Why 1% Should Matter to You

It is 2015, and pensions are out, 401k’s are in.

The shifting retirement landscape has come to the point where companies rarely offer pensions for employees anymore.  Instead, 401k plans are the preferred choice.  Contributing to your employer-sponsored 401k plan to get the full company match is a given.  If they contribute 50 cents on the dollar for the first 6% then you put in 6% of your paycheck and the employer contributes 3%.  A total of 9%.  Not too shabby.

Contrary to many news outlets, companies are handing out raises to employees.  It could be in the form of an annual 3% raise.  A promotion can often times carry a raise of 6% to 20%.  No matter how big or small the raise is, you SHOULD consider raising your 401k contribution beyond the full company match.

It is the end of your company’s fiscal year and they award you a 3% raise (this is how employers make sure their employee salaries keep up with inflation).  Let’s say you contribute 6% of your paycheck and the employer matches you 3%.  You have a total of 9% of your paycheck being contributed to your 401k.  If you make $5000 a month this equates to a monthly contribution of $450.  If you were to take your 3% raise, increase your 401k contribution by 2%, a total of 8% that YOU are contributing, and add in your employer’s match of 3%, you now have a total of 11% of your paycheck going to your 401k.  Now, instead of having $450 a month deposited into your retirement account, the amount leaps up to $550 a month.

Adding 2% of the 3% raise to your 401k contribution still leaves you a little, 1%, increase to your paycheck.  You won’t miss the 2%.  Why?  Because you have already been conditioned to get by on the money you were currently earning.

Small raises to your 401k contribution can pay dividends later in your retirement life.  The following link shows you just how much a small increase now can pay you much more in your retirement years.

http://finance.yahoo.com/news/how-a-1–savings-boost-could-sweeten-your-retirement-155040943.html

Budget Smart, Invest Wise

The Pieces of the Financial Puzzle

puzzle pic

Achieving true financial wealth is no easy task.  Firstly, you have to generate an income.  Secondly, you have to have expenses that are less than the income you generated.  Finally, you have to take the difference remaining and invest it wisely.  These three things are what I consider to be the pieces to the financial puzzle.  I will illustrate how all three pieces are essential to creating a financial future you will be proud of.

Piece 1: Income

For the majority of us, this is generated from our job.  We trade our hours for money.  The best part about this piece is that there is no limit to how high your income can be.  Additionally there are many ways to generate income.  Getting an extra job part time on the weekends is an option.  Unfortunately, there are only so many hours one can trade for money.  This is where you must get creative.  Making more money each hour is one way to generate more income.  There is also residual income and ways to generate passive income one can do to expand upon this number.  Get creative and don’t limit yourself.

Piece 2: Expenses

Keeping expenses low is similar to a good defense.  Limiting expenses in various categories not only holds you accountable for your money, but it also can allow you to achieve certain financial goals faster.  Budgeting is the easiest way to monitor your expenses.  See what categories are holding you back, look at ways to reduce or eliminate them.  Gym membership you’re not using but still paying for?  Have you renegotiated your cable bill recently?  Much like the income piece of the puzzle, a little creativity in your expense category can go a long way.

Piece 3: Investing Wisely

You make money, you spend money.  Hopefully, the difference between these numbers isn’t negative.  If it is, you’re digging yourself into debt.  If the amount is positive then saving the remainder is often advised, but how you save that money is more important than the actual act of saving.  Placing savings into a low interest savings or checking account is a good way to devalue your money quite fast.  The U.S. economy has an inflation rate that is around 3% per year.  This means you need to invest the difference wisely, and that means in an investment vehicle that yields returns greater than 3% per year.  Vanguard can make this investment strategy easy.  Simply open a fund, pick an asset mix suitable to your risk tolerance and let the money compound over many years.  Of course, it is always advisable to have an emergency fund on hand where you won’t need to dip into retirement or other investments.

