There are a number of steps worth checking off of your financial to-do list before turning 40. Here are eight critical steps.
Create an Emergency Savings Fund
In your 20s and 30s, you should be saving as much as you possibly can every year! Additionally, it’s essential to create a savings fund that will give you access to cash when a rainy day comes. Notice that I said WHEN. You should be able to get your hands on money when your car’s alternator dies or when your home’s furnace needs to be repaired. Moreover, sickness, job loss and other hardships are a real part of life. It’s wise to save three to six months of income. But you may want to create a bigger savings fund if tucking away a larger sum of money will make you feel more secure.
Setting up an automatic contribution into a bank account is the best way to grow your savings fund. It’s important that your fund be set up in an interest-bearing savings account or a money market fund to maximize your earning potential.
Create a Budget
A budget plays a pivotal role in creating your money management system and paying off debt. Before your 40th birthday nears, make sure you have a clear picture of how much money is coming in and where it’s going. Your budget should be tailored to your specific needs, income and expenses. Creating a budget allows you to make informed decisions on how to allocate your money from month to month.
Establishing a budget will help you identify your financial priorities and fund them accordingly. It’ll also train you to track your spending and honor your budget blueprint. There are apps such as Dollarbird and Mint.com to assist you with managing your monthly cash flow. Don’t forget to budget money for entertainment purposes, such as eating out, date nights and vacationing, too.
Maximize Your 401(k)
A 401(k) is an employer-sponsored retirement savings plan for employees. Under these plans, you can save toward retirement on a tax-deferred basis, meaning you don’t pay federal or state income taxes on your savings or earnings until you withdraw money at retirement time. In addition to the 401(k), other popular employer-sponsored retirement savings plans include 403(b) plans for nonprofit employees and 457 plans for employees of state and local municipalities.
Most 401(k) plans are made up of a variety of investments including money market funds, bond mutual funds and stock mutual funds. These savings plans are typically funded through payroll deduction. If you’re not participating in your employer’s program, then you’re missing out on a golden opportunity to save for retirement. You’re essentially passing up free money since most employees offer a matching benefit to help build your nest egg faster. A common company 401(k) contribution is 50 cents per dollar up to a specified percentage of pay, which is commonly 6%. Even if your employer doesn’t offer matching contributions, the tax advantage of a 401(k) still makes it a great retirement vehicle.
Did you know that if you contributed $5,000 a year to your plan from age 25 to 35, and then stopped contributing, you’d amass about $787,000 by the time you turned 65? That’s the amazing power of compounding! If you’re younger than 49, the maximum 401(k) contribution for 2015 is $18,000. Contributing the maximum amount annually will help you consistently and effortlessly save for retirement.
Pay Down Your Debts
Your 30s is also the perfect time to make progress on paying down your debts and unloading expensive credit card debt. Your debts could be holding you back from contributing that money for savings and retirement. Taking this step ensures that you’re getting ahead by eliminating high-interest debts and monthly payments to creditors.
According to the credit bureau TransUnion, the average U.S. credit card debt was $5,249 in 2014. If a borrower has multiple credit cards, they’re likely paying thousands of dollars in interest over the years. Make it your goal to be debt-free by age 40! The key to eliminating debts is paying consistently every month with a maximum contribution.
Clean Up Your Credit
Cleaning up your credit and having a good credit score can increase your odds of getting approved for loans and being offered the best interest rates. Maintaining good credit and paying off credit debts is increasingly important as you progress through your 30s, particularly because your credit determines how much you’ll pay for big expenses in the future.
Additionally, it’s important to order your credit score at least once a year. It’s also good practice to review your credit report at least twice a year to check for errors, changes or unusual activity.
Open an IRA Account
According to the Department of Labor, most Americans will need at least 70% of their pre-retirement income to maintain their standard of living when they stop working. Gone are the days when Americans could rely on pension funds and Social Security benefits to pay for their retirement years.
An employer-sponsored savings plan might not be enough to accumulate the savings you need for retirement. Thus an IRA may be a great way to supplement your 401(k) plan. IRA accounts often provide a wider range of investment choices than your 401(k). Currently, if you’re younger than 50, your IRA contributions can’t exceed $5,500 annually. It’s a financial move worth considering if retirement is a high priority.
Buy a Home
The financial benefits of homeownership are evident year-round, but particularly around tax time. The tax code allows homeowners to deduct their mortgage interest from their tax obligations. For many homeowners this is a huge deduction, since interest payments can be the largest component of their mortgage payment in the early years of owning a home.
Through homeownership, you build equity in your home. Every month you make a mortgage payment, you reduce the amount you owe and build on your investment in your property
Also, homeowners with a fixed-rate mortgage enjoy stability since their monthly payment never changes over the life of the loan. Conversely, renters are faced with rent payments that typically rise every year with inflation.
Write a Will
It’s easy to put off writing your will. Few people think about the end of their life when they’re in their 20s and 30s. But it’s critical to do this if you want to be the one who dictates what happens to your property and money after you die. Writing a will gives you the opportunity to organize your affairs and ensures that your wishes are taken into consideration.
Additionally, a will guarantees that you’ll provide financial security for your loved ones, and that you can gift possessions and money to people or organizations. Will planning allows you to select guardians for your children, define executors for your will and specify wishes for your funeral and burial. Some experts consider will planning to be the single most important financial move you can make in your 30s, especially if you have children. Contact your local Bar Association to find an attorney in your area who specializes in estate planning.
The goal is to be in control of your finances and to keep your eyes on the prize: A comfortable retirement. Don’t get caught up in the temporary gratification of big-ticket purchases and luxury living. If you have other money tips to share with the under-40 crowd, comment below.
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