Congratulations on achieving a critical milestone…becoming a well-employed, productive, independent adult.  This may not feel like a big deal, but it’s huge!  All those hours you’d logged in college/grad school while holding down low-paying jobs (e.g., teaching assistant) have finally paid off.  My guess is many of you are getting paychecks far bigger than you could’ve imagined.  For some of you, the money is an opportunity to live it up (finally). While for others, the money may cause you to pause and reflect on how to make the best of it.  Afterall, memories of leaner days are not too distant.  Since your greatest assets are your earnings potential and time, how you spend your money today determines how you spend your time tomorrow. 

1) Live modestly

There are three ways to make money: your labor; your money; others’ labor and money (inheritance). Living below your means is critical part in making money with your money; it allows you to build up savings for “productive work.”  To keep your living expenses in check, get visibility and, therefore, clarity on how much money is coming in and going out.  

     ·      Personal Capital: Use this simple software to track all key aspects of your finances (e.g., income, expense, net worth, debt, investments).    

     ·      Credit Cards:  Use one or two (at most) credit cards to track all your expenses.  

For those looking to be financial independent in your 30s and 40s, target a 50%-60% annual savings rate.  For those looking to be financial independent in your 50s, target a 30%-40% annual savings rate. 

2) Have an emergency fund  

Why bother having a chunk of cash when you get a steady paycheck?  Borrowing from others is always more expensive than borrowing from yourself.  The greater the convenience, the higher the cost.  A credit card charges an average 16% in interest.[1] A home equity line of credit (HELOC) charges an average of 4.14% in interest.[2] Since none of us know what life will throw at us, best to have 12 months’ worth of living expenses in a high-yield online savings account (e.g. Ally, Marcus, Citi). An emergency fund should be highly accessible, safe and ideally yielding some interest. 

3) Pay off your credit card and/or student loans  

When you’re a debtor, you pay interest.  Common among young women are credit card debts (16%) and student loans (5.8%), which charge some of the highest interest rates around.[3] These debts are dangerous.  At 16% interest rate, your credit card debt will double every 5 years if you’re only making minimum payments.  As for student loans, many federal student loans allow debtors to make income-based payments. While well-intended, this repayment program often leaves young women with increasingly bigger debts as monthly payments are often less than principal and (real) interest due.

Debts are emergencies!  Pay them off aggressively. In addition to making monthly payments, designate a certain amount every month as payment towards just the principal.  In doing this, you dramatically cut down on interest paid (by thousands, if not, tens of thousands of dollars) and on loan period (by years, if not, decades).

4) Protect your earnings potential – long-term disability insurance

Since you’re still in your 20s and early 30s, one of your greatest assets is your earnings potential, especially if you’ve spent a good deal of time in school getting specialized skills. Protect your earnings potential with long-term disability insurance.  Key things to look for in either a group or private policy are: “own occupation”; long-term (benefit payment until age 65, when Medicare kicks in); benefit (preferably $10,000-$20,000 more than your annual living expenses so you have extra to invest); elimination period (5-6 months). 

5) Start investing

When you’re an investor, you receive interest.  Investing is a watershed moment in most young women lives as it signifies that you have your act together (e.g., holding down a job, paying bills on time). With your short-term needs met, it’s time to turn your attention and money towards bigger, mid- and long-term goals: home, marriage, children, retirement.  

Health Savings Account (HSA):  This is the ultimate retirement accounts as it offers triple tax benefits: contributions are tax-deductible, investments grow tax-deferred; withdrawals for “qualified” healthcare expenses (from aspirin to mandatory surgery) are tax-free.  Key drawbacks: You have to be on a high deductible health plan (HDHP); in good health; have enough savings to pay for out-of-pocket healthcare needs in the meantime; annual contributions are on the low-ish.  

Traditional 401k:  Invest in a traditional (pre-tax) 401k or Roth 401k?  Best to default to a traditional 401k.  Also, try to max it out!  Doing so can save you thousands of dollars on income tax as annual limit is $20,500 (2022), not to mention getting you the maximum employer match.  Additionally, investments grow tax-deferred, which allows your money to compound for decades. Key drawbacks:  You can’t withdraw funds until after age 59 ½. You have to make Required Minimum Distribution (RMD) at age 72 wherein withdrawals are taxed as ordinary income.      

Roth IRA:  If you have savings left over after maxing out your traditional 401k, consider a Roth IRA.  (If your income is too high and you don’t qualify, then consider doing a back-door Roth.)  Contributions are not tax-deductible.  However, investments do grow tax-deferred, withdrawals are tax-free and there’s no RMD at age 72.  So, your investments can grow for decades longer than those in a traditional 401k.  Key drawbacks: Low-ish annual contribution limit, non-tax deductible, income limit/eligibility (sort of).    

Final thoughts…

For some of you, this is old news.  For most of you, this is news.  I talk to and work with women in various life stages: early career to early retirement.  Unfortunately, it’s not uncommon for me to cross paths with women in their 60s and sometimes 70s who are scrambling to put their finances in order so they can cobble together some sort of a livable retirement. Those who are least prepared often lament that they never really learned how to build wealth when they were younger. My goal (here) is to give you the key pieces for building wealth so that you can start when it’s most impactful – young.  My hope is that should our paths cross in the future, you will ask me how best to spend your (large) nest egg rather than how best to build one.