Recently I wrote a blog about “The Big Five of Retirement Planning” which are the five factors that most impact how successful your retirement will be… at least financially. These are:
- How long you work
- How much you spend
- How much you save
- How hard your money works for you
- How long you live
Other factors have an impact on your retirement plan, but these five carry the day. A few months ago we explored the first of these five… how long you work. Today, we’ll focus on spending, which is usually the single biggest driver of how successful your retirement plan will be. Time and again when we talk to lawyers about your financial habits many of you express concern that you spend too much. Here are some quick thoughts on this factor, depending on your career stage:
The habits you form as an associate will shape the way you spend as a partner. Whatever you do as an associate you’re likely to do as a partner… you’ll just do more of it. As lawyers, you face a high-class problem which is that you make a lot of money at an early age. For example, in 2016, the prestigious New York law firm Cravath, Swaine & Moore made headlines by raising the base salary for first year associates to $180,000. That may be an extreme example, but the point still holds… lawyers are paid very well, very early. Combine this high income with the fact that it’s fun to buy stuff and you have a dangerous combination. As a result, associates would be wise to start practicing “lifestyle lag” from day one. Instead of buying the most expensive of everything you can afford, try buying 80% of what you can afford. The discipline of practicing lifestyle lag will serve you well as your compensation grows to multiples of what it is now.
For income partners it’s more about preparing for what’s to come. Assuming your goal is to become an equity partner you should tailor your spending accordingly. It’s common for newly minted equity partners to feel a cash squeeze as they adjust to quarterly tax payments and the “draw plus distribution” compensation model. Anticipating these changes by keeping your spending in check during your income partner years can give you much needed breathing room in those early years as an equity partner.
By now you may be at the point where the uncertainties of whether you’ll have enough to pay your quarterly tax payment or private school tuition are distant memories. This is a high class problem of its own. Underneath this cloud of financial comfort lurks a dangerous temptation. The more you make the easier it is to lose track of your monthly burn rate. The reality is that you only have so many years where your income spigot will run at full psi like it is now. At some point, either by your choosing or the firm’s, it will be time to move on. When that happens your spigot gets removed from your firm and plugged into your portfolio. Without a clear handle on your current spending, how can you know how much you need to save between now and retirement in order to sustain your current lifestyle until age 90 or 95?
Whether you’re just starting out or a seasoned veteran getting a solid handle on your burn rate is critical to your financial security. More than any other factor, spending will dictate how likely you are to enjoy the retirement you’ve worked for.