When reviewing your financial past, your financial present, and your financial future, all three of these pieces are essential.  Generate income, have expenses that are less than that income, and invest the difference wisely.

Budget Smart, Invest Wise

The Potential Retirement Cap

In his plan for the 2016 budget, the president and his administration are seeking to disrupt the current retirement process.  A number of retirement topics were mentioned such as Social Security, the elimination of a “back door” Roth, and a cap on the amount eligible in a person’s retirement accounts.

For the subject of this post, I will discuss the president’s plan to limit the amount held in retirement accounts for an individual.  Presently, an individual can have an unlimited amount in retirement accounts.  This includes employer-sponsored 401k’s, traditional IRA’s, and Roth IRA’s.  The only limitations currently imposed on retirement accounts are the amount you can contribute.  This includes$5500 ($6500 for people over 50) for IRA’s and $18,000 ($24,000 for people over 50) for 401k plans.  These limitations are currently set so that individuals don’t stash all of their retirement savings in tax-free or tax-deferred retirement accounts.  The government has to make its money somewhere.

The 2016 budget proposal would now not only put a limit on the amount of contributions you can put into a retirement account, but also on the amount held in your various retirement accounts.  The proposed limit: $3,400,000.  For a younger person saving for future retirement, this amount might seem astronomical.  However, I am here to tell you that it is not.  Granted a lot has to happen for this limit to take effect.  It has to be voted on and passed, and then I would assume the government would adjust this number to reflect inflation, roughly 3% a year.  If, and again this is a big if, this law were to be put into place it would impact roughly 10% of 401k plan participants according to Forbes.

Example:

Take the proposed limit on retirement accounts: $3,400,000 and adjust it for inflation of 3%.  In 40 years this inflation adjustment amount would be approximately $11,000,000.

Mike is a 25 year old with $20,000 in retirement assets.  This includes an employer-sponsored 401k plan along with a Roth IRA.  Mike will contribute $18,000 a year to his 401k and get an employer match of $3,000.  He puts in $21,000 a year into his 401k.  Additionally, he contributes the maximum $5,500 into his Roth IRA every year.  Mike spreads this amount out evenly over the 12-month year.  When Mike turns 50, he contributes the new limit, $24,000 in an employer-sponsored 401k with a $3,000 match and $6500 in a Roth IRA.  Assuming Mike’s portfolio returns 10% a year, Mike will have over $15,000,000 in his retirement accounts, more than what would be allowed.  He would then have to divert some of those funds to a taxable brokerage account, or be forced to spend it.

Sure, the example of Mike listed above is an outlier.  Many of us can only dream of having so much set aside for retirement.  The fact is that some people DO!  We can agree this would be a good problem to have, but nonetheless a problem.  Are you aggressive enough with your retirement planning that you have to worry about this law possibly being passed?  I am!  And for that reason, my vote is against it.

Budget Smart, Invest Wise

January 2015 Budget Review

The month of January was an exciting one.  I switched jobs and left the corporate world.  Because of unused vacation days, my income for the month of January was quite high.  This allowed me to put extra money towards my student loans.

I did incur some extra costs that I typically didn’t have.  As of now, I have elected COBRA continuation health coverage.  It is quite expensive and ate up more of my income than I had initially planned but no worries.  Life insurance is another category that I have to take on now as well.

After I had met all of my expenses for the month of January, I had a remaining $45.22 balance.  This amount I used to make an extra payment on my student loans.  My income for the month of February will most likely not be as high as it was for the month of January.  This means that the amount I have to spend and use to pay down debt will be less.  Every dollar, every penny is accounted for.  Take a look at an in-depth review of my January 2015 budget.  There is no perfect science to budgeting your income and expenses.  Everyone has their own way they like to do it.  The purpose is to hold yourself financially responsible and take steps towards your financial well-being.

