Archives for October 20, 2018

If you’ve just graduated from college and are new to the workforce, now is the best time to lay the groundwork that will set you on the path to financial independence.

If you’re in your 20s, chances are you’re new to the working world and still trying to find your bearings amid other big changes, like graduating from college and perhaps moving into your own place. Still, it’s important to start laying the groundwork now to achieve financial security for the many decades to come.

That’s why I recently spoke to Libby Leffler, vice president of membership at SoFi, a personal finance company. Here are the five personal finance tips she recommends every young person should implement by the time they are 25 to maximize their financial health:

Pay yourself first.

“When you’re beginning your career, it can be difficult to find extra money,” Leffler says. “That’s especially true if you’re saddled with student loan debt, alongside 44 million other people in the U.S. Or, perhaps you took a job in a more expensive city and now have a sky-high rent to match.”

Leffler suggests that each month, after you pay off your essential living expenses, that you pay yourself first. “Get into the habit of saving this bit of money. Earmark savings for different purposes, like an emergency fund you can dip into if something unexpected happens. If you get into a paying yourself first mindset, it’s easier to hold yourself accountable,” she says.

Know what you spend.

“It’s important to know exactly how much you’re making and how you’re spending it. Create a general outline [or use a digital tracker] that allows you to [clearly see these numbers],” Leffler advises.

Then take a hard look and try to identify wasteful spending. For example, she says, if you discover that more than 20 percent of your monthly income is going toward food delivery fees, you’ll know that you need to cut back. It may sound obvious, but seeing the actual numbers in front of you will make you more mindful about your spending. You’ll also start to notice spending trends and find opportunities to adjust your financial goals over time.

Invest in your future.

“If you’ve never considered the different ways you can make your money work for you, now is the time to start,” Leffler adds. “[Think about] investing in the market or moving idle cash into a high-interest checking or savings account.”

She recommends using your short- and long-term financial goals as a framework to determine which investments and account types make the most sense for you. For example, if you have a short-term goal of building an emergency fund, you may want to start saving money in an easily accessible cash account, like high-yield checking. A longer-term goal, like retirement, may mean investing in stocks and exchange-traded funds (ETFs) through your 401(k).

have a money buddy.

Leffler says it’s easier to hold yourself accountable if you have a friend who supports your financial goals. Ideally, a good “money buddy” has similar financial values as you. “Though it may seem painful to skip out on a concert or that fun dinner you’ve been looking forward to, it becomes much easier when you have a built-in support system – your money buddy – to encourage you to stay on track,” she adds.

Ask for more.

According to LinkedIn, millennials change jobs four times in their first decade out of college. “It’s not unrealistic to imagine that you may be faced with a pivotal career decision in the near future, like a new job offer,” Leffler says.

Though a new opportunity is always exciting, you’ll want to carefully evaluate and negotiate the compensation package. Consider every aspect of the deal, including base salary, performance bonuses and vacation time, Leffler notes.

And if you’re considering asking for a raise, do your homework. “Conduct market research on your current role and educate yourself about your company’s pay practices,” Leffler says. “Good market research includes both looking at data from salary comparison websites and talking to people in your industry to get a sense of the going rate. Then, look back at the things you have accomplished over the last six to 12 months. Consider the biggest contributions you’ve made and make sure to highlight them.”

Leffler also points to a recent study conducted at SoFi, revealing that over half of the company’s members said they thought they were underpaid – yet only 33 percent of them planned to ask for a raise.

She notes that SoFi provides a digital tool (getthatraise.sofi.com) to help simplify the process of preparing to ask for a raise by packaging your years of experience, key achievements and shining accomplishments.

And if your boss says “no” to the raise, don’t get discouraged. Leffler says follow up by asking for guidance on the things you can do to be considered for a raise or promotion in the next review cycle.

BOOKS, BLOGS AND financial programs all have a message for you: Ditch your debt.

However, some finance experts say that advice is short-sighted. “Debt is a tool,” says James C. Kelly, vice president and wealth strategist with financial firm PNC Wealth Management. He likens debt to a hammer. Depending on how debt is used, you can make something great or cause significant damage.

And while high-interest credit card debt isn’t advisable, other forms of debt can be leveraged to make money. A mortgage can buy property that will appreciate in value, while student loans can lead to a degree that opens doors to higher-income professions.

