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Simple and Personal Finance: Milestones

10/29/2013

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by Joanne Danganan, Jeepney Hub Content Development Director
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I have compiled 5 of the most important milestones for a sound and happy wallet. Keeping in mind that not everyone’s road to financial independence is the same, and not everyone’s story follow the same plot or timeline, I did not limit these milestones to any age range. Of course, the sooner you start, the sooner you can take your finances by the lapel and have it work for you. After all, one of the main ingredients to success is making sound financial decisions. Let’s get started!

1. Maintain a short-term emergency fund and start a long-term emergency fund.

Since emergencies typically come at the worst of times (which is anytime), having an emergency fund (EF) before you start tackling credit card debt, investing, or doing anything else with your money is pretty wise. You won’t want to sacrifice paying down your debt or setting aside a large windfall for your investment portfolio in case you have to pay for an unexpected and/or huge medical bill – by having that EF around, you won’t have to choose which one to pay!

A short-term EF can be used to pay for unexpected car repairs (or towing fees on top of a parking violation, like I experienced just last month), unexpected health expenses (wisdom teeth extraction, anyone?), and house appliance repairs (for those who own appliances). Having a short-term EF ensures that you won’t be set back a couple hundred bucks in a particular month or two. It will also help you avoid charging it on your credit card, which can be way more expensive in the long run if that charge isn’t paid back immediately.

To maximize the use of an emergency fund, start one for the long term by saving between 3 and 6 months worth of living expenses – rent, bills, and sustenance. This will cushion your fall if you experience any period of unemployment from a sudden layoff, for example. 

A great blog called Money Crashers has a great, in-depth article about emergency funds. I personally use online savings accounts to house my emergency funds (Capital One 360, Ally Bank) for their relatively high yields. 

2. Pay off high-interest credit card debt.

If not used wisely, high-interest credit cards can get you into real trouble. If you are swiping that piece of plastic often enough, but are unable to pay off the balance at the end of each month, you are potentially throwing away hundreds or even thousands of dollars in interest each year. 

Back in college, I had a bad habit of just paying the minimum every month. I thought, “WOW, this is great! I can borrow hundreds of dollars for just $15 a month?!” Oh, how naive of me... 

By the time I maxed out my first credit card, I was paying 26% in interest on top of my $700 principle. In total, I easily wasted at least $500 in interest by only paying just a little over the minimum payment, thanks to my high interest rate. And since I kept swiping that piece of plastic, my balance just flatlined – I wasn’t making a single dent!

When I finally realized I could be saving all that cash, I decided to do something drastic. I put a portion of one of my tax refunds towards paying off my credit card debt and voila – my life changed overnight. My credit score improved by 100 points (I’m not exaggerating), and I had the wonderful opportunity to put aside more money in savings since I no longer had pesky monthly payments to worry about. 

The point is, credit card debt is expensive. If you want to start becoming (or stay) financially sound, stop using that piece of plastic dangerously and start using it wisely. David at Money Under 30 goes into great detail about how you can do just that.

3. Set aside money for retirement.

Don’t put off for tomorrow what you can do today. That includes setting money aside for your retirement – our good friend Compound Interest begs you to start today.

To illustrate, let’s follow two 25-year-old brothers: Jerek and Shawn. Jerek graduated with his BA and landed a job at a non-profit. He immediately signed on to set aside $300/month (or $3,600 annually) toward a retirement plan. Shawn also graduated with his BA and went straight to medical school. Seven years later, he was able to set aside $400 a month (or $4,800 annually) after starting as a doctor at a local hospital.

Assuming Jerek and Shawn both set aside consistent amounts and assuming they retire at the same age of 65, let’s see how the numbers compare:

Since Jerek started saving at age 25, he already has a huge leg up. Assuming a 7% return, his $3,600 annual retirement contribution would be worth $822,903 at age 65. On the other hand, Shawn couldn’t put aside any serious money until he became a doctor at age 32. Therefore at 65, also assuming a 7% return, his $4,800 annual retirement contribution would be worth $655,603. That’s a difference of $167,300!

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Though Shawn eventually contributed slightly more per year than Jerek, Jerek still earned a little over $150,000 dollars more overall. This is because Shawn had to defer earning income in exchange for his MD and simultaneously had to defer contributing to retirement for seven whole years, putting Jerek at a huge advantage from the start. 

