necessities will take away a big chunk of your wealth, which will make being careful with your money that much more important. The good news is that, after taking care of life’s necessities, you will still be left with nearly $1.5 Million. Meaning, you are still in prime position to end your career as a millionaire.
Unfortunately, as with the above NBA players, there are many who will get to the end of their life’s work contract with little to show for their years of hard work. Here are three ways that you can seriously erode that fat contract:
• Buying a new Car every 5 years at $25,000 per car = $200,000 (!)
• Buying more house than you need, to the tune of an extra $50-100,000 in mortgage interest payments.
• Paying interest on credit card debt, resulting in tens of thousands of dollars wasted.
With just the above three choices, $300,000-$400,000 has already been sucked from your lifetime earnings. There are probably 100 other ways that we overspend during our working lives and don’t even realize it because we are thinking from a day-to-day, month-to-month, year-to-year, or paycheck-to-paycheck perspective instead or a lifetime value perspective. Financial nearsightedness isn’t good for your long-term financial health.
Five Habits to Maximize Your Contract
So, college graduates, your financial modus operandi as you enter free agency is to take care of the financial nuggets (or money pebbles, if you feel so inclined by reading this blog) which you will be entrusted with so that you build a financial legacy for years to come. Let’s end this post with several ways that you can ensure that you maximize your lifetime contract:
1. Start contributing to your 401(k) immediately, eventually getting to the point where you are able to max it out every year. I consider failing to do this myself one of my biggest financial mistakes. It’s never to late to start though, which is why I’m maxing out my 401(k) this year.
2. Save now and postpone the luxuries. The more time you give your money to grow, the more the power of compound interest will work in your favor. A nice car and big house can wait until later. As one of my favorite bible verses about money states, “Prepare your work without, and make it fit for yourself in the field; and afterwards build your house.” (Proverbs 24:27).
3. Work hard and maximize your career earning potential. That $3.3 Million lifetime contract can be a lot more than that through outstanding performance. Increase your value by bringing outstanding value to your company.
4. Avoid consumer debt. Do not get caught up in the monthly payment trap. If you really want something, save up for it.
5. Spend less than you earn – Always. If you do this, you will always be in position to add to your money pebbles. A good starting point is 10% per year. Extreme savers can save 50% or more per year.
College graduate, if you implement the above five habits into your finances from Day 1, you will surely maximize the value of your lifetime contract. Congratulations!