McCombs Knowledge To Go January 12, 2015
Financial Overview for Young Alumni: Achieve Your Goals by Kelly Kamm, Ph.D. Finance Senior Lecturer, Department of Finance, McCombs
My Background & Choices Ph.D. Finance, University career Undergraduate, graduate, Executive Education Advisor, MBA Investment Fund Manage family savings, investments, insurance Also children s education choices (public & private) & savings Investor in private enterprises Homeowner - not too big house
My Background & Choices Preference for used car, good condition Pay monthly credit card bill in full Have had loans / debt College, home equity loan, etc. Experience with job changes and need for emergency savings Very limited savings when children young
Reasons to Live Below your means Gives you lots of flexibility, financial freedom Ability to take time off from work Helps weather job changes (liquidity) You can save for future when responsibilities may grow / retirement Travel Contribute to good causes
Forbes / Entrepreneur When your material needs meet or exceed your income, you re sabotaging your ability to really make it big. Don t shackle yourself with golden handcuffs (a fancy car or an expensive apartment.) Be willing and able to take 20% less in the short term, if it could mean 200% more earning potential. 20 Things 20-Year-Olds Don't Get, by Jason Nazar
Forbes / Entrepreneur (continued) No matter how much money you make, spend 25% less to support your life. It s a guaranteed formula to be less stressed and to always have the flexibility to pursue your dreams. 20 Things 20-Year-Olds Don't Get by Jason Nazar
Reasons to Spend / Live at or above Don t be miserly, you can t take it with you It s o.k. to enjoy life or even spend a bit too much for something (not everything) if it is valuable to you. It s temporary you are pulling from savings for a short time Graduate school, job change, young children
Don t Have to be an Ascetic All this isn t say you should be an ascetic. If you have done a good job saving and prioritizing, there is nothing wrong with spending some cash. Your 20s is certainly a time to cut loose and have fun if you lack the responsibilities of a family and a mortgage. But it s also an opportunity to live small and work hard, setting yourself up for bigger comforts later. Top 10 Tips 2015 How to Not Ask Your Parents for Help / Personal Finance (USA Today)
1. Financial Advice: General Invest in Yourself / Your Career Pay down college or other debt, especially if high interest Build up 3 to 9 months of living expenses an emergency fund
2. Advice: Savings & Insurance Save 10% or more of income toward retirement Life insurance 6 to 10 times annual income College Savings for children Escalating college costs your retirement comes first
3. Advice: Home and Car Ownership Home Ownership Old, but seemingly out of date adage buy the most house you can buy keep housing costs 28% of income recent trend not too big house recent trend rent don t buy Automobile Lease vs. buy New vs. Used Recent trend walk, bike, use public transport
Agenda & How it Relates to You Kamm Commentary, Insights, Examples General Financial Advice Savings and Insurance Home (and Car) Ownership No One Size Fits All Your Stage of Life; but it might change Your Preferences, Values, Ethics If something doesn t apply, goal to show something interesting to you
1. Financial Advice: General Invest in Yourself / Your Career Pay down college or other debt, especially if high interest Build up 3 to 9 months of living expenses an emergency fund
Invest in Yourself / Your Career Invest in attire for profession. Sanity to enjoy life and excel in job Housekeeper, gym by work The cost of a professional designation may be well worth it. If considering graduate education, evaluate whether it makes Financial sense Personal value
General: Sanity and Careers in U.S. Sanity to enjoy life and excel in job Housekeeper, gym by work Gallup Poll 2014: Of full-time U.S. workers who are paid a salary (not hourly), approximate percentages by hours worked weekly are: 50% report 47 hours or fewer worked 25% report 50 to 59 hours 25% report 60 + hours
Mark Cuban on Paying Down Debt Pay off your debt first. Freedom from debt is worth more than any amount you can earn. Mark Cuban, Owner Dallas Mavs, The Best Financial Advice I Ever Got, WSJ, Jan 6, 2014
Pay off College & Other debt Pay off credit cards in full each month. It s a lot easier to live below your means than above your means. Pay off debt, highest rate first. It can make sense to save while paying down debt.
