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The First Step to $1 Million

You've probably read that the so-called savings rate went negative in 2005 for the first time since the Great Depression. Here's what that means: Americans are spending more than they earn.

A Fool's top 10
Are you among the summa cum laude graduates of Shopaholic U.? Herewith is a list of the top 10 signs. Drum roll, please:

10. Your kids are named Valentino, Gucci, and Prada.

9. Your last vacation was at the mall.

8. Nordstrom is your Wal-Mart.

7. Your wallet has more platinum than Liz Taylor's jewelry box.

6. Dolce & Gabbana attended your last birthday party.

5. Paris Hilton is your financial advisor.

4. You have more pairs of designer jeans than William Shatner has toupees.

3. Saks has inducted you into its shopper's hall of fame.

2. You wish Oprah would start a shoe club.

And the No. 1 sign that you are a shopaholic: You bought a second home because you need the extra space for your catalog collection.

Does any of that sound a little like you? If all you can muster in response is a nod in nervous agreement, don't worry. I'm not here to pass judgment. How could I? I've been there myself. And in studying my own spending, I've discovered a truism about saving and investing: I sometimes pay far too much.

Money can be found anywhere
Take my home office, for example. I've been working out of the house for more than seven years now. In that time, I've accumulated several phone lines, two broadband Internet connections, and five email addresses.

If that sounds absurd, you're probably right. I decided to take inventory recently and found that I spend roughly $47 per month -- or $564 per year -- for two of those email addresses and a website that I haven't updated in close to two years. That's money that could be going to date nights or retirement.

The real secret to investing
I'd like to say this is the only example, but it isn't. I could also be saving money by clipping coupons, cutting down on take-out food, and eliminating credit-card debt. Spending too much on cheeseburgers is only part of the problem, however. And it may matter little over the decades -- unless, that is, we're talking about your waistline. Nope, the larger problem is the spending we never notice.

Take your IRA, for example. Chances are it will be the primary tool for funding your retirement. If you are in your 20s or 30s, you've probably heard that you can do just fine picking any old fund that invests in stalwarts such as General Electric (NYSE: GE  ) , Johnson & Johnson (NYSE: JNJ  ) , and Procter & Gamble (NYSE: PG  ) . These types of companies are durable, and a fund can help you lazily earn solid returns for decades. While this isn't entirely bad advice, you do need to be careful about how you pick your fund. That's because the average stock fund will charge you 1.5% annually for the right to invest in it. And that, Fool, will cost you.

Please pardon the arm-waving
Since a smart retirement plan means maxing out your IRA each year, we'll use the allowable contribution limits as our proxy for the average contribution.

The limits are $4,000 for 2006 and 2007 and $5,000 for 2008. That could rise by $500 per year after 2008, but only if Congress allows it. Like most Americans, I'm not comfortable relying on Congress for anything, so let's use $5,000 as our contribution for 2009 and the 36 years following. (I'm assuming you are the spry young age of 30 and will invest for the next 40 years before beginning to draw down your account.)

Now, if you invest annually, and earn a 7% average annual return from a fund that charges 1.5% in annual fees, you'll wake up on Jan. 1, 2046, with a little less than $690,000. Sounds great, right? Sure it does. Here's what doesn't: By Dec. 31, 2045, your fund will have collected more than $145,000 in fees.

Take the first step to a million
Certainly I'm oversimplifying to make a dramatic point. But the math isn't wrong, and this example isn't without merit. Indeed, had you achieved the exact same performance -- 7% annually -- but invested in an index fund such as the Vanguard Total Stock Market (FUND: VTSMX  ) , which charges just 0.19% annually, your future portfolio would have nearly $985,000 in cash, and Vanguard would have charged you less than $25,000 in fees.

Had you invested directly in stocks through an IRA, limiting your trading to three $10.95 transactions a year, your portfolio would equal more than $1 million if you achieved that same 7% average annual return. Does that sound like a difficult task? The good news is that 7% is less than the market's historical average, and therefore within your reach if you invest for the long term.

The Foolish bottom line
The point here is simple: When it comes to investing, the first step to $1 million isn't to pick better stocks. It's to become an investing cheapskate. After you do that, investing is the easy part.

Fool on!

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Fool contributorTim Beyershas never actually met a shopaholic. Tim owns shares of the Vanguard Total Stock Market index fund. You can find out what else is in his portfolio by checking Tim's Foolprofile. Johnson & Johnson is an Income Investor recommendation; Wal-Mart is an Inside Value pick. The Motley Fool has an ironcladdisclosure policy.


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Tim Beyers
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Tim Beyers first began writing for the Fool in 2003. Today, he's an analyst for Motley Fool Rule Breakers and Motley Fool Supernova. At Fool.com, he covers disruptive ideas in technology and entertainment, though you'll most often find him writing and talking about the business of comics. Find him online at timbeyers.me or send email to tbeyers@fool.com. For more insights, follow Tim on Google+ and Twitter.

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