The lesson here is all about the incredible principle of compound interest. The earlier you save, the larger your return will be. At a decent return, even 7 years makes a huge difference. So again, don’t put off for tomorrow what you can do today. Even $50 a month now can mean thousands of dollars down the line.

Personally, retirement benefits are the first thing I look for in a potential employer. Many employers match a percentage of your retirement contribution - which I consider FREE money! If your employer offers this, you should have been taking advantage of this yesterday. 

If you don’t have that privilege, consider opening an individual retirement account (IRA) on your own (see number 5). Personally, I have a rollover IRA Fidelity from my first job out of college, but lately I’ve been eyeing Vanguard’s IRAs - a friend of mine loves investing with Vanguard so I will personally be looking into that.

For those of you shaking your heads at me and thinking, “Shouldn’t you enjoy your money now instead of waiting until retirement to enjoy it? Life is short!” And I shake my head back. 

It’s all about balance, right? I want to be sure that I’m enjoying my life today in this moment (check!) but I also want to be sure that if I get the privilege of living a long and healthy life, that I’m set to retire with decent income. And to do that without having to work until I’m 80 years old (knock on wood), I set aside some of my earnings for retirement. 

4. Get a degree to increase earning power.

According to the Census Bureau for the Bureau of Labor Statistics, a bachelor’s degree increases annual earning power by at least $25,000. There are certainly alternative options to a bachelor’s degree, but nonetheless, increasing your level of education can only help you in the long haul. Even with higher education getting exponentially more expensive these days, it’s essential that you get a degree not only to make you more competitive in the job market, but also to earn what you deserve.

5. Start a Roth IRA (and max out your contributions).

Our friend Compound Interest is back and urging you to start a Roth IRA as soon as you can. A Roth IRA is a special kind of individual retirement account (named after Senator William Roth, Jr., one of the legislators behind the Taxpayer Relief Act of 1997) that allows your investments to grow without being taxed. Again, if you start saving now, you will have greater potential to grow more interest on your contributions. 

The not-so-secret secret to becoming financially sound is having multiple streams of income and having a diverse investment portfolio. Diversify your portfolio by investing in your employer-sponsored retirement savings program AND in your own Roth IRA. Or if you don’t have the former, just having a Roth IRA is pretty diverse as it is, since you can invest your money in real estate, mutual funds, bonds, money markets, stocks, etc. depending on your risk comfort.

Plus, a huge advantage of having a Roth IRA is that your withdrawals at retirement aren’t taxed! Since you’re setting aside already-taxed money into your Roth, the government can’t touch it a second time. Think about it: say you set aside $5,000 into to your Roth each year starting at age 25, until you retire. Assuming a consistent 7% return, you can withdraw a little over $1 million by retirement age, tax-free. That could pay for a pretty decent standard of living!

So, why wait? Sure, you’ll have to give up a few luxuries today to contribute a few thousands of dollars a year, but Compound Interest will make it worth it down the line.

This sounds too good to be true, and it may be for some. There are certainly requirements and limitations to contributing to a Roth, so be sure to do some research before you jump on it too quickly. Kippler has a great article outlining these requirement/limitations, as well as more of its benefits.

If you’re interested in investing in a traditional IRA, Investopedia does a quick and dirty comparison of the two types.

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There you go - 5 milestones to hit at any age. It’s a good mix of saving, paying down expensive debt, and earning what you deserve. Of course, there are other great financial milestones to consider, like the ones Gen Y Wealth lists. But these 5 really set the foundation for a healthy wallet.

We’d love to hear from you about these milestones! Have you reached and exceeded any of them? Are there any you’re currently working on, or hoping to work on in the future? Tell us in the Comments section below!

RESOURCES:

More financial milestones to consider
Gen Y Wealth 
Kiplinger
Yahoo Finance

Articles mentioned in this post
Money Under 30 - How to use a credit card wisely
Money Crashers - How to start and build up your emergency fund in savings
Investopedia - Roth Vs. Traditional IRA: Which is right for you?
Kiplinger - Why you need a Roth IRA

Copyright © 2015 Jeepney Hub.  All Rights Reserved.
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Simple and Personal Finance: Budgeting Basics

9/1/2013

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by Joanne Danganan, Jeepney Hub Content Development Director

One of the keys to future success is making sound financial decisions early on. Recent research findings published in the journal Science indicate that poverty and dealing with financial issues saps our mental abilities. "The limited bandwidth created by poverty directly impacts the cognitive control and fluid intelligence that we need for all kinds of everyday tasks." (Emily Badger, The Atlantic Cities). We want you to start building good financial habits while you're young so that you have the cognitive function to focus on other important things in life. Thus, let's get started with the basics and read about how to make a budget and sticking to it.

