As young adults, getting your first “real” job is an exciting thing. Through most of our childhood and young adult lives, we are working and learning to hopefully end up with a steady job to start our careers. Many of us spend years living off our parents, working odd jobs over the summer, and working hard in school to get there. While it is likely entry-level, this will be the first time in your financial life that you will need to start managing your income, expenses, and future. Now, unless you were a finance major, you probably have little financial literacy on a serious investing level. When starting off in your investing lives, it can be confusing and scary. However, it doesn’t need to be! Below are five simple keys that every person who just received their fist job should know and implement into their investing lives.
- Create a budget
- Build an emergency fund
- Maximize employer retirement benefits
- Open an IRA
- Apply for a credit card
1. Create a budget
Prior to getting your first “real” job, you probably received and spent money without much thought. This is how most people account for their finances given the small amounts of money received and purchases made. However, adulthood brings on more money and serious decisions to be made with that money. The two main categories we will look at to create a budget will be income and expenses.
Income vs. Expenses
Whether it is weekly, biweekly, or monthly, that first paycheck after starting your job is a great feeling. Should you go and buy that expensive car, gaming system, or outfit you’ve always wanted? NO. Well, at least not until you create a budget. While there are services online that will help you create a budget, you really only need a basic spreadsheet, whether that is an application like excel, or you prefer paper and pencil, either works.
The first number will we focus on is income and everything in your budget should be in a per month amount. Your income is all the money you have coming in or receiving. This will likely just be your salary or annual wages after tax, divided by 12 (remember to keep everything in monthly amounts). If you work odd jobs on the weekend, or still receive money from relatives or other sources, be sure to include it.
The second number we will focus on is your monthly expense. To start, you should deduct all necessary expenses that you incur throughout a month. This will likely include a car payment, auto insurance, rent, food, and student loan payments. Once your income is reduced by these amounts, you are left with your excess income. This money is really up to your desecration on how you want to spend it. While there is no best way to allocate this money, a popular theory, and one I recommend, is the 50/30/20 strategy.
50/30/20 strategy
The 50/30/20 personal finance strategy is fairly simple. It is the idea that a person should spend 50% of their after tax income on necessary expenses, many of which are listed as examples above. After this, 30% of income should be spend on things they choose or want to. This is often entertainment, shopping, or a nice dinner. The last 20% should be set aside as an emergency fund and invested for your future. The best options for this 20% is listed in the other four keys.
2. Build an emergency fund
Life is crazy. While we all wish we could predict the future, that is simply not the case. To account for the craziness of life, we need to set aside money in an emergency fun to plan for unexpected events, typically those that aren’t so good. No one plans to lose their job, get into a car accident, or have their house damaged by a storm. Given these unexpected events, you need to have money set aside to cover unexpected expenses if they were to happen. It is recommended a person should save approximately 6 months worth of expenses in an emergency fund. So, while looking at your budget, estimate how much would cover your expenses for six months. You don’t have to save the amount all at once, but slowly accumulate money each month until you reach your goal. This way, if an unexpected event were to happen, which we hope it won’t, don’t worry! You’re covered!
3. Maximize employer retirement benefits
After getting your first job, there will typically be a few days of “new employee orientation.” This is where they will go over a lot of really exciting information that will grab your attention all day long. At least we all wish this were the case. It will likely be a few days of boring paperwork and beginner training. While most of this paperwork will be standard, it will also be very important to look through. Included in the mound of paperwork will be information regarding retirement benefits that your employer offers. Often times, your employer will match a percentage of you income into a retirement savings account, typically a 401K, if you choose to invest as well. At a young age, you should contribute the maximum amount that your employer will match. This will guarantee you are putting the most away for retirement and lowering your taxable income. Money contributed into a 401K is not taxed until you withdrawal the money for retirement.
4. Open an IRA
Types of IRAs
There are two popular types of IRAs people invest their money into, tradition and Roth. The money invested into a traditional IRA are tax deductible in the year invested and are treated as ordinary income when withdrawn. Roth IRAs are a little different because their withdrawals aren’t subject to income tex, but their contributions are not tax deductible.
Time is key
Any excess money left over after creating your budget and emergency fund should be contributed to one of these two IRAs. Savings accounts provide little to no return. While it is always nice to have a small amount in savings for short term needs, a large savings account balance is not necessarily a good thing. Instead, this money should be put into an IRA because it offers much higher returns and serves as a long term investment.
As a young adult, time is key for investing. Compounding interest can do wonders when the investment is left untouched for a long amount of time. By investing into a Roth while you are young, you are decreasing the amount of money you will have to invest over your lifetime and setting yourself up for a nice relaxing retirement.
5. Apply for a credit card
From a young age, we are often taught that credit cards are a scary and dangerous thing. We always hear about people in “credit card trouble” and the risks that are associated with them. While this may be true for some people, for those that are financial responsible, credit cards are an excellent financial tool. In your budget, 30% of you income will be spent on wanted items. These are great purchases to use your credit card for and pay off at the end of every month.
Credit card rewards and building credit
The credit card industry is loaded with different companies. These companies need a competitive advantage against their competitors, and do this through reward programs. Nearly every credit card you can apply for will offer you an incentive to use their card over their competitors. These incentives after include bonuses, cash back, or airline miles.
Not only do credit cards issue rewards as you spend money, it will also increase your credit worthiness. This means that when you go to apply for loans in the future, lenders will give you lower interest rates because of your positive credit history. The one key to strengthening your credit worthiness and score, you need to pay off you balance on time and in full every month. You can even pay it off weekly if you would prefer to do that. People get into credit card trouble when they begin to carry a balance or forget to make payments.