Shannon Lynch, a senior financial advisor with online advisory firm Personal Capital, says people need to be smart not only about when they use debt, but how much debt they incur. She recommends that your total debt, including a mortgage, not exceed 36 percent of your household’s gross income.

While every family’s situation is different, here are five times when it may be worthwhile to go into debt.

Higher education. You’ll increase your chances of getting a good job if you pursue a college degree. Since 1991, good jobs for those with only a high school education have declined, while those that require some postsecondary training increased by 3.5 million. And jobs requiring a bachelor’s degree doubled from 18 million to 36 million, according to a 2018 analysis by the Georgetown University Center on Education and the Workforce, which defines a good job as one that pays at least $35,000 and has a median income of at least $56,000 for those without a four-year degree.

“A college education is not an inexpensive proposition,” says Scott Witherspoon, chief credit officer at Affinity Federal Credit Union. Scholarships, grants and work-study programs can defray costs, but many students still need to take out loans. And though student loans can be a smart use of debt, it’s important that the program the student is enrolled in will lead to a job with an income that’s high enough to justify the cost.

Housing. Mortgages are another common form of debt. “There are very few people who are in a position to pay cash for a home,” Witherspoon says.

The housing market crash preceding the last recession is a grim reminder that mortgages come with risks. Subprime loans with variable interest could quickly become unaffordable if rates begin to rise. Lynch warns against letting housing costs, which include principal, interest and insurance costs, exceed 28 percent of your gross income.

When you have extra money, you can do several things with it. You could spend it, save it for a rainy day, or invest it for the future. If you’re trying to increase your wealth, you know that spending is not the best option. But choosing between saving and investing is a little more complicated.

Both can be beneficial, but one is often better than the other in a given situation. It all comes down to where you are in your life, what your goals are, and what kind of savings you already have. Here’s a closer look at saving and investing, with some advice on how to determine which is better for you right now.

When to save

If you have no savings at all, then this should be your priority. Everyone should have an emergency fund that can cover at least three to six months’ living expenses. If you lose your job or you have an unexpected expense, you can use this money to cover it instead of falling behind on your bills or running up a load of credit card debt.

Saving is also a good choice if you plan a big purchase in the near future, like a home. It’s better to keep the money for a down payment in a savings account rather than investing it, because the stock market can be volatile in the short term. If your investments lose their value, you will lose that money, at least for now. Stock values might rise again, but probably not soon enough.

You should also consider saving when you want access to your money quickly. Investing can be lucrative, but it takes time to sell your investments and get the money back into your bank account. Plus, you don’t want to be forced to sell in a hurry just because you need the money right away. In that case, you might not get as much out of your investments as you’d hoped for.

When to invest

As  mentioned above, you should work on saving first if you don’t have an emergency fund. The one possible exception to this is if your employer offers a 401(k) match. In this case, you should try to contribute some money to your 401(k) while you’re building your emergency fund so you can take advantage of that free money and get the tax break. Ideally, you would be able to contribute enough to get the maximum employer match, but any amount is better than none at all.

Investing should be on the radar of those who already have an emergency fund as well. The average savings account’s annual percentage yield is 0.08%. That means if you make an initial investment of $1,000, you’ll earn only $0.80 in interest after a year. Of course, it’s possible that savings account interest rates will rise, but it’s unlikely that they will ever beat the standard inflation rate, which is estimated to be around 3% per year. That means that the money you’re putting into your savings account will actually lose value over time. In a year, that $1,000 would have a purchasing power that’s about $30 less, assuming a 3% rate of inflation. If your savings account is earning less than $1 in interest, you’ve just lost $29 in purchasing power.

Of course, investing has risks, but as long as you know what you’re doing (or get help from someone who does), then it’s possible to get returns of 7% or more after inflation. This gives you a much faster means to grow your wealth, as long as you’re willing to be patient and weather the market’s ups and downs.

It doesn’t have to be either/or

You always have the option of saving some money and investing some, too. Contribute a percentage to your 401(k) or IRA each month and then put the rest of your extra money into savings.

If you’ve maxed out your retirement accounts, consider opening a nonretirement investment account. For new investors, it’s probably a good idea not to put in a bunch of money right away. Take the time to educate yourself about how to choose the right investments for your risk tolerance. Then, start small and gradually add more money as you grow more confident.