Building up Emergency Savings Saving at least 3 months of expenditures may sound daunting. Start small. Put aside something. Should be liquid. Checking, savings, money market. Examples of Unexpected Costs: job loss or change, computer dies
2. Advice: Savings & Insurance Save 10% or more of income toward retirement Life insurance 6 to 10 times annual income College Savings for children Escalating college costs your retirement comes first
Defined benefit Retirement: 401(k) Social Security Administration, 2009, Butrica et al The Disappearing Defined Benefit Pension 401(k) Defined Contribution Congress 1981 IRS Code Employer sponsored, pre-tax payroll deduction Capital gains grow tax-deferred Employer may offer matching program Fairly straight forward to set up through company Company usually offers set of diversified funds
Retirement IRA Traditional Traditional IRA No company plan / to supplement company plan Set up at a brokerage, mutual fund co., bank On-line / phone help to determine maximum Contributions are / may be tax-deductible Interest / Capital-gains grow tax deferred Forced distribution at 70 ½ May be a 10% penalty if you withdraw funds before retirement
Roth IRA Retirement IRA Roth Set up at a brokerage, mutual fund co., bank On-line / phone help to determine maximum Pay taxes now, do not deduct from income taxes Invest after-tax dollars (Likely) tax-free gains Withdrawals of contributions generally not penalized No minimum distribution at 70 ½ May earn too much to qualify for Roth Most likely to qualify for Roth when young
So Many Choices: What to Do If your company has a retirement plan start with that Traditional vs Roth IRA Read limits on web site / chat on-line / call Nights and weekends Which assets or funds to choose? Depends on your preferences Consider diversification
Retirement Savings Example You are 27 You will retire in 40 years at 67 $1M needed in 40 years Rate of return = 8% Start monthly in 20 years = $1,697.73 / mo Start monthly in 10 years = 670.98 / mo Start monthly today = 286.45 / mo If wait 20 years you will have to save about 6X as much per month
Asset Allocation Decision Common Advice to Young Savers Higher percentage in stock market 50%, 70%, 90% U.S. vs. foreign markets Smaller percentage in other assets Fixed Income (bonds) / other Check fees: no load or low fee Approach Retirement: Keep shifting into fixed income / money market
SP500 Index over 40 Years
Investment Grade Bond Index 40 Years
Stocks vs. Bonds + 3.44% per year over
Diversification and Indexing, John Bogle The best way to own stocks is to own an index fund. John Bogle, Founder of Vanguard Group, The Best Financial Advice I Ever Got, WSJ, Jan 6, 2014
Life Insurance and Disability Life insurance typical advice is 6 to 10 times annual income No one likes to consider a will or life insurance Birth of child motivating factor Cheaper the younger you are Age, less likely to have history of medical conditions Might consider policy in addition to company coverage Kamm opinion: stay at home parent benefits from life insurance too
Disability Insurance Disability Insurance is meant to provide income should you be disabled and unable to work. It s estimated by the Social Security Administration that over 25% of today s 20-year-olds will be disabled before retirement. Business Insider, The 11 Worst Money Mistakes to Make in your 30s, by Kathleen Elkins, July 6, 2015
College Savings for Kids: Example Suppose child just born and you have goal to save 50,000 by end of 18 years Assume 6% return Start in 3 years = $171.93 / mo. Start in 6 years = $237.93 / mo. Start in 12 years = $578.64 / mo. Start in 15 years = $1,271.10 / mo. Ratio: start when child is 15 vs. 6 You must invest about 5 ½ times as much per month
Education Savings Plans Coverdell Education Savings Accounts Investment limit of (perhaps) $2,000 per year Must meet / be under income limit Invest after-tax dollars; capital gains not taxed (federal) if used for qualified education expenses No state-tax deduction / elementary through college 529 College Savings Plans Investment limit very, very high Invest after-tax dollars; capital gains not taxed (federal) if used for qualified education expenses Possible state-tax deduction / college only
Education Savings Plans: What to do Emergency, Retirement, Insurance first Add college savings plan next if desired You can set up with a brokerage or mutual fund company / planner check fee arrangement Automatic electronic transfer Select funds yourself / or target date fund Consider Coverdell if might have private education costs prior to college
3. Advice: Home and Car Ownership Home Ownership Old adage that seems out of favor buy the most house you can buy Housing costs far exceed monthly rental Recent trend not too big house recent trend rent don t buy Automobile Lease vs. buy New vs. Used Recent trend walk, bike, use public transport
Reasons to Rent Lifestyle choice / flexibility / other things more important Downside: rent often increases Saving for a down payment Interest rates are high Buy less house, floating rate You might move w/in 2 or 3 years Costs associated (6% brokerage twice) Give yourself time to know the location Traffic, schools, areas of town
11 Reasons I Never Want to Own Homes often tempt people to borrow more than they can afford Houses take a lot of money You re still paying a lot of interest I liked being a homeowner. I just happen to like being a renter more. Forbes / Taxes, 11 Reasons Why I Never Want to Own a House Again, Sep 27, 2013
Buying a Home: Things to Consider Build up principal / ownership Interest may be tax deductible All costs: Property taxes, insurance, maintenance Consider larger down payment Faster build up of principal Lower overall interest paid 15 years: quicker build up of principal 30 years: lower monthly payment more flexibility in terms of monthly payment generally no penalty if pre-pay
How Much You Spend on a Home For most people, a house is the biggest purchase they will make in their lives, one they will pay off for years, even decades, to come. But spending too much on a house could leave you with little money for other goals in life, such as retirement, college funds and vacation. The Wall Street Journal, How Much You Should Spend on a Home, How-To Guide, Buying a Home
Tips Spend on a Home The cost of your home -- including taxes, maintenance and other costs -- should not exceed 28% of your monthly income. The Wall Street Journal, How Much You Should Spend on a Home, How-To Guide, Buying a Home
Buy Less than You Can Afford Look for a house that costs less than what you can afford your property taxes and home insurance premiums are going to rise at an unknown rate. You will also have to budget for future repairs and unexpected non-housing expenses. Though a house will likely rise the real rate of change may be less than what you think. The Wall Street Journal / Wealth Management, Buy Less House Than What You Can Afford, Charles Rotbult, V.P. of American Association of Individual Investors
No Car, Lease, Buy New, Buy Used Automobile Purchase or not logic follows along with most of what we have covered = personal choice Keep in mind that though home prices usually (not always) rise, not the case with cars According to edmunds.com: New car loses 11% upon leaving the lot On average a car depreciates 15-25% each year the first 5 years On average, at end of 5 years total depreciation is 63%
Last but not least All PPTs represent Kamm view (not necessarily fact or what you should do). Talk about financial matters with family, friends, etc. Read about financial matters Consider different opinions and then pursue what you think is right for you. Start with one area. Start small, then you can improve. If you have a business major, it may make sense to: Hire an advisor to advise you and manage finances Do discuss benefit and all fees of financial advisor Or, manage finances yourself
Financial Overview: Hope you enjoyed the webinar, learned something new and /or reflected more on your finances by Kelly Kamm, Ph.D. Finance Senior Lecturer, Department of Finance, McCombs
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