By the standards of previous
generations, the middle class has been stripmined of income, assets and
purchasing power.
What does it take to be middle
class nowadays? Defining the middle class is a parlor game, with most of
the punditry referring to income brackets as the defining factor.
People tend to self-report
that they belong to the middle class based on income, but
income is not the key metric: 12 other factors are more telling measures of
middle class membership than income.
In Why the Middle Class Is Doomed (April 17, 2012) I
listed five minimum threshold characteristics of
membership in the middle class:
1. Meaningful healthcare
insurance (i.e. not phantom insurance with $5,000 deductibles, etc.) and life
insurance.
2. Significant equity
(25%-50%) in a home or equivalent real estate
3. Income/expenses that
enable the household to save at least 6% of its income
4. Significant retirement
funds: 401Ks, IRAs, etc.
5. The ability to service all
debt and expenses over the medium-term if one of the primary household
wage-earners lose their job
I then added a
taken-for-granted sixth:
6. Reliable vehicles for each
wage-earner
Author Chris Sullins suggested
adding these additional thresholds:
7. If a household requires
government assistance to maintain the family lifestyle, their Middle Class
status is in doubt.
8. A percentage of non-paper,
non-family home hard assets such as family heirlooms, precious metals, tools,
etc. that can be transferred to the next generation, i.e. generational wealth.
9. Ability to invest in
offspring (education, extracurricular clubs/training, etc.).
10. Leisure time devoted to
the maintenance of physical/spiritual/mental fitness.
Correspondent Mark G. recently
suggested two more:
11. Continual accumulation of
human and social capital (new skills, networks of collaborators, markets for
one's services, etc.)
And the money shot:
12. Family ownership of
income-producing assets such as rental properties, bonds, etc.
The key point of these
thresholds is that propping up a precarious illusion of consumption and status
signifiers does not qualify as middle class. To qualify as
middle class (that is, what was considered middle class a generation or two
ago), the household must actually own/control wealth that won't vanish if the
investment bubble du jour pops, and won't be
wiped out by a medical emergency.
In Chris's phrase, "They
should be focusing resources on the next generation and passing on Generational
Wealth" as opposed to "keeping up appearances" via
aspirational consumption financed with debt.
What does it take in the real
world to qualify as middle class?
Here are my calculations based
on our own expenses and those of our friends in urban America. We
can quibble about details endlessly, so these are mid-range estimates. These
reflect urban costs; rural towns/cities will naturally have significantly lower
cost structures. Please make adjustments as suits your area or experience, but
please recall that tens of millions of people live in high-cost left and
right-coast cities, and millions more have high heating/cooling/commuting
costs.
The wages of those employed
by Corporate America or the government do not reflect the total cost of
benefits such as healthcare insurance. Self-employed people like myself pay the
full costs of benefits, so we have to realize there is no ideal average of
household expenses. Some households pay very little of their actual healthcare
expenses, other pay for part of these costs and still others pay most or all of
their healthcare insurance and co-pays.
1. Healthcare. Let's
budget $15,000 annually for healthcare insurance. Yes, if you're 23 years old
and single, you will pay less, so this is an average. If you're older (I'm 64),
$15,000 a year only buys you and your spouse stripped down coverage: no
eyewear, medication or dental coverage--and that's if your existing plan is
grandfathered in. (If you want non-phantom ObamaCare coverage, the cost zooms
up to $2,000/month or $24,000 annually.)
Add in co-pays and
out-of-pocket expenses, and the realistic annual total is between $15,000 and
$20,000 annually: Your family's health care costs: $19,393 (this was
before ACA).
Let's say $15,000 annually is
about as low as you can reasonably expect to maintain middle class healthcare.
2. Home equity. Building
home equity requires paying meaningful principal. Let's say a household has a
15-year mortgage so the principal payments are actually meaningfully adding to
equity, unlike a 30-year mortgage. Let's say $5-$10,000 of $25,000 in annual
mortgage payments is interest (deductible) and $15-$20,000 goes to principal
reduction.
3. Savings. Anything
less than $5,000 in annual savings is not very meaningful if college costs,
co-pays for medical emergencies, etc. are being anticipated, and $10,000 is a
more realistic number given the need to stockpile cash in the event of job loss
or reduced hours/pay. So let's go with a minimum of $5,000 in cash savings
annually.