Earned Income (After-Tax) $5430.94
Mortgage ($660.00)
Rent/Utilities/Cable ($528.99)
Car Payment ($300.00)
Car Insurance/Cell phone ($121.46)
Gas ($69.68)
Groceries ($100.00)
Eating Out ($142.54)
Roth IRA Contribution ($300.00)
Miscellaneous Expenses ($321.82)
Student Loans ($2545.22)
Life Insurance ($33.98)
Health Insurance ($307.25)
Final Amount $0.00

Budget Smart, Invest Wise

11 Poor Money Habits of People in their 20’s

money pic

Personal finance is a neglected topic of study for college students.  Universities are great about requiring English, Humanities and Science classes; however, they neglect to teach you about simple habits that will ultimately determine your financial well-being.

When you graduate from college, you might have debt in the form of student loans.  Do you know how much you have?  Are you aware of when your payments are due?  Do you know what a deferment period is?  There isn’t an exit interview in college that teaches you how to tackle all of the debt you will come into upon graduation.  Considering that the average student loan debt by recent graduates is at an all-time high of over $30,000 it seems like it should be a focus topic.

If you are lucky enough to get a good job after college do you know where your paycheck is going?  Every single dollar should be accounted for.  It’s easy to neglect this aspect.  After all, you just spent thousands of dollars and now it is finally paying off in your first bit of earned income.  Spending the first paycheck just seems like a rite of passage, new clothes, drinks with friends, etc.

Business Insider recently released an article of 11 poor money habits that people in their 20’s might have.  Are you a victim of some of these?  If so, what can you do to correct your faults.  Maybe it is creating a budget or finding out the best way to tackle student loan debt.  See what traps you have fallen into and how you can correct your mismanaged money ways.

http://www.businessinsider.com/worst-money-habits-of-20-somethings-2015-1#11-being-financially-illiterate-11

Budget Smart, Invest Wise

What to do with Your Tax Refund

It’s that time of year when we begin collecting our W-2’s, 1099’s and other documetns to prepare our tax returns.  For some of us, including myself, we get excited about this tax time of year.  The main reason: a tax refund!

I found out last year through a car salesman that the car industry loves tax season.  The reason why?  Because many people end up using their tax refunds to help with a down payment of a new automobile.  A friend of mine last year used her tax refund to purchase a designer purse.

If you get a tax refund, you might view it as a “bonus”.  Unexpected money just fell into our lap.  We get the urge to spend this money on a luxury that we might otherwise have not been able to afford.  It’s YOUR money, do with it as you please, but I will offer some advice on how to spend your tax refund wisely:

Pay down Debt:  Instead of buying a new car with your refund, use it to pay down an existing car loan if you have one.  Make an extra payment or two to a student loan you might have.  Debt is an obligation you will  have to pay down eventually, so why not use the extra money to give you an extra step to being debt free.

Go on a Vacation:  Maybe you feel like you have worked hard, and you probably have.  Use the money, or part of the money, to treat yourself to a vacation.  The enjoyment and peace of mind you can get out of an experience far outweighs any “thing” you might want to purchase.  You will have created lasting memories.  Plus, more than likely, you will be more focused upon your return.

Just save it:  Suppose you are 25 years old and receive a tax refund of $1000.  If you used that money to open a Roth IRA or put it in a taxable brokerage account, you will be well on your way to creating future financial freedom for yourself.  Let’s use the following example: You take the $1000 and open a Roth IRA.  If you put in just $100 a month into that Roth IRA, then assuming an 8% return annually, you will have an account balance of well over $300,000 in 40 years.  Granted 40 years is a way off, but that money can help supplement your retirement.  You can also use the refund to build up an emergency fund or to contribute to a taxable brokerage account.

A tax refund is welcomed by everybody who receives one.  You worked hard last year, you paid a little more in taxes then you should have, now it’s the government’s turn to give a little back to you.  Spending our refund on cars, purses and consumer electronics is what American society has conditioned us to do with extra money.  Don’t fall into the trap of what everyone else does with his or her refund.  Use it to create a better life for yourself, for the present and the future.

Budget Smart, Invest Wise