You Need Equity To Live In Silicon Valley

The other day we were modeling our typical client’s spending when we realized something disturbing – an average Bay Area-based young couple has to own equity in a business if they hope to send their kids to a good university and be able to retire well.

Investing well alone can’t get you there.

Our analysis found you need to work for at least one company where your equity stake can generate at least a few hundred thousand dollars after tax to make your economics work in the Bay Area.

The problem is the hole that opens up in a typical couple’s budget when they are in their late 30s. Three big pressures converge then: the mortgage on your expensive Bay Area home, and the dueling needs to fund your retirement and your kids’ college early so that you take advantage of compounding.

That’s why we say: You need equity to live in Silicon Valley.

Our example of a Silicon Valley couple

To do our analysis we had to make a number of assumptions about a young, professional Silicon Valley couple[1]. We started with 30 year olds. We assumed they earn a generous $250,000 per year and spend $60,000 per year on items not related to supporting children.  The couple’s income and spending grow at an inflation rate of 3% per year. Their income stops at age 65, when they retire, but they begin drawing social security at 70.

They buy a house when they turn 30 for $1 million financed with a $200,000 down payment and an $800,000 mortgage. The mortgage has a 3.75% fixed interest rate for 30 years. For context, a 3.75% interest rate is historically low.

Federal and state taxes represent 45% of income, and savings are invested at 6% a year.

The couple has two children, one when both are 30 and the other when they’re 32. Each child costs about $22,000 a year to support. (This number includes housing costs for the United States. In Silicon Valley, we think $22,000 is the cost without housing). The couple needs to save $1,100 per month for 18 years to afford to send each child to private college. Alternatively, they could save $6,500 per child per year for 18 years to afford to send their kids to a public university.  (Unfortunately, families that currently earn $250,000 per year do not qualify for financial aid at most universities.)

Your top priority

For purposes of our analysis, we assumed the couple would first save for their kids’ college, rather than their retirements, because college costs come first chronologically – and sending your kids to a good school should be your top priority.

You can see our spending assumptions and savings model in the spreadsheets linked below, and if you download them, you can insert your own numbers and play with the assumptions.

Spending Assumption View Spreadsheet Download
Savings Model View Spreadsheet Download

“Other savings” is the amount left over after mortgage payments, real estate taxes, income taxes, annual spending (which includes adults and kids), and college savings.  In other words it is the equivalent to a family’s annual profit or loss. “Cumulative savings” shows how the family’s assets (aside from hard assets such as real estate) grow or decline over time. It is the amount of savings to date compounded at a constant assumed investment rate (we assumed 6%) plus the current year’s savings.

You’ll notice a few disconcerting things from the spreadsheet.

After putting aside what their kids need for college, our couple has nothing left for retirement savings by Year 3. By Year 4, the couple has negative cumulative savings (i.e. they owe money) even after giving up on their retirement savings plan. Cumulative savings remain negative through Year 21.

A year after their second child goes to college, the couple has enough left after expenses to save for retirement again.

It could be worse

Some of these assumptions are aggressively generous. For example, we assumed our couple could afford the $200,000 down payment on their home. We treated the entire annual mortgage payment as tax-deductible for the 30-year mortgage period. In reality, a decreasing percentage of the mortgage payment is tax-deductible over time, which leads to higher taxes and less savings. We assumed the couple would not spend any additional money on their children after they sent them to college (even though the kids will still need spending money). A growing number of recent college grads move back home after school; 56% of all adults aged 18-24 are living with their parents, according to the U.S. Census Bureau.

More conservative assumptions on these items would probably add at least $150,000 to the couple’s cumulative spending. That means the couple would likely dig themselves a $420,000 hole rather than the $270,000 hole displayed in the spreadsheet. Add in the down payment on their house and you’re up to $620,000 and that’s after tax money! To finance the shortfall, you could borrow some of the equity value you have built in your home, but that won’t make up the whole difference. It’s also a high-risk strategy, as we learned during the financial crisis. (If home prices drop, you end up owing more than your home is worth.)

Old definitions of ‘a lot’ don’t hold true

If the couple can come up with the money to plug the hole in their budget then they will be able to ultimately afford to retire at their pre-retirement spending rate, and send their kids to good schools. But that assumes both members of the couple work until they are 65 with no breaks in between.

