It can be hard for many people to think about saving money when there are so many demands on their earnings. This is especially true for recent college graduates who are paying rent and making ends meet for the first time. Here are two strategies to help millennials start the journey to saving.
The first priority is to create an emergency reserve. Bad things can happen to good people. Millennials need a small cash hoard they can access quickly and easily. An old rule of thumb was 3 to 6 months of living expenses, which was based on assumptions about how long it would take someone to find a new job. Saving this amount can be a tall order and may discourage some from starting. But it is important to think about expenses that may crop up from time to time, such as a car repair, dental emergency, or an invitation to a friend’s wedding. Because this is emergency money, it should only be invested in liquid bank accounts, which can be easily researched online.
The next priority is getting free investment money that may be available from your employer. If you work for a company with a retirement savings plan such as a 401(k), they may match your deposits to your 401K. Many employers will match your savings dollar for dollar up to a certain percent of your compensation. This amount is sometimes as high as 3 to 4 percent. For example, someone making $65,000 a year with a 4 percent employer match gets a great deal because their employer will contribute a dollar for every dollar the employee contributes, up to $2,600 (which is 4 percent of $65,000). By contributing $2,600 of their own money, the employee also gets $2,600 from their employer, for a total of $5,200. In a sense, the employee is getting an automatic 100 percent return on their investment. Moreover, because the money is in a 401(k) account, neither the employee contribution nor the employer match are taxed until money is withdrawn at retirement. Over 25 years with at an annual growth rate of 5 percent, this savings program will grow the 401(k) to $248,000!
For those with an employee match, this is just too good to pass up. Yet many young workers elect to pass on it perhaps because they do not understand how the employer match works. But would you pass up a raise of $2,600? It’s worth scrimping on other expenses to contribute as much as possible when there is a match. While each plan varies, employees are often eligible for the 401(k) plan after a certain period of employment with the company, usually 6 months or 1 year. Be sure you know when you can participate so you can arrange for contributions from your paycheck as soon as you become eligible. You can also withdraw money without a penalty for a first-time home purchase and educational expenses (subject to limits on amounts). If you need emergency money, many plans also permit you to borrow from your 401(K), with some restrictions.
Finally, be sure your 401(K) account is not sitting in cash. A young investor starting out could elect to invest in a one broadly diversified and low cost mutual fund. "Total World" mutual funds invest in a broad selection of stocks from all over the world. A "balanced" mutual fund invests in stocks and bonds, for more risk-averse investors. "Target retirement date" funds pick a mix of stocks and bonds consistent with long term investing. "Just pick one" is often good advice for someone new to 401(k) investing.
DISCLAIMER: This information is not intended to provide legal or accounting advice, or to address specific situations. Please consult with your legal or tax advisor to supplement and verify what you learn here. This is presented for informational or educational purposes only and does not constitute a recommendation to buy/sell any security investment or other product, nor is this an offer or a solicitation of an offer to buy/sell any security investment or other product. Any opinion or estimate constitutes that of the writer only, and is subject to change without notice. The above may contain information obtained from sources believed to be reliable. No guarantees are made about the accuracy or completeness of information provided. Past performance is no guarantee of future results.