Now that we’ve approached 2018’s half way point, this may be a good time to analyze your overall financial picture. This means reviewing items such as your debt, savings, investments and future goals. Last month’s article will began a multi-part series: part one focuses on debt, part two will focus on savings and part three will focus on the tools to protect your assets and liabilities.
Retirement, Emergency Fund, Children's Education
Rules of Thumb-The rules of thumb for saving generally depend upon what you are saving toward. Although there are typically some common themes, like the earlier you start saving the better and that compounded interest was deemed the 8th Wonder of the World by Albert Einstein.
Reality-Most people have plans, goals and aspirations that require money to achieve them. But, with only so much income remaining after the bills have been paid, how much and what goal do you allocate your money to? Which goal is sacrificed at the expense of the other?
Suggestions- Developing the habit of saving money early and consistently is a routine that will provide you with immense benefits for the rest of your life. However, sometimes it can be confusing and challenging.
First, we recommend that if your employer offers a match program for their employee retirement plan, contribute to that account. There is no reason to miss out on the opportunity for free money. Therefore, we suggest contributing enough to at least qualify for the match. Ultimately, the goal is that you should be contributing 10% of your annual salary. A strategic way to achieve this ultimate goal, is to increase your contribution by 1% of your paycheck with each pay raise until you have reached your plan or IRS limit. If your employer does not offer a plan, we suggest you have your own Individual Retirement Account (IRA) as a start.
Second, after reaching your match, we recommend allocating a majority (the rest going to your retirement plan) of the savings portion of your checks to your emergency fund account until you have saved at least 3 months' living expenses. Typically, the rules of thumbs suggest that you have 6 months of living expenses saved in case you and/or your spouse lose your primary source of income. This amount should exclude your retirement savings and other savings earmarked for other goals (i.e. new car, vacation). For some people, this can be tough to achieve. Therefore, we suggest you should have at least 3 months of living expenses set aside at a minimum and 6 months of living expenses as a goal. When the emergency account has hit the 3 month mark, we recommend increasing your contributions to your retirement savings and reducing your contribution to the emergency fund. Developing an emergency fund account is imperative, which is why we suggest contributing to it more aggressively than your retirement funds if you do not have an emergency fund established.
When the emergency funds account is at 6 months of living expenses and you are completely meeting your employer's match, then we would recommend allocating a portion of your savings toward your child(ren)’s educational expenses. There are some tax-advantaged savings accounts offered by investment firms, known as 529 plans, which we explain here. However, usually the best 529 plans are administered directly by individual states. Louisiana, for example, offers one of the lowest cost 529 plans and with good investment options in the country, for Louisiana residents. In the end, your retirement should not be sacrificed at the expense of your child’s college tuition.
Finally, a useful method that helps individuals save money, is setting up automatic transfers. Automatic transfer can be used for depositing money to your retirement account or automatically transferring funds between your checking account and savings account. One way to force yourself to save is to divide your paycheck direct deposits among your checking account and savings account, thus forcing yourself to save without even seeing those funds. If this method is not offered by your employer, most banks offer you the ability to setup automatic transfers between accounts and other financial institutions. We also recommend using a savings account that is difficult to access the funds, such as at another bank that you do not currently use. Make sure you have no check writing ability on the account or cards connected to it, then setup an automatic transfer to this account. This process essentially creates additional barriers for yourself to access saved cash. Attached at the bottom is a decision tree that helps explain this article in better detail. If you have any questions with anything mentioned in this article, feel free to contact us.
Savings Decision Tree
LA START Program