An annual income of $250,000 seems like a lot of money. But home prices in the Bay Area are so high that the old definitions of “a lot” don’t hold true anymore. You could buy a much less expensive home, but then you have to start worrying about the quality of your kids’ schools and the length of your commute. All in all it’s a tough conundrum.

(As an aside, there is a chicken-and-egg argument about whether high real estate prices drive the equity culture in Silicon Valley. You could say the same about finance and New York, or government and Washington, D.C..)

Are there other sources of a few hundred thousand dollars? Some people are lucky enough to inherit money or get big gifts from their families. You might be in an industry, like finance, that pays bonuses that large. In Silicon Valley, your best chance of generating the cash you need to get you from here to there is to work for a company that offers an ownership stake that can become liquid in a reasonable time period.

You’re most likely to earn a valuable equity stake if you follow our career advice and join a company with momentum early in your career. We encourage you to pay attention to the equity part of your compensation package, consistent with the industry standards we display in our compensation tool. If you were to join a mid sized company with momentum, it’s not out of the question you could receive a 0.1% stake that could be worth at least $1 million pre-tax to you if the company goes public. Joining a company that achieves great success will also put you into position to later earn a much larger equity position at a hot startup that could earn you well more than that.

Over 20 years you should have at least five shots at a big outcome. Managed well, one or more of your equity stakes should be able to address the shortfall required to retire comfortably. If you live in Silicon Valley, you have to play the equity game. Not doing so will leave you with a hole too deep to dig out.


[1] We based our portrait on the observed income for our typical clients; three bedroom home prices within reasonable commuting distances of work; spending per child from a Wikipedia post; and savings required for college from our blog post: 529 Plans & Saving For College. Investment return is typical for an average portfolio on Wealthfront.

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49 Responses to “You Need Equity To Live In Silicon Valley”

  1. Dustin Yoder May 22, 2013 at 7:40 pm #

    Great article. It seems there is a price to live in SV (ie.. beat place in thw world). I guess I better get back to work and make this equity worth something.

  2. Carl May 22, 2013 at 11:01 pm #

    I’m very surprised a financial advising company would post something like this without spending the time to discuss budget sensitivities and show how this ‘model couple’ can avoid going into debt in the first place, which is very straight-forward in this case! Isn’t that what a financial adviser is supposed to do?? Shame on you Wealthfront!

    The article makes it seem that debt is inevitable without having a very large lump of cash magically appear (equity in this case) to fix it, which is absolutely false. This is a classic example of living beyond your means, and nothing more! By simply reducing yearly spending from $60k to $50k, the example couple never goes into debt. Period. A straight-forward way might be to cut the $2,400 gardener and the $4,160 housekeeper, and reduce the $6,000/year on clothing to $2,400/year (still a reasonable $200/month), and debt never happens. Reducing spending in other places and modulating college savings can even keep the annual budget balanced every year such that cumulative savings never decreases at all, which is the real goal of a household budget.

    Looking at how straight-forward it is to completely avoid this “hole too deep to dig out”, I don’t know how anyone can be expected to believe “playing the equity game” is a requirement to live in Silicon Valley. A large percentage of the people living here aren’t playing the equity lottery and are doing just fine.

    • Andy Rachleff May 23, 2013 at 6:59 am #

      The challenge is it is very hard for a couple in this situation to spend less than $60k per year. By no means are they being extravagant. For every spending cut you may suggest I could make the case that we understated another. For example a number of people have pointed out that our child care costs for two working parents may be low. They could cut some of their expenses, but as we stated in the post we think $60k understates the true cost of living for the couple. When you factor in the declining tax deductibility of their mortgage payment and the need to finance their down payment, the economics just don’t work. They could buy a less expensive home but then they would have a very long commute or poor schools for their kids and they still won’t have enough cash.

      You claim many people in the bay area live comfortably without equity. That may well be for people who bought their homes long ago. But the only way for young people to do so is to not save for your kids college or your retirement. Based on our interviews that seems to be how they are getting by – for now. I don’t know about you but putting off the inevitable is not the way I want to live. That’s what congress is doing and I’m not a fan.

      • Carl May 23, 2013 at 9:04 pm #

        I’m sorry, but hiring a housekeeper and gardener to tend to a house that the example couple can’t afford is pretty much the definition of living beyond your means. As you say (and I fully agree), the economics of this situation just don’t work. Since you realize that, this article should include discussion on how to balance that couples’ budget, not just throwing your hands up and suggesting the only way to make ends meet is to hope some equity position pays out.

