As the recipient of a federal tax refund last week, I like many others, began to think – what do I do with this money? My first inclination was towards those that appeal to me most: spending a portion of it on a night out. However, my responsible financial advisor mind kicked in and I started to think about all the other ways I and my other millennial peers should use this money for their long-term benefit instead of short-term thrills.
Use the money to pay down debt. This is the first rule of thumb at our firm and for many financial advisors. A report from The Institute of College Access and Success found that the average undergraduate has $30,100 in student loan debt. If you just received a tax refund – aka money you had planned to live without – this should be your first move. Paying down your debt faster will benefit you enormously over the long term and leave you with more money to spend down the line when you are likely to have higher expenses. If you have college debt, applying excess payments against higher-interest loans from private lenders should be a no-brainer.
Build an emergency fund. Keeping up with the costs of life can be difficult. However, time and time again I am surprised to hear that my peers don’t have an emergency fund ready for unexpected costs that could come up. Typically, we advise that an emergency fund be equal to at least three months’ salary and that it be available to you in a liquid savings account. In the unfortunate event that an emergency comes up, be it a medical expense, loss of job or even an unexpected home expense, you will be happy that you have this cushion to support you.
Contribute to a Roth IRA. In addition to employer sponsored 401(k) plans, most millennials would benefit from contributing to a Roth IRA. I imagine most millennials haven’t stashed away enough money this year or last in their qualified accounts due the other various costs they have (debt, living expenses etc.) so, now may be a good time to try to catch up. The Roth option is especially beneficial to young people, who will most likely see pay increases throughout their professional careers. In fact, CNBC highlighted a Fidelity analysis showing that a 25-year-old could generate $1,000 in monthly retirement income by contributing just $160 a month (assuming a 5.5 percent annual return). A 35-year-old just starting out would need to save $270 a month to achieve the same goal, and a 45-year-old would need to contribute $500. So, any amount that you can put aside into a qualified account will benefit you greatly later in life.
If you are already set on all of the items above, then go ahead, have fun – travel or spend some of that money on hobbies/interests. I know my suggestions above aren’t nearly as exciting as the initial knee jerk thoughts you may have about what to do with your money. However, allowing debt to accrue, being caught with your pants down in the case of an emergency or not having the proper savings for retirement (a long way down the road) will prove much more painful than using this money strategically.
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The Millennial generation has been at the forefront of the surge in sharing everything from rides to clothes for both convenience and financial reasons. Taking Ubers on occasion can sometimes be less costly than owning a car you may not use very often, or living with roommates can help cut down the cost of living. But at a certain point, it's important for individuals to do the math and see if it makes financial sense after all to consider a big-ticket purchase.
Let's look at the pros and cons of a home purchase first. When first considering the purchase of a house or condominium, you need to look at your situation and determine whether or not your life, career and the place in which you are currently living or thinking about living are stable. Make sure to the extent that you can that you have strong job security (obviously unforeseen circumstances can arise), you are more or less satisfied with your lifestyle, and you are happy with where you live and don’t plan to move across the country.
If you can find a mortgage for a place that is suitable for roughly the same amount as your current rent or less, then the transaction makes sense. I counsel my clients that the general rule is 25% of your net salary can be allocated to your home and mortgage expenses without having the fear of becoming "house poor." Make sure that you're also factoring in condo or HSA fees (if they apply) as well as municipal taxes. Also, keep in mind that a real estate investment, like any other investment, has inherent risks. Always complete the proper due diligence before any purchase.
The decision to use ride-sharing services exclusively or purchase a car fluctuates more based on where the person lives and what shared transportation options (like Uber or Car2Go) are available. In addition, different urban areas create very different circumstances. For example, DC, where I live, is a condensed and compact city where one can either walk or take a shared ride to and from destinations for a relatively low cost. In a city like Miami, Los Angeles or Houston, where the urban area is very spread out and not as walkable, ride sharing would quickly take a heavier toll on your wallet. Of course, these assumptions aren't black and white, as people's lifestyles and commutes can vary, making the need for a car more or less necessary.
Generally, though, I tell my clients that in a world where more and more cheap ride share options are becoming available, a car purchase can be pushed out further. A car is a hefty cost in most cases, and paying for the car, gas, insurance, repairs and parking becomes very expensive. A car is also a depreciating asset, meaning you will rarely recover anything close to what you paid for it. (Your house, however, generally should appreciate in value.) So, if you can live your life through ride sharing and public transport comfortably, I recommend going forth as such.
Regardless of what you choose, check in periodically on pricing and compare your options. Changing life circumstances or new choices in the market may influence your decision. In general, it’s always a good idea to have a solid understanding of your financial situation so you can assess if you can change your living situation, lifestyle, or retirement plans.
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As most people know, Millennials are facing a student loan debt crisis. A recent Lending Tree study found that Millennials born between 1980 and 1995 owe an average of $27,162 on their student loans. Prudent individuals will want to start making payments on their debt as soon as possible, but they often wonder if they should instead be putting that money away in savings, particularly in a 401(k) plan. This is very understandable given that longer lifespans, uncertainty around Social Security and the increased cost of living are impactful reminders that a comfortable retirement will be expensive. However, I counsel my Millennial clients that the general rule of thumb is to pay down debt - including student loans - first.
It can be difficult to know where to start, especially if you have multiple loans. Paying down high interest bearing debt (typically private loans) should be your priority. Federal loans, which bear less interest and are typically more forgiving, can follow.
Now, if you only have non-interest bearing loans to pay off and you are keeping up with your loan payments, you could start to think about diverting some of your earnings to retirement savings (while keeping up with your regular loan payments, of course.) I recommend doing this when your company has a 401(k) plan that pays a match and you have enough capital to take full advantage of it. But again, if you have high interest-bearing debt, paying down these loans in their entirety should be your priority.
Once the burden of mapping out a plan to pay down your student loans is off your shoulders, you should determine your strategy to save for retirement. If you have waited to save for retirement because you couldn’t afford to put any money aside, you should consider contributing more to try to catch up. If you haven’t been able to save for the first three or four years of your career, for example, you’ve lost out on the compounding effects of time over that period. Contributing an additional 2-3% to a company plan or more to your personal IRA will help put you back in the right direction. Remember -- it’s never too late to start saving for retirement.
Now that you've sorted out your plan for tackling student loan debt and retirement savings, don't forget to start thinking about building up an emergency fund, too. I recommend having a savings equal to at least three to six months' salary set aside in a liquid savings account for unexpected expenses like a trip to the ER or car repair.
As a fellow Millennial myself, I know that making these types of money decisions can be overwhelming, but try to stay calm and be patient. Your relatively young age is definitely a plus. If you stick to a smart and strategic plan, you'll be well on your way to a solid financial future.
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