The $466k Couple in Brooklyn

If you like to read about personal finance, you may be familiar with Lindsey Stanberry and “The Purse.” Lindsey writes about women and money, and a few weeks ago, she began a feature called “Home Economics.” From the introduction: “…where we take a deep dive into someone’s financial situation by looking at their earnings, monthly expenses, and general money story.” Just short of age 40, a working couple, I will call them “Brooklyn,” spilled the beans about their financial life, goals, and feelings about money. Detailed, personal, and anonymous. Fascinating.

Brooklyn needs a financial plan. Most of us do, but how do we begin? People think beginning requires gathering receipts, recalling transactions, and building a current budget. A painful, time-dependent endeavor that is a barrier to getting started. Maybe you are inspired to reach out to planner-advisers at some well-known brands: a planner at Bank of America/Merrill Lynch, another at Schwab, a third at Fidelity, and a fee-for-service planner who is a member of NAPFA. What would the financial plan recommendation for this year look like? How about in five years? There would be data gathering about existing financial assets, questions about financial goals, and an assessment of risk aversion, but recommended plans will vary substantially across planners. Some would say there is an art to financial planning, and some planners listen better than others to their prospective clients while assessing needs. Your goals are to interview them, learn how they get paid, and determine the best planner for you and your family. What would you find?

The good news: financial planning awareness is no longer limited to the wealthy. The not yet good news: baseline economic-based financial planning is in its toddler stage, and odds are higher a planner search will identify planners who sell products and will find reasons to do so.

If you are considering a financial planner, keep “Finding a Financial Planner” handy, or join me through a Chat.

Brooklyn’s Not Alone

For a few years, I have been in the academic business of educating students in economics-based planning, helping students learn by guiding them through constructing financial plans for actual households. Participants are eager to produce information, much like Stanberry’s Brooklyn. The objective of the student project is to build a baseline financial plan for the household’s current year that optimizes the lifetime living standard using economic methods.

The baseline has all known information to date, including any “savings for a purpose” goals, expected taxes, Social Security benefits, etc. The baseline plan reports the household’s magic number, which is valuable information that prescribes aggregate spending and savings for the following year.

One of the beauties of economics-based financial planning is that it minimizes the upfront information a client needs to assemble the initial plan because optimal planning produces a total spending recommendation.

What about Brooklyn? I was struck by what the reveal left out when I read through Brooklyn's details. Among the financial information and preferences, it wasn’t clear what Brooklyn wanted. What is the best path toward an early retirement? The sufficiency of their reserve fund? Consolation their financials and spending metrics are +/- a standard deviation around most people with their income?

I thought, who wouldn’t want to know how to achieve their highest living standard? Brooklyn would learn and might even respond with additional details or make concrete information, I had to assume, without other questions. At a minimum, Brooklyn’s baseline financial plan would tie together Stanberry’s work, my classroom interests, and the objective of this newsletter. Here it goes.

Brooklyn’s Magic Number

I found the near-term baseline target: $460,060 for the following year.¹ Housing, utilities, fees, and household retirement contributions are estimated from Brooklyn’s data, and taxes are estimated given their New York residence and the Social Security tax rate.

In the table, discretionary spending provides the floor and ceiling on all other spending for Brooklyn for the current year. The amount informs the best level of living standard. As discussed in chapters one and two of our book, Nobel laureates underpin this approach. If Brooklyn looks at all their expected spending for the next year and it adds up to more than their magic number, then they should cut back. If they don’t, they are giving up a higher future living standard that costs more than the benefit from the additional consumption in the present. That is satiation playing its role in scooting spending across time.

If Brooklyn’s expected spending next year undershoots their best living standard for the next year, then why? Do they have savings objectives that were not described and need to be accounted for? If not, then they can improve life immediately, knowing they have the funds this year to plan a trip, go out another night during the week, or pull the trigger on a weekly personal trainer. Their lives. Their preferences for enjoying it.

The big picture is the point, and technical machinery is underneath the magic number. Readers who want to download the optimized plan, including assumptions, can find it in the resources section at the bottom of this page on my site. Brooklyn’s clarification about an assumption or a preference, even changes in investment parameters to build the plan, is easy after the baseline is created. Then, in a year, when the Brooklyn household is 39 and 40, and the children are a year older, assumptions are updated for actuals, planning is revisited, and the model is rerun.

How About You?

Take inspiration from the fact that detailed, granular to dollars and cents, data gathering isn’t required for first-stage economics-based planning. If you would like to DIY your planning, in this post from a few months ago, you will find the necessary questions to answer. The data flows into the software box, and you are on your way to finding your magic number. Blend in estimates of your average monthly bills for food, shelter, and clothing, then manage the balance of spending to make the household happy. It's pretty simple, really. And PFE chat can help the learning process.

1. The target for Brooklyn’s next year is acquired with a life-cycle methodology built into the software MaxiFi Planner, developed by Larry Kotlikoff’s firm. My students work with the Pro version of the software for their client's baseline plans and many other case studies to solve everyday financial planning questions. It is fabulous technology with a good interface for DIYers.