I’m Sarah Swan, Vice President, Portfolio Manager at Howe & Rusling and today’s Street$marts is a checklist for all of you 30-somethings out there to improve your financial well-being today.
- Understand where your money goes
There are plenty of decent apps out there to help with budgeting; but the very simple gist is this: track money coming in and money going out, and do your very best to have money coming in be greater than money going out. The more detailed you are in your tracking, the easier it is to understand exactly what your earning and spending tendencies are, make decisions about what kind of spending and earning brings you joy and gives your life meaning, and the easier it is to see patterns and make worthwhile changes if need be. We don’t like mantras about saving that $4 a day on your morning latte and making coffee at home instead; we don’t believe it’s sending the right message. You can spend your money however you’d like as long as you understand where you spend it and do your best to have money coming in be greater than money going out.
- Understand there are pros and cons to renting v owning
While many tend to believe that renting is a bit like lighting your money on fire, I’d urge you to think about the more nuanced picture. Yes, buying can be an investment, and buying allows for resale later, whereas renting does not, but there might be emotional value in the freedom and flexibility that renting provides. There’s emotional value in being able to get a brand new car every few years without having to worry about car troubles in the interim, just like there’s value in the flexibility of being able to pick up and move from one apartment to another, or one city to another. Everything is a balancing act that tries to weigh opportunity costs. Would you rather cash flow rent payments or have your money tied up in a down payment for a home purchase? Renting v. owning is not just a financial decision.
- Understand how to assess whether to save, invest, or pay off debt
We hear this question a lot: if I have extra money, what’s the correct order of operations? It’s first important to understand the difference between savings and investments. Savings are money that you keep very liquid and very safe to spend on needs and goals. We recommend having 3-6 months of living expenses saved in the event of an unforeseen emergency such as losing your job. Investments are money kept in vehicles that grow over time, and investing should typically be done with funds over and above those you have in savings. Now, ideally, you’re doing some sort of combination of debt draw down, saving, and investing—and regardless, make sure you are paying at least the minimum payments on any debt you have outstanding. But in terms of order of operations for these actions, it mostly comes down to two things: your own psychology, and interest rates. You might feel preconditioned, like so many of us, to have an almost visceral aversion to debt. And that’s meaningful; there is value in paying off debt to sleep better at night. But debt can be a powerful tool, because presumably where you are using a loan, you’re either able to spend your income elsewhere, or you can use the loan to ultimately make money, like in the case of taking out a mortgage to buy a house for instance. If the interest rate on your loan is low, say, 3%, then instead of fully paying off your loan, you could simply keep making the minimum payments, and use your extra money to invest in the stock market where as long as your return is greater than 3%, you’ve done an effective thing with your money. The difference-maker is the interest rate on the debt. If we’re talking about consumer debt and the interest rate is 18%, it certainly makes most sense to pay that debt off first and as quickly as possible—it’s not easy or prudent to go get returns in excess of 18% in the stock market. Again, we repeat: some combination of saving, investing, and paying down debt is the ideal we should all be working towards—your own psychology and interest rates should help you figure out your personal order of operations.
- Contribute to your 401k and take advantage of the employer match
401ks are maybe the most common form of retirement accounts offered by employers today. 401ks are retirement accounts that allow you to make contributions before paying taxes on those funds, effectively lowering your taxable income. Why is this helpful? Because if today you are gainfully employed and making a decent amount of money, you are likely falling into a higher tax bracket than you will when you are retired and actually withdrawing the money. So 401ks allow you to put away a portion of your income, pre-tax, into an account for it to grow. So, if you have a 401k through your job and your employer matches a certain amount of your contributions, you BETTER be contributing at least that much in order to receive the free employer funds. After you’re vested, the matching contributions made by your employer are yours to keep… forever. So, every time you don’t contribute enough to receive the employer match, you are losing money (and—you’re not just losing the match funds, you’re losing the ability of those lost funds to compound in value if they’re invested over years to come).
- If you have kids, open up 529 plans for them
529 plans are state sponsored savings plans for education expenses such as tuition and room and board. They’re a phenomenal way to save for your kids’ college from the time they’re little with tax free growth of the principal you contribute. In many states there’s even a tax deduction or tax credit for contributions. They’re also generously flexible – it’s easy to change beneficiaries within a family in the event one of your kids doesn’t end up needing the funds. 529 plans are simple to set up (you can pretty much Google it for the state you live in), they’re very inexpensive, and are currently the best option for education savings.
- Have an updated will
If you have any assets whatsoever, you should have a will. If you’re newly married, it’s an especially good time to establish a will. If you’re a new parent, it’s a critical time to either establish a will or update your existing one. Any estate attorney can provide this service for a fee, and it’s a small price to pay for controlling your assets should something unforeseen happen to you.
So, in very quick summary: Earn more than you burn. Understand the nuances in the renting versus buying conversation. Learn how to think about interest rates when it comes to deciding whether to save, invest, or pay off debt, but don’t ignore your own psychology in these kinds of decisions, too. Take full advantage of your employer’s 401k match in order to save for retirement and benefit from early compounding. Open 529 savings plans if you have kids—tax free growth at essentially no cost, plus tax deductions or credits in many cases. And lastly, have a will—you don’t think you need one, but you do.