How Teachers Can Become Billionaires, or At Least Multimillionaires

(photo credit)

This week, I would like to focus on the finances of one of America’s most important occupations, teaching. There are millions of teachers in the US, so if you’re not one yourself you probably know someone who is.  Most of what I’m going to write applies to anyone with a similar occupational profile, but I want to target it towards that group. In regards to the title, a lot of you are going to laugh at me right now for saying the teachers can become billionaires.  Unfortunately though, most workers of a modest wage write off their ability to ever build meaningful wealth in this country.  To illustrate how even underpaid professionals like teachers can become fabulously rich, I thought I would run a simulation to show that a couple of teachers can really become billionaires one day, even though there are some major caveats.  For all you public servants out there, here’s a way to serve society and secure a spot on the Forbes list at the same time. Along the way, you’ll enjoy long summer vacations, smart coworkers, and the knowledge that you’re making a difference.

The Teacher Billionaires

So let’s paint the picture. Tom and Sarah meet at 18 at a local state university with super low tuition. Any money they need for their education they take out as student loans since any balance will be forgiven after 10 years of teaching. I’m going to assume that they are really hard working young adults and get part time jobs at 18. During college, they work about 20 hours a week and max out their Roth IRAs at $5,500 a year. I’m treating their finances in a unified fashion since they end up getting married at 22.

Once they get full time teaching jobs, I assume that they get starting salaries of $40,000 a year each. Since they get married, they are in the 15% marginal federal tax bracket. If you throw in their Social Security and Medicare taxes let’s say that their effective rate (what they really pay as a percent of their income) is 20%. Let’s say they save 50% of their combined pretax income each year, $40,000 to start. That means they will live off $32,000, a very reasonable and conservative living standard that’s very possible in low cost areas of the country.

Their investing strategy is really aggressive. Because they are teachers and have a pension to go with their Social Security payments, their basic retirement needs are secure. That retirement security means they can swing for the fences with the rest of their money. They invest in a combination of emerging markets, small cap value stocks, and real estate index funds. An equal mix of these three asset classes returned more than 12% annualized over the past 50 years, so I’m assuming they will earn 12% a year. That’s a very, very high return, but it’s possible because it happened before. I didn’t say likely, just possible. Past performance isn’t a guarantee of future results, but it also doesn’t mean it can’t happen again.

Finally, they continue to invest $40,000 a year and adjust the contributions upwards over time to account for inflation . They retire at 65 and live off 1% of their portfolio. OK now for the figures. Here’s how the growth of their portfolio looks:

Age Savings Portfolio
18 $11,000 $12,320
22 $40,000 $110,747
25 $43,709 $315,661
35 $58,741 $1,967,522
45 $78,943 $7,437,442
55 $106,093 $24,882,430
65 $142,581 $79,677,068
75 $0 $226,236,739
90 $0 $1,082,449,925

Holy cow! They are billionaires by age 90! Sure that’s a long time to live to wait to achieve that status, but they made it! So why aren’t there more billionaire teachers out there? What gives?

OK You Got Me, We Need to Adjust for Inflation

There are a lot of Zimbabwe trillionaires out there. Because they got that way from 100,000% inflation, they often struggle affording basic goods like fruits and vegetables. The number on your dollar bill means nothing except for what you can buy with it. A Billionaire is a coveted title because of the massive amount of purchasing power that comes with it. To be honest in this simulation we need to adjust the portfolio downward by our inflation assumption of 3% a year. Now we will be dealing with real 2015 dollars, so this represents their wealth in today’s terms.

*Adjusted for Inflation, All Figures now in 2015 dollars (that means we subtract 3% a year from the 12% return they got)
Age Savings Portfolio
18 $11,000 $11,990
22 $40,000 $103,367
25 $40,000 $276,788
35 $40,000 $1,317,670
45 $40,000 $3,781,815
55 $40,000 $9,615,343
65 $40,000 $23,425,425
75 $0 $56,118,913
90 $0 $205,692,292

$200 million is still an absolutely massive amount of money. That still makes other members of the 1% look like paupers compared to our hypothetical teacher couple. So while the original title of Billionaire didn’t actually represent their purchasing power, we can see that the real sum they end up with is still really high. Sadly, in real life people pay lots of money to financial helpers and pay taxes, so we need to keep adjusting the return downwards until we get to a realistic number.

Taking into Account Taxes and Advisor Fees

Financial advisors as a group are an expensive bunch. The average advisor is going to put his clients into mutual funds that charge 1% in annual fees. On top of the fund fees, which go to the mutual fund company, the advisor wants to get paid too. That means he will take an additional 1% fee on top of what the funds charge.