        Being a young married professional in Silicon Valley, I know for a fact that you can live comfortably here while also maxing out your 401(k) and paying rent (or a mortgage) in a nice area close to work, with money left over for kids on the example income. Is it possible that the people from your interviews are looking for real help out of debt and help stabilizing their budget, and not advice saying to go find equity and hope it works out for them?

        As several others have mentioned, it’s foolish to consider saving for your kids’ college before saving for your own retirement. It’s also foolish to consider purchasing a house or spending more than you need to before saving for retirement. It’s also foolish to build up your lifestyle standard such that loss of one of two income streams makes the house of cards come crashing down.

      • Mahesh Ram May 24, 2013 at 2:52 pm #

        Andy, I completely agree with your analysis. While it is certainly *possible* to do what Carl suggests (and I do know some who practice this type of discipline), the reality is that the vast majority simply does not have the option of doing so due to circumstances – be it work pressure, work related travel, childcare needs, and other responsibilities. Not much time left to tend that garden yourself and save a few $!

  3. Steph May 23, 2013 at 11:19 am #

    It’s nice to see the 45% tax rate mentioned. We are similar in many ways to the couple described here, and we’ll happily take Apple’s actual tax rate any day. Envy aside, however, take-home pay is 45% of the stated $250k: assuming no 401(k) contributions for simplicity’s sake, this couple has $137,500 of cash to work with.

    I adhere to the simple Elizabeth Warren budget of 50/30/20, which states that 50% of one’s income should go to must-haves (which includes a limited grocery and basic clothing budget); 30% for wants (because if you can’t afford any fun or visiting family, you can’t afford your life); and 20% for savings. That gives this couple $68,750 for all of their housing, transportation, health care, etc; $41,250 for wants (eating out, additional education; etc); and $27,500 for savings.

    With an $800k mortgage at 3.75%, their monthly payment (including property tax of 1.25%) is $4,747/month, or $56,964/year. If they have $68,750 available for all of their must-haves, that leaves just $8,786/year ($732/month) for all of their other necessities like co-pays, car insurance, etc. Obviously, they’ll be eating into that 30% for wants and possibly also the 20% for savings, certainly if they have children.

    Gardener? Kids? In what world? This assumes neither person stops working, and I guarantee that $22k/year for a child does not include the $30-$40k in annual childcare that my parented friends pay for.

  4. Bala Janakiraman May 23, 2013 at 12:14 pm #

    Andy -

    Great article.

    For the northeast as well, $60k in annual spend is a good measure. In fact, I use that as my family’s expense target. (Boston area, 2 kids, 2 parents). We can debate about the allocation for restaurant/housekeeping vs. vacation (in my case trips to India for 4 aren’t cheap) but it seems to average out to the $60k you have assumed.

    However, that $22k in expense per child is too high, in my opinion. I think you are double counting. Looking at the USDA calculator, it looks like housing, food and clothing are included in the $22k whereas in your spending model for the couple, you also include mortgage, groceries and clothing. If you get rid of the double counting, you suddenly have $25k in investable savings per year with two kids.

    This couple should have nothing to worry.

    I will also go out on a limb and say this – my own expenses have come down over the years. Not because I am frugal but because the American way is tilted in favor of those of us that are well informed, have great credit and can capitalize on the right opportunities.

    For example, my monthly spend on mortgage (PITI) has come down over the last 5 years from $2650 to $1750 as a result of refinancing, lower insurance costs and challenging my real estate assessment during the 2008 bust. That adds $10k savings per year for doing practically nothing other than having a great credit score, shopping around for insurance and standing up for yourself in front of an assessor.

    My communication bills have come down from $350 a month for TV, internet, phone, mobile, international calling to $200 a month thanks to BYOM in the office, Vonage for all you can talk calling, prepaid mobile phones, bundling etc. This adds another $1800 a year for doing nothing.

    My utility bills have come down from $600 a month (I live in snowy NE) 5 years ago to $300 a month thanks to taking up all the weatherization and insulation incentives that National Grid and NStar can provide. This adds another $3600 a year for doing nothing other than paying attention to inserts about incentives in the billing statement.

    The one big change we implemented compared to your model is that we paid ourselves first before we put money away for college. I think it is incredibly irresponsible NOT to max out employer match on 401k before putting away money in a 529. Over the last 10 years, the employer match (with the magic of compounding) alone has been worth $150k for us.