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For some, handling personal finance is a natural skill. For many others, it is a long and labored learning process. Personally for me, it’s the latter, and a process that I hope doesn’t end.

It’s hard to admit this, but my parents and many of my relatives don’t have great relationships with money. Some gamble it away, some spend it on way more wants than needs, and some borrow more than they can handle. I observed all these growing up (and still see it today), and I unfortunately developed the “earn then spend” mentality, rather than the “earn, save, give, then spend” mentality. When I graduated college and thankfully landed a full-time job, I knew that I had to buck up and face the reality that “earning then spending” would leave me at the intersection of Broke and Financially Stunted. 

Knowing my many shortcomings in the financial area of my life, I started reading books and a ton of blogs about personal finance. They have all taught me how personal finance should look like and how I can use it to plan my wealth and pay down my debt, while still enjoy being a 20-something living in a big city. And each book and blog has taught me one simple thing: personal finance is personal. Not every rule or suggestion will work the same for each person, but rather, it should be used as a map with many routes to the same destination. 

For me, personal finance isn’t just using math as a means to acquiring more monetary assets. It’s a tool that I use to advance my dreams and aspirations, like being debt-free, living under my means, buying my first home, or finding resources to help fund a potential startup. Effective personal finance is a behavior, and I hope to impart useful advice that I have used in the past that might be helpful to you in developing a good set of habits when it comes to your wallet.

The first principle you must know in personal finance dictates anything concerning your hard-earned cash: how to budget. Budgeting is one of the simplest tasks in personal finance, yet not everyone of us knows how to effectively use one. Not only can budgeting help you plan your month’s expenses (or whichever time interval you prefer to use), but it can help you finance on a micro-level like financing a vacation trip that you’d like to pay with cash (rather than credit or personal loan), taking a class outside of school that you’re interested in (like a sewing class at the local community center), or even investing in your side hustle (like paying for the launch of a new website). 

At its most basic level, a budget simply compares your income against your expenses and helps prevent you from overspending. First, list all your sources of income. Then, list all your expenses. You can make both as specific or as general as you want it to be – whatever works for you. In my sample budget, which looks pretty similar to mine as a working college student some years ago, I made mine pretty general.

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Employing the zero-out method (notice my end balance is $0), if I underspend in one category like misc. spending, I can allocate the leftover money to my groceries fund or send it over to my savings account. By the same token, if I overspend in misc. spending, I must transfer enough money from, say, my groceries fund to ensure that my balance stays at zero, helping me avoid overspending. This is just like using an actual budget envelope, except you can keep it virtual with smartphone apps like EEBA. If you prefer to have a physical budget envelope, you can do that too (though I do caution carrying too much cash around with you).

The point of planning a budget is to avoid the bad habit of overspending. There are so many tools out there that help you do that, but budgeting is the most basic way. So, if there’s nothing else you learn from budgeting, it has to be this:
  • End balance > Expenses = Amazing!
  • End balance < Expenses = Bad! If you find yourself in this situation, consider spending less or earning more (preferably the latter!).
Common sense, right? For many of us, though, it is easier said than done, but that’s what I’m here for. If you currently live in the second bullet, like I had been for quite some years, I hope to help you break the cycle. Keep checking back here at Jeepney Hub for more tips on personal finance, or make it simple for yourself and subscribe to our email newsletter!

If you have any feedback or questions about this post, I’d love to hear about it!

Helpful resources:
  • The Millionaire Next Door by Thomas J. Stanley and William D. Danko, proving that the millionaire next door is least likely to buy a brand new Benz or have a Rolex watch. He also might not have the biggest house on the block.
  • Your Money or Your Life by Vicki Robin and Joe Dominguez, transforming the way we think about our time and our money – a personal finance must-read.
  • Money Under 30 - a blog catered to 20-somethings, started by David Weiner when he was 25, covering all sorts of topics from financing your college education to planning a family.
  • Money Girl - a blog on Quick and Dirty Tips by Laura Adams, a writer and host of one of the most popular personal finance podcasts around, covering topics from credit scores to investing in a Roth IRA.

Copyright © 2015 Jeepney Hub.  All Rights Reserved.
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