If I used a realistic figure for tax drag, which is the reduction in investment performance from tax payments, it would probably be 1-2% a year. Because there are low cost advisors out there that put their clients in cheap index funds, and these teachers are in a low tax bracket and make use of some tax deferred retirement accounts like Roth IRAs and Traditional IRAs, I’m only assuming we lose 2% here from advisor fees AND taxes. This is a charitable assumption because it’s probably closer to 3-4% for the average person but a 2% drag is also within the realm of reason.

So we started with 12% and had to reduce it to 9% because of the 3% inflation we were experiencing. That adjusted all the figures to 2015 dollars so we’re comparing apples and apples. Now we reduce the return by the 2% hit for taxes and advisor fees to bring the net return down to 7%. Here is what we’ve got:

*Adjusted for taxes and financial advisor fees (knocking off 2%, 2015 dollars)
Age Savings Portfolio
18 $11,000 $11,770
22 $40,000 $98,716
25 $40,000 $258,529
35 $40,000 $1,099,910
45 $40,000 $2,755,034
55 $40,000 $6,010,913
65 $40,000 $12,415,719
75 $0 $25,014,942
90 $0 $70,092,537

The shockingly large portfolio at age 90 continues to decline. We are now down to $70 million. While that is still a huge sum, it’s a far cry from being one of the wealthiest people in America. Still, if you’re investing in a pretty tax efficient way, using an aggressive strategy, employing a low cost advisor, and don’t make big mistakes, this result is quite possible.

Real People Make Real Investment Mistakes, So We Need to Adjust For That Too

A really great paper by Vanguard looked at the amount of value provided by a good advisor compared to the average unadvised investor. One of the biggest sources of value add came from the advisor just talking their clients out of making really foolish decisions. In my prior corporate life, I had a retirement client call in and tell me that he wanted to pull out all of his savings in the stock market and put 100% of it in silver bars. I asked him how he came to this conclusion, and he told me that he had received a really compelling letter in the mail from one of the advertisers on his favorite radio show. The letter promised double digit returns and spoke of the coming apocalypse due to runaway government spending and how only silver could protect his portfolio (honestly I don’t know how more investment solicitors don’t go to jail, this is so misleading). I asked him if he knew the long term performance of silver and he said no, and I told him that over the past 200 years the stock market had performed about 600,000 times better than silver, and he changed his mind. Commodities went on to take a massive beating and the stock market surged ahead in 2013 and 2014. If he didn’t change anything, he should be sitting on cumulative returns of around 40%-50%. If he did it his way, he’d be looking at cumulative losses of about 25%. That’s a swing of almost 75%.

That’s just one example. Individual investors act on intuition, which is usually wrong. When investors pick funds for themselves, they usually pick the ones with good short term performance records. That means they usually buy something that’s already run up in value and provides less investment opportunity. When do distant relatives come out of the woodwork to tell you about their hot stock tips at family reunions? After ridiculous streaks of performance that are unlikely to be replicated.

So that was a lot of explanation of what kind of mistakes people make. Sometimes advisors can’t even talk people out of these errors in judgment. I will assume our teacher couple panics a little and makes a few bad decisions along the way. Most of these errors get fixed after a few years watching the markets climb so the damage is limited to 2% a year. Here is what that looks like below:

*Adjusted for investment mistakes (knocking off another 2%, 2015 dollars)
Age Savings Portfolio
18 $11,000 $11,550
22 $40,000 $94,271
25 $40,000 $241,536
35 $40,000 $921,707
45 $40,000 $2,029,636
55 $40,000 $3,834,334
65 $40,000 $6,773,998
75 $0 $11,562,400
90 $0 $24,943,699

Now down to a mere $25 million. Our teachers ARE mortal! Even the really smart ones that save half their income and start putting money away at 18 years old under these return assumptions only walk away with $25 million, and that’s if you are lucky enough to make it to 90 years of age with an aggressive portfolio.

The Final Adjustment: Nobody Can Save THAT Much and Invest THAT Aggressively

My final move is to concede that few people have the stomach to invest in extremely risky asset classes like emerging markets for a 50 year period. More realistically, the teacher couple would be dialing down their risk over time with more conservative investments, which naturally would decrease the return. Also, 50% of pretax income is just so high for anyone to save that it’s probably unrealistic even for the most frugal people out there. A 25% pre-tax savings rate is probably more realistic because it’s hard to stay motivated enough to have that much of your income going to investments.  Most people like to go out to eat, donate to church or charity, go on nice vacations, and shop occasionally so the 25% savings rate is more defendable as a possibility.  Also, no one has money in college so I’m assuming the couple contributes nothing during their undergrad now. The first contribution is at age 22 for both of them when they get real jobs.