    So, there are several ways to squeeze a lot of savings out of $250k in income and still meet the obligations of college and retirement.

  5. Billy Bob Gates May 23, 2013 at 12:35 pm #

    You never accounted for health care costs during retirement. Even if Medicare exists in 31 years, a conservative assumption should be made that: a) people will likely live longer than the statistical life expectancy tagged to the year of their birth. b) individuals will need to pay a larger share of their health care costs compared to retirees today. c) health care costs as a whole have increased at a rate outpacing the CPI, with that gap widening every year.

    Extrapolate that over the next 31 years, assuming no revolutionary changes to our health care or economic system(s) as a whole and you’re looking at some very expensive “golden years.” Here are a few factors this couple will need to count on over the next 31 years to have a “comfortable” retirement as outlined above:

    1. At least one but hopefully two financial windfalls from equity positions.
    2. Kids get some sort of university scholarship (even a partial one).
    3. No property loss from a major earthquake in the Bay Area.
    4. No periods of extended unemployment (due to economic conditions or health crises i.e. cancer).
    5. Their job skills are never outpaced or replaced by innovation.
    6. Their parents do not need any financial assistance as they age.
    7. The value of their home appreciates steadily over the years, they pay it off on schedule, they sell their home upon retirement and move to a less expensive area (i.e. the Midwest).
    8. They aren’t surprised by a third child.
    9. Their kids don’t want to continue their education by getting a Masters/Doctorate.
    10. Nobody in their family requires long-term specialized care (i.e. children with special needs or a tragic physical injury).
    11. They remain in perfect health throughout their retirement OR They retire and live a fruitful life for 5-10 years, then die peacefully in their sleep.

    As a mid-30′s Silicon Valley guy with an income inline with the hypothetical couple, I’m beyond scared of the future right now.

    • Andy Rachleff May 23, 2013 at 2:42 pm #

      As we explained in the post, we believe our assumptions were less aggressive than they could have been. We can quibble over the details, but the meta point is it’s hard to afford to live in the bay area if you don’t own equity in a private company. You shouldn’t be scared. Joining a great private company is not that hard. If you follow our advice in https://blog.wealthfront.com/hot-mid-size-silicon-valley-companies/ you can find a great mid sized company with momentum that has very high odds of paying out. It’s only if you go to a startup that you run a high risk. A startup might make sense after you have succeeded with the mid sized company.

  6. Dan May 23, 2013 at 2:43 pm #

    Skip the kids. Problem solved.

    • Andy Rachleff May 23, 2013 at 4:12 pm #

      I know you were joking, but based on some tweets we have seen, some people might actually consider doing this which would be very sad. Our post was not intended to scare people. Rather we wanted people to realize they need equity to make the economics work. As we explained in an earlier post:

      “Joining a great private company is not that hard. If you follow our advice in https://blog.wealthfront.com/hot-mid-size-silicon-valley-companies/ you can find a great mid sized company with momentum that has very high odds of paying out. It’s only if you go to a startup that you run a high risk. A startup might make sense after you have succeeded with the mid sized company.”

  7. NoHouse May 23, 2013 at 2:48 pm #

    I would like to see the same analysis with rent instead of a house. I think that you’d actually end up much better off. Rent is high here, but not in proportion to home prices. That’s why nobody buys a home and rents it out — the only landlords are people who bought a long time ago or have other extenuating circumstances.

    • Andy Rachleff May 23, 2013 at 3:49 pm #

      We provided a spreadsheet so you could do that analysis yourself. If you set the home purchase price to zero and increase the couple’s spending to include annual rent you will find you still dig yourself a big hole, again because of saving for college.

  8. Steph May 23, 2013 at 4:29 pm #

    Dan: We are. We can’t afford kids and retirement and three aging parents, two of whom have woefully insufficient retirement savings.

    • Mae May 23, 2013 at 6:39 pm #

      We are skipping the kids too! I wonder if this is getting more and more common nowadays.

      • Jen June 20, 2013 at 8:35 pm #

        We, too, are skipping the kids. I believe it is becoming more common — very few of my coworkers have kids, and they’re mostly in their late 30s and early 40s. It’s just not realistic, even though we’re right in line with the salary you mentioned.

  9. Alison May 23, 2013 at 7:25 pm #

    What about renting vs. owning?
    It is much more beneficial to own a property so at least you are not wasting the money you are spending on housing as rent.

    You can also change your exemptions which will increase your monthly take home income.
    If you rent you will never see that money otherwise.

