Some people have no trouble saving money — they stash away any cash they don’t need, and their account grows and grows. These people usually aren’t very materialistic and don’t have a lot of goals that require money to fulfill. That’s a wonderful trait, in some ways.
However, there’s nothing wrong with setting up specific goals and saving money to achieve them. First of all, many of those goals, such as buying a home or giving your children a college education, are actually investments that can deliver much higher returns. Those returns can be monetary while still being emotionally and intellectually rewarding.
One way to reach those goals is to adapt the mindset of that first saver — the one who doesn’t really want much or feel the need to spend money precipitously. For many of us, that’s an elusive trait. However, those of us who aren’t like that can still reach savings goals by being organized, disciplined and vigilant.
To be organized, you should differentiate between long and short-term goals and determine which type of savings vehicle is most appropriate for each goal. To be disciplined, it’s a good idea to set up an automatic savings plan so that a fixed amount of money is transferred from your checking account to those individual savings accounts on a regular basis, much like paying a monthly bill. And to be vigilant, you should closely monitor both ongoing expenses and ad hoc spending to ensure that you have the assets available to fund those specific goals. These are all financial practices we can help you with, so don’t hesitate to call us.
When saving for a home, car or other short-term goal, consider a high-yield savings account separate from where you do your regular banking. This way, it’s not that quick or easy to transfer funds back to your checking account on a whim. Set it and forget it with automatic transfers so that your account balance continues to grow in the savings account, even if you start small.1 If this is your primary goal, think about putting at least half of any unexpected cash — such as work bonuses, tax refunds, inheritances or other windfalls toward this savings account.
If your next goal is saving for college, it’s good to start young, and it’s fine to start small. One of the strongest components of saving is the simple discipline of the strategy — always be saving, even if you start with just $25 a month. There are a lot of scary articles and news reports about how much it costs to send a child to college (2020–2021 average: $26,820 in-state; $54,880 private), but the key to remember is that you don’t have to save enough to cover 100% of that cost. You will likely be able to combine current household income, scholarships, grants and student and parent loans. For your savings efforts, a 529 plan offers both a tax-deferred investment option and a prepaid plan, depending on your circumstances. The savings portion is good for building an investment balance throughout time, while prepaid is a good option for windfalls — like an inheritance or proceeds from the sale of property.2
Retirement savings are best achieved throughout the long haul. The earlier you start, the more the power of interest compounding works its magic. Most employers offer a 401(k) or similar plan to help you defer income from your paycheck to a retirement account each month. If your employer offers a match, be sure to defer at least enough to take full advantage of the match. This is a strategy even young adults can engage in with their first job. Remember, incorporate monthly saving as a discipline, and you’ll always be able to live on less than you earn.
If you are self-employed or your employer doesn’t offer a retirement plan, consider opening an IRA (or a solo 401(k) plan if/when you earn a substantial income because contribution limits are much higher). A traditional IRA offers a current income tax deduction, while a Roth IRA eliminates taxes when you withdraw assets. If you max out contributions with an employer plan, a Roth IRA is a good option to reduce your tax obligation during retirement. However, you can only contribute to a Roth if your modified adjusted gross income (MAGI) is less than $140,000 (single) or under $208,000 (married couples filing jointly) in 2021.3
Another aspect of retirement that many people do not plan for is retiree health care. Some studies report that a 65-year-old couple may need up to $400,000 to cover this cost in retirement. However, this goal is best treated like saving for college — save some now, but budget for some of that cost from your retirement income. According to an analysis from T. Rowe Price, about 50% of retirees with traditional Medicare (Parts A and B), a prescription drug plan (Part D) and Medigap will spend less than $1,200 a year on out-of-pocket expenses. In contrast, only 10% will spend more than $4,700 a year.4 If you fall into the former category, that $100 a month may be easily covered by your household retirement income. But it’s good to save for the latter scenario over time through some form of liquid savings account to meet those annual out-of-pocket costs.