Have you set up your 401K? Have you heard about a Roth IRA? Are you well-versed on these topics? Many college students are unaware of how most of the financial world functions. Not only do most college students lack the financial experience, but they are busy trying to pay for school and pass their classes. Still, financial education is key to success in the years after college. As you fulfill a full-time career after graduation it is important to utilize and have awareness of important financial topics that could set you up for the best career that acknowledges the best financial benefits of your job offer. This blog focuses on five financial topics that you may not have had a chance to experience yet but can benefit you as you transition into a long-term career and officially “adulting”. The five financial topics include setting up your 401k, Roth IRA, knowing where your money goes (budgeting), stocks, and compound interest.
Set up your 401k
As many of you may know, a 401k is a retirement savings plan that is offered by many American employers that has benefits towards tax contributions. By signing up for a 401k, an employee agrees to have a percentage of their paycheck go towards their 401k. The advantages of this investment account are that once you are above 60 years of age, you will be able to gain 100 percent of your investment funds in the 401k account back to you minus state and federal taxes. The benefit of having a 401k is that you will pay less taxes to the IRS resulting in lower taxable income. Even though retirement may not seem important as an early working professional once graduated, if you invest as much as $10,000 annually by the age of 25, that investment will turn into $1 million by the time you are 55. This is also close to an effortless means of saving without any planning. Additionally, if you decide to change your job down the road, you can roll your 401k investment account into a 401k for your new job. Finally, another important aspect to consider is that if you are self-employed, you are also eligible to set up your own 401k. Another benefit to look for when applying for jobs is the amount that company is willing to match in 401k contributions. This means that many companies will match up to a certain amount of your contributions. So, if you put in five percent of your paycheck every pay period, for example, your company may be willing to also contribute up to five percent- giving you a 10 percent contribution to your retirement every paycheck.
Roth IRA
Similar to the 401k, the Roth IRA is an individual retirement account that differs from the 401k as there are no tax deductions to the contributions that you put into this account. In turn, the Roth IRA does not lower your taxable income unlike the 401k, but there are significant benefits towards your retirement plan in gaining 100 percent of your invested contributions without federal and state tax deductions at the end of your retirement. Your potential earnings that you would invest in your Roth IRA as part of your retirement plan will grow tax-free as you will pay tax on the money you decide to invest into your account. In 2021 employees under 50 were allowed to invest $6000 in their Roth IRA and $7000 for anyone above 50. Roth IRA also known as the retirement investment account can be easily opened by anyone, and it is important to know the difference between Roth IRA and the 401k as if you understand that you may be in a higher tax bracket later on in your career, it is more beneficial to invest in a Roth IRA.
Knowing where your money goes (budgeting)
As college students, besides our college fees, housing, grocery expenses, we are focused on having enough money to contribute to these factors and we budget accordingly. Once we enter a stable job, it is essential to plan and understand purchasing habits to save money overtime. We all have goals of owning a house later on in life, and consistent budgeting can help save to make bigger purchases that you desire in the future. Many adults review their credit card bills and spend time analyzing how much they are spending monthly and finding out if there are any expenses that can be minimized in the future. Using your credit card wisely can help you effectively build your credit and can limit the common scenario that individuals cannot pay off their credit card bill in a certain month. Having a snapshot of your current spending habits each month can help you plan a savings strategy for your future. We have a number of past blog posts focused around budgeting, here is a great one to check out.
Stocks
Your 401k is typically a diversified portfolio of stocks, bonds, and other types of investments lumped together into what’s called a mutual fund. These funds are often ranked based on risk. Typically, the higher the risk, the higher the reward. So, your 401k will often be automatically set to invest in stocks that are high risk to low risk based on how close you are to retirement. In your 20’s, your 401k will likely be invested in higher risk stocks that are designed to earn you a large amount of return, where loss of money is less crucial because you have years before you will be relying on those investments for your income. As your age progresses, your 401k portfolio will decrease in risk to help it continue to grow, but have less chance of loss as the stock market fluctuates. Because of this, 401k’s are more of a hands-off investment approach and pose less stress for individuals. However, some may choose to dabble in the stock market on their own, buying and selling specific stocks without using an automated system or mutual funds. “It’s important to understand that not all mutual funds are created equal,” said Byers. “The fee structures vary greatly and it’s important to invest in funds with no loads and low fees. We can’t control the performance of the stock market. It is what it is. But we can control what fees we pay.” notes Dr. Steven Byers, Professor of Finance at Idaho State University
As the market could crash or impacts of the global economy can affect stock prices, it is important to be well educated and conduct significant research before investing in a particular stock outside of your 401k. At the Idaho State University College of Business, students are given the opportunity to implement what they are taught in their finance classes through the D.A. Davidson Investment Fund. The DA Davidson Fund is a program created by D.A. Davidson & Co. to help students across the West and Midwest get real experience in finance, stock investments and portfolio management. This fund gives $50,000 to student teams in senior level finance courses at participating universities who then invest the money and manage the portfolio for a year. One in five families in the US have investments in the stock market, but it is important to invest in a manner knowing that your return may drop below the dollar amount that you invested and understanding world events such as COVID-19 can impact the stock market negatively is an important consideration.
Compound Interest
As we all may be familiar with the term compound interest, defined as the interest accrued that is reinvested and compounded over a period, also known as “interest on interest”. It is important to understand compound interest in its full complexity as a small amount of money that you save can grow to a large amount over time. Knowing where to benefit from compound interest can help you benefit from growing your money over time. Some key compound interest investments that most adults consider are high-savings accounts, CDs (Certificates of Deposit), Bonds, and Stocks. Understanding safe ways of investment such as CD’s, which offer interest at regular intervals on timed deposits. If you earn a certain amount, set aside a fixed amount each month in your savings account or other investment accounts that grant you compound interest, over 10 years, the value of your investment has the potential to double in value.
As other priorities being college students are primarily focused on obtaining a degree, these financial topics may be pushed aside as we have limited funds to even think about investments. Even if you have a small amount of savings, being able to invest as early as possible with small amounts can expand exponentially over-time if we take the time to research and understand certain financial topics mentioned in this blog.
Work Cited
https://www.stlouisfed.org/open-vault/2018/september/how-compound-interest-works