    Right now you can still buy a home or even a town home or condo for anywhere between $300k and 600k in Silicon Valley.
    Really you can still buy a home for $500k in some areas and with first time home buyer programs and etc. the payment is even lower then rent here.
    I understand your numbers are adjustable but I am just stating these prices because the payments would be lower or equal to rent.

    I understand your point but I do think owning and starting equity at any age is usually always beneficial and working toward your future.

    *** To be a home buyer now is especially great because prices have still not come up to where they were before the crash.
    Historically once a home hits a certain price in value (a high price) it will always come back up to that price.
    That is a great advantage.

    • Andy Rachleff May 24, 2013 at 3:55 pm #

      Where in the bay area can you afford to buy a 3 bedroom house/condo for $300k to $500k that is within reasonable commuting distance and has decent schools?

    • Andy Rachleff May 24, 2013 at 3:57 pm #

      See my response to Allison

  10. Marc May 24, 2013 at 9:47 am #

    I think it’s unfortunate, but definitely understandable, that some folks would be willing to deprive themselves the joy of kids because of financial considerations. The generally accepted costs of raising children are daunting.

    But let me offer a slightly different perspective. Imagine having something (or several somethings) that *you* love so much, that bring *you* so much indescribable joy that you’d give everything up for that thing. All your money, your house, your car, your job, your home everything (when actually tested in contentious child custody scenarios for example some parents actually do give up those things). I would imagine a lot of parents would say their children *are* those priceless “things”.

    Now if you agree that kids could be that Fountain of Happiness, might you not rearrange the rest of your life to allow yourselves the ability to raise a child? Maybe buying a smaller house in a less posh neighbourhood, or moving you and your loved ones to a less expensive city (or even country), or even simply by taking CalTrain to work.

    Of course there are risks and big personal sacrifices that need to made in having children (time, money, stress etc.), but as I said the upside, IMHO, is priceless. Like love and sex, you just can’t describe the happiness children (adopted or biological) will likely bring to one’s life.

    I don’t intend to come off as preachy but hopefully folks make their decisions on having children more from a point of hope of how kids can enrich their lives (and those around them) than out of fear of what they will cost.

  11. Leo May 26, 2013 at 3:41 pm #

    Great article! I agree with the basic point this exercise makes.

    Couple questions. The example couple will have full equity in their million dollar home, which would have doubled assuming appreciation keeping up with inflation rate. Shouldn’t they sell and move to a low cost area at age 67? This frees up a lot of cash, and reduces property tax.

    Also since their savings came in concentrated years, most of it exceeds Roth IRA limit and can only be invested in taxable acct. When they withdraw their tax can’t be zero. There is capital gains and CA income. Perhaps the excel can be enhance to reflect this?

    • Andy Rachleff May 26, 2013 at 5:28 pm #

      As I explained in the article, the equity in your home can’t get them out of the hole they dig in years 4 through 21. By the time they get out of the hole they have plenty of money to retire so there’s no need to sell the house. The entire issue is how to fund the almost $700k hole that includes the downpayment.

      BTW we do not recommend maxing out your 401k. Please read https://blog.wealthfront.com/max-out-401k-company-match/for more details.

  12. David May 27, 2013 at 10:22 pm #

    Using a California income tax calculator for a couple filing jointly and making $250k each, I was told the 2013 income tax would be $53k federal and $18k state, for a total of $71k or 28%.

    Then have them buy an $800k house instead, negotiate a 15-year mortgage at 2.89%, drop the expensive cars for a fuel efficient 5-year old Honda, reduce the clothes budget to $200/month instead of an exorbitant $500, install energy-efficient appliances, fire the gardener and housekeeper, send the kids to public university, and skip the double counting of child expenses. All that will reduce their monthly budget from $15000 to $8000 with very little actual sacrifice.

    Suddenly this couple has $43 million in the bank at the age of 85. Alternatively, they could stop working at the age of 45 with $2 million saved, and live indefinitely on the interest.

    • David May 28, 2013 at 8:38 am #

      >250k each

      Oops, that should say $250k total.

    • Andy Rachleff May 28, 2013 at 9:08 am #

      I think you have some of your facts wrong. If you add state and federal taxes in California it’s actually greater than 45%. If you buy an $800k house with a 15 year 2.89% fixed mortgage, your annual mortgage payment goes up to $55,861. If you assume savings for public (not private) university and the previous assumptions you still have a hole of $63k which doesn’t include your downpayment on your home (which is now $160k with your assumptions) and the lack of tax deductibility of your mortgage payment in later years. Add the three up and your hole is still in excess of $325k.