4. Retirement. Let's
assume $6,000 per wage earner per year, or $12,000 per household. That won't
buy much of a retirement unless you start at age 25, and even then the return
at current rates is so abysmal the nestegg won't grow faster than inflation
unless you take horrendous risks (and win).
5. Vehicles. The
AAA pegs the cost of each compact car at $7,000 annually, so $14K per year
assumes two compacts each driven 15,000 miles. The cost declines for two
paid-for, well-maintained clunkers and increases for sedans and trucks. Let's
assume a scrimp-and-save household who manages to operate and insure two
vehicles for $10,000 annually.
6. Social Security and Medicare
Taxes. Self-employed people pay full freight Social Security and
Medicare taxes: 15.3% of all net income, starting with dollar one and going up
to $127,200 for SSA. But let's take a household of two employed wage-earners
and put in $8,000.
Property taxes: These
are low in many parts of the country, but let's assume a level between New
Jersey/New York/California level of property tax and very low property tax
rates: $10,000 annually.
Income tax: There
are too many complexities, so let's assume $2,000 in state and local taxes and
$5,000 in federal taxes for a total of $7,000.
7. Living expenses: Some
people spend hundreds of dollars on food each week, others considerably less.
Let's assume a two-adult household will need at least $12,000 annually for
food, utilities, phone service, Internet, home maintenance, clothing,
furnishings, books, films, etc., while those who like to dine out often, take
week-ends away for skiing or equivalent will need more like $20,000.
8. Donations, church tithes,
community organizations, adult education, hobbies, etc.: Let's
say $2,000 annually at a minimum.
Note that this does not
include the cost of maintaining boats, RVs, pools, etc., or the cost of an
annual vacation.
Here's the annual summary:
Healthcare: $15,000
Mortgage: $25,000
Savings: $5,000
Retirement: $12,000
Vehicles: $10,000
Property taxes: $10,000
Income and Social Security/Medicare taxes: $15,000
Living expenses: $12,000
Other: $2,000
Mortgage: $25,000
Savings: $5,000
Retirement: $12,000
Vehicles: $10,000
Property taxes: $10,000
Income and Social Security/Medicare taxes: $15,000
Living expenses: $12,000
Other: $2,000
Minimum Total: $106,000
Vacations, travel, unexpected
expenses, etc: $5,000.
Realistic Total: $111,000
That's almost double the median
household income of $59,000. Note that this $111,000
household income has no budget for lavish vacations, luxury vehicles, large
pickup trucks, boats, second homes, college expenses, etc. There is no budget
for private schooling. Most of the family income goes to the mortgage, taxes
and healthcare. Savings are modest, along with living expenses and retirement
contributions. This is a barebones budget.
$111,000 household income is
right about the cut-off point for the top 20% of household income. How close are you to the top 1%?
Toss in a jumbo mortgage,
college tuition paid in cash, an aging parent to care for or
any of a dozen other major expenses and the minimum quickly rises to $155,000,
which puts the household in the top 10% of household income.
How can we even talk about a "middle
class" when the minimum thresholdsput the household in the top
20%? And we haven't even considered the ultimateminimum
threshold of middle class membership: family ownership of
income-producing assets such as businesses, rental properties, bonds, etc.
The key takeaway of this chart
is the concentration of the household wealth of the bottom 90% in the family
home. The wealthy and upper-middle class own income-producing
assets, while the bottom 90% own some life insurance, cash and pensions, but
their largest asset by far is the family home. (They also "own" a
tremendous amount of debt.)
The problem is life insurance,
cash and pensions don't generate much income, and neither does the family home. Households
counting on the equity in bubble-priced housing are not factoring in the
unwelcome reality that all bubbles pop, even housing bubbles that can't
possibly pop.
To have the equivalent security
and generational wealth enjoyed by the middle class two generations ago,
households have to check off all 12 minimum thresholds. I'm
not sure there is a "middle class" any more; if we use these 12
minimum thresholds, the U.S. now has a super-wealthy class (top .01%), a very
wealthy class (top .5%), an upper class (top 9.5% below the wealthy) and the rest(bottom
90%), with varying levels of security and assets but at levels far below what
median-income households enjoyed in bygone eras.
By the standards of previous
generations, the middle class has been stripmined of income, assets and
purchasing power.
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