Grad School Finance #1: Keep Living Like a Grad Student

This post is intended as advice for newly-minted PhDs starting their first post-graduation jobs now or in the near future. TL;DR: Your best strategy to set yourself up for long-term financial success is to continue living like a graduate student (or as close as you can) for a few years and save the rest.

This is the first in a series of posts about how to go to grad school without tanking your financial life long-term. For alternative / complementary strategies, see:

Your Most Important Remaining Financial Decisions are Happening Right Now

Probably the most financially-consequential decision you ever made was to get a PhD in an academic field. If you’re reading this, that decision is likely years in the past, so we’ll save a treatment of that decision and its likely consequences for another post.

However, if you’re early in your post-grad school career, the 2nd-most financially consequential set of decisions you have to make are happening right now.

Why? Outside of inheritances and windfalls, wealth accumulation nearly always happens through compound interest-like processes. If you put money in a savings account, every so often interest is applied. More importantly, each time period’s change in value is a multiple of the previous value, and future value increases are multiplied by the new value — in other words, over time, your interest also accumulates interest. Due to the power of compounding interest, even single-digit growth rates can result in dramatic increases in total value if sustained over many years.

You can use the rule of 72 to get a sense of this: Divide 72 by the percentage growth rate and you’ll get an approximation of the doubling time. So, if your house’s value appreciates by 7.2% every year, its total value will double in about 10 years. If it experiences this same growth over 4 decades instead of 1, its value will increase 16-fold rather than 2-fold, a ratio of 8, even though the time period was only 4x longer. This is the magic of compounding — the sooner you start it, the more total value will be added by the marginally-added years at the back end of the growth period. So naturally you want to start that process as early as possible!

This means that on average, financial decisions you make now have much bigger consequences than those you make 10, 20, or 30 years from now. This is what I mean when I say that your most important remaining financial decisions are in front of you, now.

The Bad News

The bad news is that it’s too late to go back in time and get a high-paying job throughout your 20s. Since that’s when most people’s careers start, those are the most important wealth accumulation years of most people’s lives — again assuming 7.2% annual appreciation, $1,000 invested when you’re 25 is worth $16,000 when you’re 65. The same numbers are $8,000 if you invest the same $1,000 when you’re 35, $4,000 when you’re 45, and $2,000 when you’re 55. The longer you wait, the smaller the returns at a fixed point in the future.

Sadly I, and most likely you, spent these precious years in graduate school making $20k a year and likely accumulating either little or negative wealth. Let’s say you’re 30 years old now and starting with a $0 net worth. It may feel too late, but it’s not — it will just be more difficult. Thankfully, you have one key advantage that those people who had good jobs straight of college probably don’t.

The Good News!

The good news is that you have two financial superpowers going for you:

  • High human capital and associated earning capacity.
  • You’re well-accustomed to living like a graduate student.

This post will focus on advantage #2.

Yes, that’s right, I’m here to argue that your graduate school borderline poverty is an advantage for you now compared to someone (let’s call them Tim) who earned a $70,000 salary since they were 22 and are also at $0 net worth, perhaps due to his penchant for lavish Instagram vacations or avocado toast or whatever.

Here’s why: To state some obvious arithmetic, your total savings rate is your total income minus your total spending. (I’m ignoring taxes throughout this post. The points still hold.) If your net worth is now $0, that implies that you lived within or below your means throughout graduate school, which means you know how to get by on $20,000 a year. That’s a skill that Tim probably doesn’t have. So, for the same total income, you are better prepared to have a higher savings rate than ol’ Timmy.

If you’re the academic I’m describing, my best advice is: Keep living like a graduate student, and save the rest, ideally in tax-protected retirement accounts. If that’s not feasible, that’s fine – live like a postdoc (~$40k/year) instead.

If your new job pays the same $70,000 a year Tim’s does, and you both keep living like you’re used to doing, then the again obvious arithmetic works out as follows:

  • Tim’s:
    • Income: $70,000
    • Expenditures: $70,000
    • Savings: $0
  • Yours, living like a grad student:
    • Income: $70,000
    • Expenditures: $20,000
    • Savings: $50,000
  • Yours, living like a postdoc
    • Income: $70,000
    • Expenditures: $40,000
    • Savings: $30,000

A Suggested Goal

Obviously, living like a grad student is an ambitious savings rate — 72% of your income! Living like a postdoc is also ambitious, at a 43% savings rate. For many reasons I’ll discuss below, that may not be realistic for you. Still, coming as close to this as you can will pay huge dividends due to the magic of compounding.

To reach an ambitious goal, you need to know why you’re doing it, and when enough is enough. I can’t answer either of those questions for you, but let me suggest a starting point: Catch up with where you would have been if you hadn’t gone to grad school and saved 15% of your income. If you’d graduated at 22 and gotten Tim’s $70,000 salaried job and followed most financial columnists’ advice to save 15% of it ($10,500 per year), if we assume it would have earned 6% real appreciation per year, those savings would now be worth $103,923.

AgeYour Counterfactual Net Worth

What’s more, that money will continue to appreciate while you’re catching up. What’s the crossover point? If you follow the standard 15% savings rate advice, it’s never. You need to save more than that to catch up with your financially-responsible counterfactual. However, if you take my live like a graduate student advice, it doesn’t actually take long at all, and it’s not too bad if you live like a postdoc either:

AgeYour Counterfactual Net WorthYour Net Worth (Grad Student)Your Net Worth (Postdoc)

If you continue living like a grad student, you’ll catch up with your 15% saving non-PhD counterfactual in just 3 years. If you live like a postdoc instead, it’ll take 7 years. Either way, by the time the tenure track is up, you’ll be in a very good position! Once you hit your cross-over point, you have a lot more options, confident that you’re on a strong financial path.

Ok, Back to Real Life

Alright, but let’s be a little less pie in the sky. I imagine the 7 of you (4 of whom are close family members) who have read this far are thinking, “Sure, just save 72% of your income! Easy!! While I’m at it, maybe I’ll spend negative dollars each year and accumulate wealth even faster!!!” Ok, fine, I didn’t say it would be easy. And there’s nothing magical about the $50,000 or $30,000 a year numbers from before except that they’re nice and round and readily illustrate how powerful it is to not let your consumption rise as quickly as your income.

Which highlights the real point: Your biggest enemy here is lifestyle creep. You’ve waited your whole life to earn a middle class salary, and you finally have it. All the things you’ve wanted but deferred are now within your reach! Plus, won’t your new colleagues and neighbors think it’s weird if you don’t spend like them? What if you want to have children, buy a house, or take an honest-to-goodness vacation for once?!?

All of those things are entirely reasonable. However, the closer you come to these ideals, the more rapidly your wealth will build. If you want to eat out more, take more vacations, etc., you can certainly do that (as I did), but I recommend that you do so as frugally as you can while meeting your and your family’s needs to better approximate the goals described.

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