  13. James May 28, 2013 at 11:25 am #

    Can’t quite see this. Yes, if people choose to spend all their income, they will not be able to save anything – Duh! But as someone who has lived & worked in SV (I telecommute from elsewhere these days), I can see opportunities for considerable savings.

    First off, in what world is it necessary to spend $1000/month on cars? (Plus another $140 for insurance.) My current Honda was purchased used for $8500, 9 years ago, and looks to last me at least another 5. So there’s at least $10K/year saved.

    Then there’s that $225/month for cable/internet/phone. With no cable (I don’t have time to waste watching TV), I get fast internet for $30/month, cell phone for $7. There’s another $2K. $3K vacations? $500/month on clothes? For management or sales, maybe, but for a tech person? I’m still working through the stash of free t-shirts I got from trade shows.

    Now on those taxes… Work from home, and a slice of the mortgage & other expenses become deductible.

    • Andy Rachleff May 28, 2013 at 2:55 pm #

      You missed the point of the post. Even if you saved the money you suggested you still have a huge cash hole. The only way out of it is to work for private companies and hope to generate value form your equity position

      • Aaron May 28, 2013 at 4:07 pm #

        You note that you can’t just borrow from your house.
        Well, fine then. Why not just not pay for your kids’ college education? Under this model, you’d save $26.4k a year, which more than makes up for the savings hole.

        Assuming your kids now go to a public university (why would you spend so much extra cash to send your kid to a private school when you get discounted university of California tuition), they can just take out loans. You can then help them pay them off later.

        • Andy Rachleff May 28, 2013 at 6:09 pm #

          I don’t think you understand the magnitude of the problem. The cost of a private 4 year education will be $500k per kid in 18 years. It will be half that for a public university. So for two kids you will need to borrow $500k. It’s a lot easier to save for that today with compounding than it is to borrow that large amount in the future. the problem is the cost of a college education grows at a faster rate than inflation. It’s such a big problem that higher ed has it’s own inflation index called the HEPI.

  14. Aaron May 28, 2013 at 3:51 pm #

    I’m not sure why the conclusion is you need equity to live in the valley. According to the spreadsheet, this couple by age 65 will have $2.5M saved (plus another $1M housing inflation adjusted in their home). Sure, to live this life they had to borrow $270k from their house around year 10, but what’s so bad about that when they ultimately come out so far ahead?

    Other points:

    Savings model:
    Why is the couple’s initial savings before buying a house only $200k? For people who graduated 8 years earlier and ultimately got high paying jobs, I’d expect a much higher initial savings by age 30.

    Also, why do RE taxes not appreciate at all?

    Spending model:
    As others mentioned, this seems extremely high. I’m young and recently married, living in San Francisco, and our combined expenses are nowhere close to this. (and we live quite well) $6,000 for utilities? Close to $300 here. Car costs of $13,700? Max $4,000 here (you don’t need two cars in pricey SF..) Gardener and housekeeper? We pay $400 max in a year for housekeeping.
    All in all, before rent, our expenses are $20k lower than what is suggested here ($16k if you ignore house upkeep which rent implicitly covers).

    That said, the cost per kid cost is a lot higher than $22,000/kid/year due to marginal housing costs; I’d venture that the added room alone will cost $700 per kid (if they get their own rooms). Still, the costs should be a lot lower than this spreadsheet lets out to be and again the couple still finishes way ahead.

    • Andy Rachleff May 28, 2013 at 6:04 pm #

      If you read the spreadsheet you will notice the couple’s cumulative savings in year 18 is negative $269,433. If you add in the downpayment on their house and the higher taxes due to the inability to deduct mortgage payments in later years the aggregate hole exceeds $600,000. Cutting expenses as you recommend will not make a significant difference. The only way to fund the hole is through a gift or value from a liquidated equity position.

