Five Lives

Tom Welsh

WE GO THROUGH phases in our financial life, just as we do in our biological life. There seem to be a least five financial phases that adults pass through, each with their own priorities, risks, opportunities and tradeoffs.

Here’s how I would think about those five phases:

1. Party Time (ages 25 to 30)

Yes, you’re starting a career, and you want to get ahead and make money. But in all likelihood, your focus is your social life—and so it should be.

Still, amid all the fun, throw in some sober financial management. Avoid digging a hole for yourself with high-cost consumer debt, notably credit card debt and car loans. Participate in your employer 401(k) plan at least up to the minimum required to get the full amount of any matching employer contribution. Finally, in your taxable account, try to save for the down payment on your first house using moderate-risk investments, such as investment grade bonds.

2. Early Career (ages 30 to 45)

Often, this is a time of rapid career advancement, plus you may be starting a family, with all the costs that that entails. Along with these comes the temptation of what I call classflation—borrowing to acquire large homes, expensive cars and other status symbols, so you appear a social class above what you can truly afford. A prudent goal in this phase is to have no debt other than a home mortgage, and then pay off that mortgage as soon as feasible. I’d advise doing so even if it means you invest less in stocks.

Understand that two huge industries disagree with this advice: the lending and investment industries. One wants you to borrow, so it can collect interest. The other wants you to carry that debt, while putting new savings into investments, so it can collect fees. Get ready for the mantra, “You’ll make more money in stocks.”

Why pay off your mortgage so fast? Think of paying off that loan as similar to buying a low-risk bond. Some 90% of taxpayers now take the standard deduction, which means the mortgage rate they pay is an after-tax cost. If you convert today’s low mortgage rates to a pre-tax level, that brings them close to the interest rate on a high-yield corporate bond.

But there’s a huge difference between the two. Paying off a mortgage gives you a guaranteed return, while buying a high-yield corporate bond involves significant default risk. Indeed, adjusted for risk, paying off a mortgage can be like buying a super-high-yielding Treasury bond. That’s hard to pass up. If you’re worried about a lack of liquidity, you can set up a home equity line of credit—and then hope never to use it.

Phase No. 2 is a complex, challenging financial period calling for many tradeoffs. But exercising some personal discipline here can make life far easier during the next three phases.

3. Late Career (ages 45 to 60)

If all goes well in this phase, you enjoy “peak earnings” at work. Meanwhile, at home, some parents offload college expenses onto their kids, by having their children take on student loans. In this phase, there’s little reason to carry debt of any kind. Now, thanks to those peak earnings, you can finally afford all that stuff you were tempted to buy with borrowed money when you were younger.

By largely or entirely getting rid of debt and debt service payments in phase No. 2, you potentially lower your monthly living expenses and hence have a stronger “free cash flow” to invest for the future. At last, you can indulge is that strategic long-term investment called stocks.

And, yes, you still have a long term—up to 35 years in phases three and four combined—to earn the higher expected return on stocks, while weathering the periodic 50% crashes along the way. You can also hedge against stock crash risk with some high-grade bonds. In short, the “late career” phase is an opportunity to migrate from eliminating debt to building a balanced portfolio.

4. Early Retirement (ages 60 to 80)

You stop working at some point during this phase. Gone is “layoff risk.” Now, you face a new, seldom discussed risk. Call it “prosperity risk.” Throughout our working careers, we like prosperity, with the rising paychecks it brings to many of us. But prosperity can be a double-edge sword.

When we stop working, we’re exposed to the backside of prosperity, which includes ever-rising consumer prices (as well as more traffic on the road). That’s why it helps to hold a significant amount of prosperity-loving stocks during this phase. Think of stocks as a way to hedge the threat that inflation poses to the fixed payments from your pension and bond portfolio. Review any “target date” investment products to see if they dump stocks too quickly. Beware of prosperity risk—because you may live a long time without a paycheck.

5. Late Retirement (age 80-plus)

Your priority has shifted from wealth to health. This is a time for most people to reduce their stock holdings, as their crash recovery time window is closing. For security, you want to hold low-to-moderate risk assets to cover basic living expenses through until age 95 or 100. Some are fortunate and may have stock assets beyond what’s needed for remaining living costs. In that case, you may choose to hold onto appreciated stocks, so future beneficiaries inherit them at a stepped-up cost basis, thus eliminating the embedded capital gains tax bill.

With any luck, successful management of the previous four phases has reduced money stress and now lets you enjoy family, friends, hobbies and fond memories—including memories of all those crazy things you did during phase No. 1.

Tom Welsh is a certified management accountant in Raleigh, North Carolina. He has been the chief financial officer at several manufacturing companies and is founder of Value Point Accounting, where he helps businesses manage product and customer profitability. His previous article was Pay to Play. Tom can be reached at

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