Since our era is supposed to produce lower real stock returns than the booming 80s and 90s according to famous people like John Bogle, founder of Vanguard, it’s a prudent thing to do to lower our return assumptions when predicting this couple’s wealth. Hence, because the couple will have a more conservative investment strategy and encounter lower real returns, I will take down the portfolio return by another 2%. We now have a 3% real return assumption for the portfolio investments, which is an extremely realistic return to shoot for after fees and expenses for the average investor. It isn’t great, but it’s not terrible either. Even relatively high fee brokers using expensive mutual funds might be able to get you this return long term. So let’s see how much the teachers have at the end of this long investment program.

*Adjusted for less aggressive investment strategy over time, 25% savings rate, no savings during college (knocking off another 2%, 2015 dollars)
Age Savings Portfolio
22 $40,000 $20,600
25 $40,000 $86,183
35 $40,000 $351,978
45 $40,000 $709,185
55 $40,000 $1,189,242
65 $40,000 $1,834,397
75 $0 $2,701,432
90 $0 $4,591,881

What We’ve Learned From These Hypothetical Rich Teachers

(photo credit)

We’ve shown that, using realistic assumptions, a married teacher couple could never hope to be billionaires in terms of 2015 US Dollars. The only exception is if they invest in a very aggressive portfolio starting at age 18, live to over 100, save at least 50% of their pre-tax income, make no investment mistakes, manage their own money without the help of an advisor,  and pay almost nothing in taxes. That’s possible just extremely unlikely.

The result of the final scenario of a 3% real return (meaning 3% growth after controlling for inflation) coupled with a 25% savings rate is extremely interesting. It shows that a modest couple saving a good deal of what they earn can retire as multimillionaires. All you have to do is get started as soon as you can, because this couple made a lot of mistakes, paid a good deal of fees, and invested more conservatively than they could have otherwise, but they still became really wealthy.

So from this work I’ve done, why aren’t there more multimillionaire teachers? I’ve gone through so many punishing scenarios to try and make the $1,000,000,000+ we started with shrink to as tiny a sum as possible. I wanted to try and discredit my own wild suggestion that teachers could be worth 10 figures. However, all I’ve done is show that all teachers could be retiring as millionaires, so why is this so rare?

Some reasons include that most people don’t ever get started in investing until their 30s or even 40s. Retirement is such a long way off and teachers are paid so little anyway it’s easy to adopt a “I’ll get to it tomorrow” attitude about investing. That delay costs you a lot. Some teachers never end up investing in the market at all. I know of one teacher who left his accumulated $70,000 sick leave in cash because no one told him he could invest it differently. Teachers also make prime targets for annuity and insurance salesmen. These financial professionals get such huge commissions that working with low account balances isn’t as much of a problem for them as it would be for a high quality low cost advisor who can’t make enough money to justify taking on the client. Hence, they like to ask the school administrators for permission to set up shop in the school’s faculty lounge. Since most principals don’t know how terrible and expensive their advice is, they say yes. Teachers talk to these salesmen and put their money with them, where it grows at much slower rates long term than if it were invested in a diversified portfolio of index funds.

My dad retired as a teacher with almost 40 years experience educating young people. He seemingly always took work home with him, got burdened by all kinds of administrative nonsense, and was not appreciated like he deserved to be. I think a lot of teachers can relate to his story. I want all teachers to shock the world and themselves by investing early and intelligently so that they can retire in luxury as multimillionaires. The good news is there’s a wide margin for error as long as you GET STARTED! That’s truly the most important step. Do you know any multimillionaire teachers or teachers that are great at personal finance? Do you think it’s possible for anyone working for a paycheck to become a billionaire one day solely by investing and saving a high percent of their income? Comment below…

2 thoughts on “How Teachers Can Become Billionaires, or At Least Multimillionaires”

  1. I agree that people with modest incomes think they can’t become millionaires, when all it takes is some semi-savy investing knowledge and dedication. But I feel like most people are also fine with the tradeoff of living a little more luxuriously over their lifetime rather than accumulating a large sum that they’ll basically never touch. Because you still can’t take money beyond the grave, right?

    1. True, but maybe the conclusion should be saving aggressively for an early retirement so you don’t die rich!

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