  15. Audrey Leung May 28, 2013 at 10:45 pm #

    You make three potentially erroneous assumptions here:
    1) That that the couple starts out with 0 savings. Most people should start saving by the time they have a full-time job. In the silicon valley, that should start around age 22 or 24. Hopefully the couple doesn’t have to spend their entire life savings on the down payment.
    2) That the college savings fund has an investment return of 0%. At a rate of return of 7%, the parents would only need to save $5,000/kid/year for 18 years in order to save enough for their children’s undergraduate tuition. After this assumption, the couple would need to start out making a combined household income of $220,000 per year to maintain continuous positive cumulative savings.
    3) That the salaries will increase by 3% per year until the couple is 65 years old. While this would be ideal, often salaries do not always grow by the rate of inflation. Also, the couple may start to wind-down their jobs as they get older and their health isn’t what it used to be.

    • Andy Rachleff May 28, 2013 at 10:52 pm #

      1. I don’t know too many couples who haven’t inherited money or made money off their equity that have $200k for a down payment at age 30. Remember that’s $200k after tax.
      2. The college savings fund is assumed to compound at 6% per year tax free
      3. We explained in our post that we were being generous to the couple. We think the actual numbers look worse

  16. Jonathan June 3, 2013 at 10:59 am #

    A bit confused about the 45% tax rate. Isn’t that the marginal rate in this case? Even without deducting the mortgage interest the effective federal + CA state tax is only 28%. Over 10 years that’s a difference in 400k post-tax income which would be enough to materially change the outcome here. Am I missing something?

    • Andy Rachleff June 3, 2013 at 2:42 pm #

      I think you’re confusing AMT with likely taxes due

  17. saa June 3, 2013 at 11:11 pm #

    Ha ha ha…

    You actually think there are houses available to buy for $1,000,000!

    There are 1000 houses on the market, total, for a 2 million person population.

    Ha ha ha….great assumption…there are houses to buy…..you’re hilarious…

    • Granola June 23, 2013 at 7:57 am #

      There are 1,000 houses to buy right now. History and the past week’s move in interest rates should show you how fast things can change.

      As far as I’m concerned, buying a house right now is the worst decision that can be made. This is a great place to live, but prices are being fueled by high employment rates and low interest rates, both of which will change. By holding off buying into the frenzy 2-3 times during your lifetime, and instead buying when none of your friend are talking about housing, you will replace the need for a $1M liquidity event.

      • Andy Rachleff June 23, 2013 at 10:09 am #

        I don’t know where you are from, but there are not thousands of homes for sale in the bay area. We’re told that houses in desirable areas are going for 30% over asking price (stay tuned for a blog post that addresses this recent phenomenon). A big reason why prices have gone up so much (prices are up 28% in the bay area over the past year and the average home in SF is now in excess of $920k) is due to the limited inventory and the significant wealth that has recently been created by all the successful technology companies. That is not likely to change, nor is it likely that prices will come down. Even if they did by 20% the analysis still holds true.

  18. Maryanne Flynn June 5, 2013 at 8:31 am #

    Thank you for putting this analysis together. It’s a very interesting way to look at finances here in the Valley and very helpful.
    15 years ago, when I moved here, I and my friends were all shocked at the expensive cost of living. Some of us stayed, some left. A calculator like helps people brace themselves for the cost and helps avoid suprises.

  19. Peter L June 17, 2013 at 11:50 am #

    One more thing to add is a savings plan to help your kids come up with a down payment for a condo/house if you ever want to see them after they graduate. I grew up here in the valley and just about all of my friends who are not in tech have left to escape the housing prices.

    After raising kids and sending them to college it will cost you to keep them here too!

  20. John Giardino June 20, 2013 at 2:01 pm #

    What would introducing economic shocks into this model? For example: do you foresee a tuition/higher education bubble? I know we cannot assume it, but education costs may bottom out for several reasons (easier, more universal access to quality education through non-traditional avenues, and devaluing of many “name brand” schools). How about real estate – you anticipate housing values to continue to appreciate in the long term – what would the model project if they don’t? What about California’s (and her municipalities) fiscal health – what would continued severe shortfalls in state and local budgets do to property tax/use tax projections, etc. Even if you fill the hole there are very little wiggle room for events like these.

    • Andy Rachleff June 20, 2013 at 2:06 pm #

      As a trustee of the University of Pennsylvania, I can tell you with pretty good confidence that it is highly unlikely that tuition will grow at a rate less than inflation. It has and likely will grow at a faster rate than inflation even with innovations like Coursera. Tuition represents well less than 50% of the revenue of most universities and does not cover the cost of providing a quality education.

      Real Estate is a highly local business. I just read that the average home price in San Francisco was up 28% in the last year. This is likely due to the significant wealth generated from tech IPOs and limited supply.

