How much money does it take to be happy?
The next time this thought crosses your mind, don't take it lightly. The answer is important. And it's something you should consider when managing your investment portfolio.
Happiness might not depend on financial success. But not having to worry about money can help you live a happier life. The first step to making this happen is to define what you want.
Are you striving for a comfortable retirement? Are you hoping to build your dream home debt-free? Do you wish to travel the world in a private jet?
How you answer these questions should determine the approach you take when setting up, funding, and protecting your investment portfolio.
- There isn't a set dollar amount that determines happiness, in part because definitions of "rich" vary from person to person.
- One study found that the connection between higher levels of income and improvements in quality of life becomes weaker after the first $75,000.
- Therefore, $75,000 may serve as a rough rule of thumb for how much annual income it takes to be happy.
What Does It Mean to Be Rich?
Is happiness the same thing as being rich? The problem with that question is that it's hard to agree on what being rich is. Even members of your own family might have different ideas about how much money makes a person rich.
Some current sociologists, such as Professor Dennis Gilbert at New York's Hamilton College, define the rich as those who live off of income from their investments. This separates the rich from those who actively work a job to earn their money.
This standard is more about how you spend your day than a strict amount of money. A doctor making $1 million a year would not be considered as rich as someone who has earned $1 million from passive income sources.
The reason behind this has to do with time. The investor can sit at home and make money. The doctor, on the other hand, stops receiving a paycheck if they stop working. They're only paid if they continue to sell their labor.
Many others, though, define being rich by different metrics. Some people might define being rich by how much you earn, whether you inherit money, or how your income compares to your local cost of living.
Is Rich the Same Thing As Happy?
It turns out, most people have no desire to be rich when it really comes down to it. This was shown in a major study by economist Angus Deaton, who once won the Nobel Prize, and his colleague Daniel Kahneman at the Center for Health and Well-Being at Princeton University.
Their study showed that once your income exceeds $75,000 per year, your emotional well-being doesn't improve much as your income grows. In other words, making more money didn't make the people in the study happier.
This study was published in 2010, so the actual number does not take into account changes in inflation. If you live in a place where costs of living are much higher than $75,000, you might also need more income than that to reach the same level of happiness.
What was more important than how much study participants earned was how they felt about the work that brought them that extra income, How you feel about what you've accomplished is important, but the degree to which you love your work is the icing on the cake.
Based on this research, most new investors could focus on how to earn $75,000 or more each year in passive income. Or, if you are saving for retirement, you could focus on making sure you will have $75,000 in income each year after you retire.
This means a successful investing program is one that is can help you:
- Live debt-free
- Avoid financial stress by having enough to cover your cost of living no matter what
- Maintain enough insurance coverage to protect your home and other property
- Have diversified income sources so you aren't at risk if a single job or source of income disappears
What Is a Safe Withdrawal Rate?
How much money you need in your portfolio to produce an annual cash flow of $75,000 depends on the type of assets you buy. It also depends on where you live.
For example, some areas of the country have lower costs of living than others. A debt-free investor in these areas could create a $75,000 yearly income by owning several rental houses or office buildings valued between $800,000 and $1 million. This would be all but impossible in an expensive market like Southern California or New York City.
If you were willing to use a conservative amount of leverage, you could create that income with less equity, This is one of the reasons that so many of the self-made rich love to invest in real estate.
You could also create an income by owning a variety of stocks and bonds. You could then have a $75,000 yearly income through a combination of earned dividends and money that you withdraw.
If you withdraw too much, your investments will decrease too much in value. This would damage your future income and lower your financial stability.
In this case, would need to hold assets worth anywhere from $1.875 million to $2.5 million. This would allow you to withdraw no more than 3% to 4% of your portfolio's value each year and still have enough yearly income.
How much you need to hold, though, depends on what kind of income you actually need. An average working family with an annual income in the mid-$50,000s would need investments that create $25,000 in income. This, added to their earned income, would equal $75,000, which covers the gap to financial happiness.
This makes the task much less daunting if you are relatively young. You can also increase your future income if you have 401(k) employer matching. This is money given to you by your employer as part of your work benefits. But, if you don't invest enough yourself, you don't get it.
If you use employer matching to increase the amount going into your 401(k), you can use other money to fund a Roth IRA to let your investments grow tax-free.