How to craft a life on $40,000/yr

You can have a great life on a $40,000/yr household income. Great, as you likely know, is a relative term. My goal is to show you what kind of great you can achieve on $40,000/yr without misrepresenting the truth. Candy-coating your financial reality is always a mistake, and at the $40,000/yr household level, it can lead to a miserable disaster.

At the beginning of my career, our household income was$40,000/yr. And no, it wasn’t THAT long ago. My wife and I had one choice, craft a financial life on $40,000/yr. That’s what you have to do. The weird thing for me is that when I meet people who earn $40,000/yr, or any other income for that matter, they often try to  ignore that reality. I think I know why. People don’t know the difference between crafting a financial life and ignoring an income.

I don’t know why you make $40,000/yr. It could be on your way up to a much higher number. It might be on the way down from a much higher number. You may only earn $40,000/yr this year, or it might be your income for the next several decades. No matter your reality, I simply don’t care. This isn’t me being callous. That looks and feels different. Instead, you need to know spending time trying to justify your $40,000/yr income, is a waste of time, opportunity, and logic.

There are certain financial realities that exist at a $40,000/yr household income level.

  • You will likely have a number of friends who earn more money than you do. Naturally, this will lead you to want to live their lifestyle, not yours.
  • If you have significant debt (student loans or other forms), your lifestyle will not be what you think it should be.
  • Homeownership will be a challenge. It won’t be impossible, but it won’t be close to ideal either. Here’s why – if you can’t afford to fix the house you live-in, you can’t afford to own that house. To be able to save for the future, maintain a lifestyle, and build an emergency fund on $40,000/yr, you have to be one of the most financially disciplined individuals I’ve ever met.
  • The lifestyle you see depicted in TV commercials, isn’t currently for you. You can get mad at me for writing that, or you can email me a a note of thanks for being the first person to be honest with you. Popular culture has this way of making you feel like you must live the life you see on television. You expect to live the same lifestyle as the characters you’ve seen on TV your whole life. Short of Sanford and Son and Roseanne, name another show in which the TV family wasn’t living a pretty darn good financial life. Every car commercial which shows a brand new car careening along the Autobahn, that’s not for you. The new 4k curved TV, which you see on TV, it’s not for you either. Yes, this sucks. But if you ignore this reality, try and alter your reality, then your true reality will NEVER change. You will never be in a position to build a sustainable healthy life on $40,000/yr, if you lie to yourself by adopting an unsustainable lifestyle
  • You have to stay under control. Your overarching goal at this income level is resourcefulness.
  • Below, I’m going to illustrate the financial life of someone who might now be living your life. As you read through it, focus on “adjusting the pie.” In other words, maybe you have day care expenses, or loans or whatever. If you do, you have to carve those alternate expenses from the pie. You have no other choice. It might mean you can spend less on housing, transportation, or even the holidays.
  • If you grew-up in a household in which the household income was significantly higher than $40,000/yr, you’re going to be tempted to try and maintain the standard of living you grew up with. I see this all the time, and it can be brutal. And your family doesn’t exactly do you a favor when they hold you to that same standard.

We need a set of assumptions here. Here they are:

  • You’re 30 years old
  • You’re single, not quite ready to mingle
  • You have two cats
  • You don’t live in one of the crazy expensive cities like NYC or SF. For state tax purposes, you’re a Texan. Moo moo, buckaroo.
  • Based on information on average annual health insurances expenses, I’m setting healthcare cost at $250/month. These premiums are not taxable, in our example.
  • I’m not going to assume your income increases. Let’s work with what you have now. Pay increases will hopefully serve you well, but I’m not basing your plan on pay increases.
  • I’m not including employer 401k deposits (matches) in my calculations. I don’t know what your employer’s match policy is, or if they have a match at all.

I don’t know how long you’re going to be at this income level, and frankly, neither do you. You may think you’re going to increase your income based on some sort of master plan, but that plan may or may not be ridiculous

Your before-tax monthly income prior to any retirement plan contributions or benefit deductions is $3,333.33. We need to decide how much of this should be set-aside for future use. Your income must serve not only your present lifestyle, but also your past if you have debt, and of course your future. At some point in time, likely when you’re around 67, your work income will end. You then have to figure-out how to survive financially for the next couple of decades. Have you ever thought of it that way? The problem is that if you wait to solve the problem until it’s right in your face, there’s no actual solution. The solution starts now. You must prepare for your future, and a 401k is a great place to start.

If you were earning $100,000/yr or more, I would implore you to defer $18,000/yr toward your future, because that’s how much you can contribute when you’re 49 years old or younger. The IRS controls the limits, and it behooves you to take advantage of whatever the IRS lets you take advantage of. Maxing-out your 401k ($18,000 contribution) isn’t practical when you earn $40,000yr. However, that doesn’t mean you should ignore the need to save for the future. I’m going to set the first option at a 10 percent 401k contribution

I’m going to run through three different spending plans. The plans are different based on how much you save for the future, via your employer sponsored retirement plan (401k). That money not only is saved prior to hitting your checking account, but you get to deduct that income from your taxable income. That’s a REALLY good thing. Not to get to deep into the weeds here, but if you’d rather put money into a Roth 401k, have at it. You can’t deduct the contributions from your taxes now, but you may have better tax advantages at withdrawal. **I have a blog post coming soon on the differences between Roth and traditional. Stay tuned.