Sam Dogen, a San Francisco-based blogger at the Financial Samurai, retired in 2012 when he was 34. Despite the many perks of early retirement — waking up whenever you want, for example — it wasn’t the easiest decision.

Dogen said he suffered an identity crisis after giving up his title as executive director at an investment firm. He also doubted himself for the first few years of early retirement. He stopped telling people that he had retired early because he worried they just wouldn’t understand. He was disappointed he didn’t feel happier with his supposedly carefree life. “I’m an extrovert who enjoys constant human interaction,” he told MarketWatch. “Losing the constant camaraderie of colleagues, competitors and clients was the most difficult to deal with. So much of my social network revolved around my job because I consistently worked 12 hour days.”

Dogen didn’t give in to the doubt though, and feels that his perseverance has paid off. Not a day goes by that he and his wife are not thankful for retiring early, he said. “There’s always another dollar to be made, but never another second to create,” he said. “Once you have enough money to live comfortably, having more money won’t bring about any more happiness.” Still, he acknowledges this lifestyle isn’t for everyone.

Even knowing how good early retirement can feel in the end, others feel the jitters while taking the leap. Jay, who is becoming a stay-at-home dad later this year after deciding to retire early at the age of 41, is one of them. He has been saving and has a wife who will keep her full-time job as a professor — but he’s still a little unsure about the big lifestyle change.

Jay — who didn’t want his full name to appear in this article because he doesn’t want his current employer to know he’s planning to leave — is fearful of retiring early for a few reasons. He’s worried about the loss of income, even if his family will be supported by passive income and his wife’s salary. He’s also suffering from the fear of the unknown and a potential loss of identity, he said. What if there’s a devastating market downturn, or he gets a medical diagnosis for an expensive-to-treat disease? “These things could all happen if I’m still working but I have a steady paycheck coming in and don’t care if my brokerage accounts lose 60% of their value,” he said.

The FIRE movement, short for “financial independence, retire early,” is burning up on the internet. Hundreds, if not thousands, of anonymous bloggers (they tend not to reveal their identities because they’re still employed and are afraid of losing their jobs) share their goals of leaving their 9-to-5 jobs and write about how they plan to do so. Some choose to give up their careers entirely, while others decide to freelance in the industry they work in or try an entirely new part-time job.

Given the number of readers some of these bloggers have — Dogen’s site says he has about a million page views a month — it’s clear there’s a lot of interest in this concept. Reddit has an entire section devoted to financial independence, where users discuss in various threads how to accomplish early retirement, trade tips for specific industries and share personal experiences and methods.

Not all members of the FIRE community agree on how much you actually need to retire or how to go about saving that much, but they tend to agree the concept is very much worth the extra work and sacrifice.

Is it though? MarketWatch spoke with financial advisers about the financial and emotional consequences of early retirement.

No more active income

Early retirees give up potentially high earnings, especially considering wages rise well into middle-age for many Americans. Earnings tend to peak around 48 for men and about 39 for women, according to an analysis by PayScale.

Physical laborers see peak earnings at an earlier age, whereas executives may not peak until their 50s or 60s. “Individuals who retire early are choosing to stop their earned income, which is the greatest defense against life expenses,” said Hank Mulvihill, director and senior wealth adviser at Smith Anglin in Dallas. “This is a decision not to be taken lightly.”

Here’s one way to figure out if early retirement is a sound financial decision: if savings and investments can produce equivalent after-tax earnings to your current income and there’s a chance those earnings will grow similarly to a salary or bonus, then it may work, Mulvihill said. But early retirees also have to consider other components of compensation, including insurance coverage and employer matches in retirement accounts, he said.

Saying goodbye to active income also means potentially reducing Social Security benefits. “If you believe that Social Security will be a part of your retirement income, then reducing your working years can have a significant impact on your financial benefit,” said Nicole Theisen Strbich, director of financial planning at Buckingham Financial Group in Dayton, Ohio.

Understand how much work is involved

Some say the idea of sustainable passive income — enough to last through retirement and thereafter — is a pipe dream. That’s what Gary Vaynerchuk, entrepreneur and author of “Crush It: Why Now Is the Time to Cash In on Your Passion,” argued in a popular Youtube video. “Passive income doesn’t exist and anything that starts with ’I don’t want to work’ is already a problem,” Vaynerchuk said in the video. The best way to make money is to make less money, just enough to live, and focus on something you’re passionate about. ”Save all those dollars, build something for yourself over seven years and then transition from your **** job to your own business. That’s passive.”

