Anybody who has a background in investments and is familiar with how to save money knows the oft-repeated mantra of saving: The first $100,000 is always the hardest to save. You might wonder why that’s a commonly accepted truth; shouldn’t going from $400,000 to $500,000 be just as hard as starting with nothing and going to $100,000?
The answer is no, and the reason is simple: The more money you have, the more interest you’ll make. Even if you have two accounts with the same annual percentage yield, a larger account will always bring in more interest than a smaller account.
It won’t completely mitigate the difference between the two accounts, but if you want to make more interest on a smaller amount of money, one way is to invest your money in an account with a compound interest rate. A compound interest rate will reinvest your returns — that is, all interest earned goes right back into your account and further interest is accrued from that larger amount. By saving with compound interest, you can make much more money than you would on a simple interest rate.
Here’s the formula for calculating compound interest earnings:
A = P(1 + r/n)nt
Amount accumulated = principal amount x (1 + (interest rate ÷ compoundings per period))ˆ(compoundings per period x number of periods)
For example, if you have $1,000 saved in an account with an annual interest rate of 3 percent, compounded quarterly, you can calculate the balance after 10 years as:
Amount accumulated = 1000 (1 + (0.03 ÷ 4))(4 x 10) = $1,348.35
You can see that the more money you have, the more money you make. That’s why it’s important to begin saving early and contributing as much as possible. To help you build your savings so that you can take advantage of compounding interest, here are seven strategies for saving up your first $100,000.
1. Start Saving Young
It’s never too early to start saving. Ideally, your first deposits should be going in as soon as you leave college and start a career. Using compound interest, saving money each year — even if it’s only a few thousand dollars — can produce larger savings year after year, progressively increasing the amount saved. Getting your first deposits in early will put you that much further along in the deposit cycle.
“One of the biggest problems is being unemployed or underemployed,” said Roger Wohlner, a financial advisor and writer who publishes The Chicago Financial Planner. “In both cases, it is important to be diligent in trying to find a job or finding one that provides a salary that allows them to cover the basic expenses and begin a savings program.”
2. Automate Your Savings
Staying on track for the long-term goal of saving that first $100,000 is easier when you build in small practices toward that goal. One of the easiest ways to save money is to automate the process so you don’t think about it — and don’t leave yourself a choice of whether to put that money away or spend it. You can start by automating a deduction from every paycheck to be deposited to a savings account via direct deposit or a transfer from your regular checking account.
Even if you feel you can’t afford to save much, your consistent contributions, however small, will add up over time. Plus, after continuously and automatically putting away savings for a few months, you probably won’t notice the money missing from your disposable income.
“Have money automatically invested from each paycheck to build an emergency fund, dollar-cost average into one or more mutual funds, or to defer money into your employer’s 401k,” Wohlner said. “You won’t miss the money, and you won’t spend the money on something else.”
3. Max Out Your IRA
Retirement should be high on your list of priorities no matter how young you are; saving and putting money into your individual retirement account are key financial practices to begin while you’re young. You should take advantage of tax benefits by putting in as much money as you can into your IRA each year.
Most workers can put up to $18,000 in an IRA every year. Maximizing your IRA contribution is critical — retirement funds dry up quickly, so putting in as much as you can is highly beneficial. There are several different types of IRAs, each with its own advantages, and choosing the right type of IRA just as important as putting money in it.
4. Choose the Right IRA for You
There are two main types of IRAs you can choose as an individual taxpayer: a traditional IRA or a Roth IRA. Each type offers upsides, and deciding which one is better for you might hinge on your level of income security.
With a traditional IRA, you’ll be able to save your money before taxes are deducted, so you’ll get a tax break. But if you withdraw money early from a traditional IRA, your early withdrawal will be subject to a penalty. If you might need to withdraw money at some point before retirement age, a Roth IRA could be the better choice for you: Qualified distributions from a Roth IRA are tax-free.
5. Prioritize Debt
It’s not uncommon to face some sort of debt early on in your career. That debt can seem overwhelming when you face it all at once. That’s why you should have some debts prioritized over others — and the necessities for living, such as food and housing, need to come before anything else. It will be very hard to keep a job and pull yourself out of debt if you can’t feed yourself or don’t have a place to live. After those priorities, you can take care of less important debts, such as utilities, credit card debt and student loans.
“In a perfect world, those trying to save their first $100,000 would balance this goal with reducing their debt,” Wohlner said. “In the case of college loans, there is a mandated time frame to begin these payments, and they need to become part of your budget. A good approach, if possible, is to make your savings automatic. A great way to do this is via the payroll deduction for your company’s 401k.”
6. Be as Frugal as Possible
If you want to save money, a critical action to take is to stop spending more money than you need to. You need to cut down on your day-to-day expenses, create a budget and accept sacrifice as a part of saving. Stop eating out every night. Buy a used car instead of a new one. Don’t upgrade your phone every year if it’s still in working condition.
Being frugal might be a necessity depending on your income. A $5 expense might seem harmless, but when you’re spending it every day, that’s over $1,500 a year that could be going toward retirement. If you want to save money, you’ll likely have to live below your means.
7. Generate Additional Income
Another thing you can do to save money is to generate income outside your primary workplace. Take advantage of your hobbies and talents to earn some money in addition to income from your day job. If you’re exceptionally good at a craft, for example, you can set aside an hour a day to make those crafts and sell them online. Or if you’re a great writer, look into freelance work opportunities. If you’re interested in investing, try getting involved in the stock market.
Whatever you’re good at, you should take advantage of it. A hobby-turned-side-job can be an easy and enjoyable way to get closer to that $100,000 mark sooner.
The Bottom Line
The first $100,000 might be the hardest to save, but there are ways to do it. If you live below your means while keeping long-term goals in sight and being smart with your money, you can save $100,000 in a matter of years. The most important thing to do is start putting these seven strategies into action so you can save more earlier on and take advantage of compounding interest to grow your savings.