Ten percent contributions to your 401k

  • $2,006.98 take-home pay
  • $333/month 401k contribution
  • Projected 401k balance from age 30-67 $904,561

Broken down, here’s how you’d spend your money:

  • $501 for Rent or Mortgage (includes principal, interest, property taxes, and taxes)
  • $300 for Transportation (includes car payment(s), fuel, insurance, maintenance
  • $240 for Groceries and Dining-out
  • $200 for Emergency Fund of Mid-Term Savings (includes college savings)
  • $200 for Utilities (includes EVERYTHING)
  • $100 for Community/Charity
  • $100 for Clothing
  • $100 for Entertainment
  • $100 for Medical
  • $100 for Holidays and Gifts
  • $60 for Miscellaneous.

If you live THIS financial life, you will legitimately do as well as possible on $40,000/yr. I can’t promise you that, you know, because obviously. But this is a beautiful and flexible financial life. Don’t have that high of transportation costs? Cool. Adjust the pie. Spend more on housing? Fine. Adjust the pie. Eat too much pie? Okay, man. Adjust the pie. It’s not terribly hard. The key to making this life work is to keep transportation costs lower than $300/month.

Five percent contribution to your 401k

  • $2,173.65 take-home pay
  • $166/month 401k contribution
  • Projected 401k balance from age 30-67 $450,922

Broken down, here’s how you’d spend your money:

  • $543 for Rent or Mortgage (includes principal, interest, property taxes, and taxes)
  • $325 for Transportation (includes car payment(s), fuel, insurance, maintenance
  • $260 for Groceries and Dining-out
  • $217 for Emergency Fund of Mid-Term Savings (includes college savings)
  • $217 for Utilities (includes EVERYTHING)
  • $108 for Community/Charity
  • $108 for Clothing
  • $108 for Entertainment
  • $108 for Medical
  • $108 for Holidays and Gifts
  • $65 for Miscellaneous.

This is probably the most common financial life I see at the $40,000/yr level. My primary issue with this life is that you will have set aside less than $500,000 for retirement when it’s all said and done, and that $500k will do next to nothing to create a sustainable retirement income stream.

No contribution to your 401k

  • $2,340 take-home pay
  • $0/month 401k contribution
  • Projected 401k balance from age 30-67 Goose Egg

Broken down, here’s how you’d spend your money:

  • $585 for Rent or Mortgage (includes principal, interest, property taxes, and taxes)
  • $351 for Transportation (includes car payment(s), fuel, insurance, maintenance
  • $280 for Groceries and Dining-out
  • $234 for Emergency Fund of Mid-Term Savings (includes college savings)
  • $234 for Utilities (includes EVERYTHING)
  • $117 for Community/Charity
  • $117 for Clothing
  • $337 for Entertainment
  • $117 for Medical
  • $117 for Holidays and Gifts
  • $70 for Miscellaneous.

Please don’t do this. It’s incredibly short-sided. You are completely ignoring your future. It’s borderline childish.

What to do now

I have no idea how you’re going to react to this post. Maybe it motivates you. Maybe it pisses you off. Or maybe it makes you feel like I felt when I didn’t get cast on a financial television show because I “wasn’t attractive enough”. Was I attractive enough to be on the show? No. Did that hurt my feelings? Not after about 10 minutes. Did it change who I was or what I needed to do next? Not really. It really just made me want to work harder and control all the things I can control.

Your $40,000/yr household income is just your current reality. It is not necessarily your destiny going forward. If you can master your current life on $40,000/yr, then you will be in a great position to make great decision when your income increases.

If the numbers I just shared with you don’t work for you, then do something about it. Get a second gig. Just make sure your second income doesn’t increase your lifestyle even more. Because when that second gig goes away, life will be hell.

As evidenced by the “10 percent contribution to 401k” life, you can still become a millionaire on a $40,000/yr income, especially if you get money flowing toward retirement prior to age 30.

The absolute bottom line is this: Life on a $40,000/yr income only gets ugly when you make bad financial decisions.

Need additional help? Check out the Your Money Life series.

**Thanks again to Phil Schuman from IU MoneySmarts for the paycheck calculator. I owe you lunch, Phil.

11 thoughts on “How to craft a life on $40,000/yr

  1. Median household income is around $58k. That means half of households earn less than that. Half! That includes single people (like your example here) and families with any number of kids. As a tax accountant in a lower income neighborhood, I regularly worked with families raising kids on less than $40k – often single women were raising kids on less than $30k ( many without any child support).
    About 5 years ago, my single son was living a nice life on $25k a year. He saved in his Roth IRA and didn’t want for much.
    So, I think your comments here that imply that $40k for a single person is practically “poverty” speaks to how disconnected society is from reality (and, yes, television definitely contributes). This disconnect is also the reason for the widespread lack of empathy towards the poor and the ridiculous belief that households are “middle income/class” at levels that are statistically well into upper income (over $100k).

  2. Hi Pete, I’m assuming these blog posts for $40k and $120k are per individual. What about married couples? I’m a teacher and my wife is a pharmacist. Should we use what you are saying individually for retirement savings? Me follow the $40k plan and her follow the $120k plan? Both ends of the spectrum. Thanks!

  3. The calculator that you link to uses the marginal tax rate as the total tax rate. For example, on an monthly income of $10k, the calculator lists the federal tax as $2500. This is completely incorrect. Therefore, in your examples, the people would have much higher take home pay then you list. As a retired tax accountant, I would be happy to help you get a more accurate number.

  4. I just finished college and got my first “big kid job” making $40k a year ( a big increase from my $20k previous job) and this is really helpful! I’ve never been great at budgeting, I kinda just payed my bills and saved the rest terrified of not having money for emergencies (of which there always seem to be a lot when your broke). I’ll definitely be using this model to get started. 🙂

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