Josh Brown, financial adviser and chief executive officer of Ritholtz Wealth Management in New York, agreed with Vaynerchuk’s sentiments, and shared his own thoughts about the video on his blog. “You need to accumulate assets in order to generate large amounts of passive income,” Brown wrote. “You need to work like a dog over many years and not spend in order to accumulate those assets. There’s no in between unless you win the lottery.”

Don’t miss: There’s good early retirement and bad early retirement. What to do if you get the bad one

Untether yourself from consumer culture

To save enough, early retirement hopefuls will have to work extra hard and change their lifestyles, which may involve cutting back on eating out, movies and vacations. “They often have to live on a shoestring budget and forgo things that make life enjoyable,” said Anthony Badillo, lead planner at virtual financial advisory firm Gen Y Planning.

Aggressively saving is never a bad thing, he noted, and even people who don’t want to retire early should try to save 20% of their gross income if possible. But there must be balance. “I believe that we should use our money to live our best lives according to our specific values and beliefs,” Badillo told MarketWatch.

Vicki Robin, a personal finance guru and author of “Your Money or Your Life,” said the key to achieving financial independence is to clear the mind of the “thrall of the consumer culture.”

In other words, early retirees will most likely be successful if they can spend less on non-essentials. In the new version of her book, originally published in the early 1990s, she argues that financial independence must also include a bit of self-reliance, as in cooking more meals at home and doing repairs around the house yourself whenever possible.

The rise of the FIRE movement also comes at a time when people are prioritizing experiences over material possessions. There are plenty of less expensive excursions, like a day at the beach, sitting in cheap bleacher seats at a baseball game, going hiking or enjoying a potluck at someone’s home.

Limited access to retirement accounts

Social Security, Medicare and other federal benefits have age restrictions. Many individual retirement accounts and 401(k) plans aren’t available without penalty under age 59 ½, said John Middleton, a financial adviser at Brighton Financial Planning in Clinton, N.J.

“The early withdrawal penalties are severe enough to make it unlikely these income sources will sustain early retirement through age 62, at which point individuals could claim Social Security income,” he said. To make early retirement work, individuals would need to aggressively save and create a financial plan that factors in which accounts they can use and when.

Fear of the unknown

Jay said he was afraid of a market downturn or unexpected medical expenses, among other unpredictable events. It’s one of the main financial reasons people shouldn’t retire in their 30s and 40s, said Roger Ma, a financial planner at lifelaidout in New York City. “Life happens,” he said. “A lot of unexpected things can happen to you that may totally derail your early retirement plan.”

People tend to dangerously underestimate their health care costs. More people have had trouble paying for their health insurance since 2015, according to the Kaiser Family Foundation, a nonprofit health policy organization based in San Francisco.

As a result, many people delay health care because it is too expensive. Some skip medical exams and treatment while others aren’t filling prescriptions, the foundation said. For a 65-year-old American couple retiring in 2018, the estimated cost of healthcare is $280,000 through retirement and that figure is expected to rise indefinitely. That estimate does not include long-term care.

What to ask yourself before taking the leap of faith

Still interested in retiring early? Ask yourself the following questions, said George Gagliardi, a financial adviser at Coromandel Wealth Management in Lexington, Mass.

• Where will you get health insurance before age 65 when Medicare starts? Have you factored in the cost of health care in your expense estimates?

• Do you have financial reserves so that you don’t have to take Social Security as soon as it becomes available to you? (The longer you wait, the more you’ll see in Social Security income).

• How long do you think you’ll live? The answer will determine how much more you need to save to stretch through the next five or maybe six decades.

• How much guaranteed income do you have, such as pensions and annuities?

• Have you made a financial plan for your estimated living costs in retirement?

• How might the stock market affect your assets if there were to be a downturn much later in life?

“Retiring early is something that could allow for many more years of good times at an age when adults are still active,” Gagliardi said. “However, doing it on a wing and a prayer is a recipe for a possible disaster later in life. Like most things, planning is crucial for success here.”