Is it true that many young professionals don’t know how to save money?
I recently had dinner with an old friend from college. I was hoping to catch up on friends, family, and our careers, but it was clear he wanted some basic financial information.
Knowing that I advise young professionals on their finances, she focused on the following questions: “How much should I save and how do I know if my savings plan is on track?”
Often earning six figures, receiving an annual bonus and holding stock options, many highly talented and bright young people often struggle with how to spend and save their money. My advice is to develop a process that focuses on three fundamental ideas that anyone can use.
Control savings and spending by paying yourself first
Budgeting and tracking expenses are useful tools, but they can be tedious and difficult to maintain. Instead of starting with expenses, I start by allocating the desired amounts of money to various savings and investment accounts.
I set up automatic contributions to my 401(k), Roth Individual Retirement Account (IRA), and after-tax brokerage accounts. Once that money is set aside, I have complete peace of mind knowing I can spend what’s left and still be on track to reach my financial goals.
If, like me, you make most of your daily purchases with your credit card, another easy way to control spending is to make sure you can pay your credit card bill in full each month without dipping into your savings. .
Don’t get me wrong: developing a detailed budget is a valuable exercise when done on a regular basis. And it’s particularly helpful if you’re planning to buy a home or make another big purchase.
Expense tracking also helps you uncover any unnecessary spending and find out the cost of some of those expenses we often forget about, like subscription services or dining out more often than we think. If you find yourself running low on money month after month, be sure to check your checking account online for ways to cut costs before you cut back on your savings.
How much should I save?
This answer is different for each person: a 29-year-old who continues to make a mark in his career will have less money than a 40-year-old who manages a team of professionals. In addition to cash flow, everyone will have different spending levels and goals. Some will have student loans, some will have young children, and some will want to retire at age 50.
A general rule of thumb that I like is to try to save and invest at least 20-25% of your gross income. For example, someone who earns $150,000 a year should consider contributing at least $30,000-$37,500 each year to their investment accounts. By making this commitment, your savings will grow rapidly.
For example, after five years and a 6% annual growth rate, someone contributing $30,000 a year will have saved approximately $169,113. After 10 years, that same person would have saved approximately $395,424.
While saving $30,000 a year may seem insurmountable at first, one of the easiest ways to start reaching this goal is to contribute to a 401(k) retirement account. In 2022, anyone age 49 or younger can contribute up to $20,500.
Also, many young professionals work for employers who will match a certain percentage of an employee’s contributions, giving you more incentive to invest and helping your money grow faster. After all, a dollar-for-dollar match from your employer equates to an immediate 100% return on investment!
In addition to maximizing annual contributions to a 401(k), you may want to consider the following:
Establish an Emergency Fund. Try to have enough funds to cover three to six months of living expenses in case of emergencies. We generally like high-yield online savings accounts for emergency funds because they are easy to access and pay a higher interest rate than most traditional checking/savings accounts.Contribute to a Health Savings Account. People enrolled in a high-deductible health insurance plan can set aside up to $3,650 a year ($7,300 for family coverage) to cover expenses beyond what their health insurance pays. Contributions to this type of account are tax deductible, grow tax-deferred, and can be withdrawn tax-free for health care expenses, ideally in retirement.Fund 529 Savings Accounts for College Education. For those with young children, these accounts allow you to save money that will grow tax-free. In many states, a portion of these contributions can be deducted from state income taxes.Contribute to a Roth individual retirement account (IRA). This is a long-term retirement account where any money contributed will grow tax-free for the rest of your life. The maximum amount that can be contributed to Roth IRAs this year is $6,000 for people under age 50 (the limit increases to $7,000 per year for people age 50 and older).
time is on your side
The sooner you can save and invest, the longer your money can work for you. It’s easy to understand that a person who starts investing at age 30 will end up with more money than someone who starts at age 35 or 40. But starting early also allows savings to grow through compounding—the process by which interest is credited to existing principal. amount, as well as the interest already paid.
Albert Einstein referred to compound growth as “the eighth wonder of the world. He who understands it, wins it; he who doesn’t, he pays for it.”
Going back to our previous example of saving $30,000 a year, after five years, the $150,000 contributed represented approximately 89% of the total account value of $169,113. Put another way, only 11% of the money saved was investment growth. However, after 25 years of consistent savings and a 6% rate of return, that same person would have contributed a total of $750,000, but would have an account value of $1,645,935, which means that more than half of the account value came from compound growth.
Even for those who don’t have enough money to follow these guidelines right now, it’s important to start at some level as soon as possible. If you can save 10% of your salary in a 401(k) this year and tap into the matching amount from your company, you can build from there. The key is to start a disciplined savings and investment plan that provides the money you need for retirement and leads to financial independence.
This article was written by and presents the views of our contributing advisor, not the Kiplinger editorial team. You can check advisers’ records with the SEC or FINRA.
Wealth Planner, McGill Advisors, a division of CI Brightworth
As Associate Wealth Advisor at CI Brightworth, Jalen P. Randolph is passionate about helping high-income professionals maximize their unique wealth-building opportunities through personal planning and advice. Before joining CI Brightworth, Jalen worked in both financial services and nonprofit development. She earned her Bachelor of Science and Master of Business Administration from the University of Delaware.
Source: www.kiplinger.com