  21. Tim Liao June 21, 2013 at 4:20 pm #

    What is sad about this notion that some of you have brought up about not having kids is the harm it is doing to overall society in the long run. Educated, self-sufficient, capable kids are not being born to those who are more apt to raising kids while Less Educated, Government Dependent, problem kids are still being born to those who maybe shouldn’t have children. It’s a worrisome future.

  22. umm okay June 28, 2013 at 3:18 am #

    This article completely disregards saving and investing in your 20s. my husband and i are turning 30 this year and we have one kid and we live on the peninsula. we never had huge stock option exits and our highest gross income was a little bit over 200k. we do rent here but we have rental properties in cheaper parts of the bay area that we scooped up in the lowest years and all of them are cash flow positive to the point of covering our rent here. we have saved over 400k in our retirement funds and our real estate equity is another 300k or so. we did this just by spending less than 4000 a month for almost 9 years now. we did get married at 24 and had a baby at 26 and when we got married we only made 150k pretax. it is true that we are not saving a lot for our kids’ college but that’s only because we believe that if we do our jobs right and our kid isn’t a dumbass he will pick the right education and pay for it himself. anyway, when you are in your 20s you can work a lot and get away with buying very little. so many silicon valley companies give free food and clothing and free commute perks that you really just have to pay for a roof over your head, and when you share that roof with some roommates the cost is even lower.

    • Andy Rachleff June 29, 2013 at 11:45 am #

      Congratulations on the savings you have generated to date. I think it is very admirable, however I think you’re making a big mistake re funding your kids’ education.

      As a financial advisor we think it is not reasonable to ask your kids to pay for their whole education. In 18 years a private university will cost in excess of $500k for each kid for 4 years. A public university will cost more than $260k but it is very hard to graduate in 4 years in a UC school. Burdening your children with that much debt is not a good idea from our perspective. Working for a medium sized private company that has momentum is likely to lead to a far better outcome for you and your children.

      Also a married couple having roommates is not a good idea and few young people save enough in their 20s to make a difference. Not all silicon valley companies provide free food and clothing. As a matter of fact a small minority do. Remember we are writing about the average couple and you have proven yourself to be well better than average.

  23. Michael September 19, 2013 at 9:39 am #

    I think this whole exercise illustrates why buying a home in SV or SF is a really bad idea. I think the loftiest assumption is that there wont be a downturn in the tech sector that would cause either unemployment or at least downward pressure on wages.

    Moreover ask yourself how this scenario can be the healthy for the local economy. If sending your child to college, owning a home, and having a retirement require 2 working spouses with high paying jobs than the local economy is Broken. What about teachers, mechanics or others with lower pay. More and more people cant afford the area. So if you buy expecting price appreciation like the previous generation than you have to ask who will be left to afford the home.

    • Andy Rachleff September 19, 2013 at 4:37 pm #

      The economics around Silicon Valley real estate haven’t changed much over the past 25 years. They are most sensitive to the number and magnitude of local IPOs, not the economy. There are a number of notable and large IPOs coming soon, so I wouldn’t count on bay area real estate slowing down for quite some time. We will explain in detail in a blog post that we plan on publishing soon.

  24. Joy December 22, 2013 at 1:07 pm #

    Thank you for this analysis. It makes me extremely scared and sad. I currently make slightly over $100k and my boyfriend makes $60k. We are 30, unmarried, but planning on having kids in the next few years. I have a sizable amount of stock opinion in my company, which I early exercised, but instead of obtaining the few hundred thousand dollars you mention I’m concerned that the money I spent to buy the stock (10% of my networth) will be lost if the company happens to fail. I really don’t think advising to bet on a startup returning hundreds of thousands of dollars is a good strategy! Nine in 10 startups fail. Most people do not get enough stock to see hundreds of thousands of dollars, after tax return even if they happen to work in a successful startup. You’re better off working a second job or, heck, being a stripper on the side. I know I’m probably going to have to leave Silicon Valley and it makes me quite sad as I love this area and enjoy working in tech startups.

    • Andy Rachleff December 22, 2013 at 6:06 pm #

      It appears you have not read all the articles to which our blog post links. In our many posts on career advice we never suggest that young people join early stage startups due to the risk. We specifically recommend joining mid sized companies with momentum that have a very high likelihood of becoming successful. In some of our other posts we also recommend against exercising your options until you are extremely confident your employer will go public. All our advice is meant to be considered in the context of our other advice.

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