There are two powerful forces that are as essential to finance as gravity is to the universe:
The idea of time is straightforward, but compound interest can be confusing to people who are new to the world of finance and money. Understanding compound interest can exponentially increase the amount of money you earn in the bank, and who doesn?t want that? Let me help you wrap your head around how it works so that you can reap the benefits of compound interest and time.
Two Quick Definitions
If you?re really new, here are a few terms to understand. If you know them, then you can skip to the next header.
The principle is how much money you initially throw in the bank. If I go deposit $5,000, then my principle is $5,000.
Interest is how much money you earn from your principle. Interest is always written as a percentage. That percentage is how much more money I get at the end of a certain amount of time from having my principle sit in the bank. For example, if I earn 10% interest per year on my $5,000, then I get another $500 at the end of the year.
So far, we?ve put $5,000 in the bank and earned $500 in interest, because the interest rate is 10% of the $5,000 we put in. Now we have $5,500 in the bank and all we did was drive to the bank a year ago. That sounds great, so what?s the big deal about compound interest?
Compound interest is interest that you earn on your interest. Let?s keep all the same numbers. You put $5,000 in the bank, earn 10% interest, and after a year you have $5,500 in the bank. If you save that money for one more year with a compound interest rate of 10%, you?ll get 10% on your initial $5,000 PLUS 10% on your $500 interest earnings. That?s another $500 from your principle and an extra $50 from your interest.
I can already see the comments saying ?That?s it? The 8th wonder of the world is worth 50 bucks?? After one year, yeah, it?s only $50. But after 40 years, you?ll have $226,296.28 without touching your money once.
That means if you?re 25 and you put $5,000 in the bank, you don’t put in a penny more, and that money grows at 10% compound interest, you?ll have $226,296.28 waiting for you in your retirement account at 65.
If you?re 20 and you wait until you?re 65, you?ll have $364,452.42. Compound interest?s real value comes with time.
Compound Interest?s Best Friend: Time
Here?s how we jumped from $5,000 to over $200,000. After one year at 10% interest, you get your $5,500. Another year goes by and you earn another $500 from your principle and $50 on that interest.
One more year goes by, and you not only earn $500 from the 10% on your principle, but you also earn $55 from the 10% of your principle interest and 10% of the $50 in interest you earned the year before. Every year, your interest compounds itself and grows year after year. There?s a great online calculator that does all of this for you. So now you?re probably wondering?
How does this work in real life?
A 10% interest rate is great for calculating easy numbers for an article I?ll spend 90 minutes writing, but a real bank will only give you a compound interest rate between 0.1-1.05% per year.?To get the high earnings over time, you have to add money to your account every month. When you do that, both your interest payments and your principle increase. Just adding 10% of your check to your account?every month can have a huge impact on your savings in the future.
Let?s say you get the low end of the stick and get a .1% compound interest rate. If you put $5,000 in the bank and put $300 in that account every month for 40 years, You?ll end up with $152,047.85 in the bank just in time for your retirement account to open. Start earlier and wait 45 years, and you?ll have $170,845.65. That?s almost $19,000 more than the other guy who started saving just five years later.
But you don’t have to settle for 0.1-1.05% in a savings or checking account. You can earn a lot more if you start investing. Investing carries more risk (the value could go up or down in any given year) but your returns could be a lot higher. On average, the S&P 500 has returned 7% since its inception in 1928. The S&P 500 is a broad market index that gives you a high level picture of how the stock market is doing.
The next time you think about buying that $70 hoodie, think about what $70 would be worth in 40 years. At 10% annual interest rate, it’s?$3,168.
In this article, I assumed that you have a retirement account that you?re putting money into and I made it sound like giving up 10% of your monthly check is easy. I know that neither of those things are true for everyone. What you should take away from this anyway is:
Small savings over time can make a big impact
Time is your friend
Young people have one advantage our parents and grandparents don?t have: time. If you start saving early, you will thank yourself when you reach retirement and have that extra cash waiting for you.
Open a separate savings account and checking account. These accounts are low risk since the interest is pretty much guaranteed. But the interest is low. Even the ones that advertise “high interest” are only high when compared to other savings and checking accounts. Open a separate account anyway. Getting 1% on checking will help your money counteract inflation and gives you a separate bucket of money that you can grow over time (instead of spending it).
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I?m sure there are more people out there like me, people who woke up one day and realized that they were fucked. Over 50, broke and in debt, I’d been living month to month for years.?When I read about how to invest for retirement and see those little graphs that show how much you would have saved if you’d started socking money away years ago, I feel completely defeated.?
I?m going financially backward, and I?m getting older.
Trying to stretch each paycheck to cover childcare, your kid?s needs, the bills – you really don?t think about what you will be up against when you?re older.?I used to have a three-month whiteboard on my kitchen wall. I would faithfully update it with my son?s soccer, football and Taekwondo practices. Fees. Where he was going after school when I was at work. More fees.?I remember having to start saving in February to pay for his summer camps, aka ?childcare,? because adults don?t get summers off from work. (Why are we and our kids on different time schedules anyway?)
Then they go to college.?I tried to get him through without a student loan. I failed. That last year I cosigned a loan. It?s a huge burden for him now as he applies to law school. We chat online about how large of a loan he would need for the schools he’s interested in. We discuss how to come up with all of the application fees without him incurring more debt.?I wish I could help him, but I’m tapped out, broke and in debt.?
Save for retirement?
When you become vividly aware of your financial vulnerability, it?s like waking up to a bad dream. ?Wtf were you thinking? That you would never be old???We all truly have but two choices: get old or die.?I certainly didn?t imagine that I would be dead, so how did I fail to imagine that I would still be alive, only older … broke and in debt?
The fear. The overwhelm. You want to run away from it. To do the exact opposite of what you need to do. I froze for a long time. Deer in headlights. I had no idea where to begin. At first, it took me a while to fully accept where I was. Then it took me even longer to learn to let go of how I got there.?And when I finally started researching, I found out that I wasn?t alone.
The hardest part isn?t starting, it?s getting out of your own way so that you can.
Money is loaded with emotional baggage. Fear, regret, greed, angst, sensuality, illusion. Behavioral economists have been studying this for years. Apparently, when you are experiencing scarcity of any form – time, money, love – it can affect you cognitively to the extent that you can make poor decisions, decisions that increase scarcity. Scarcity mindset. It decreases your ability to plan while increasing your impulsiveness.
I have friends whose debt is greater than half their home?s value. When they get a windfall, they buy season passes to something. Or a new toy. In that same breath, they might mention how they wished they hadn?t taken that 2nd or 3rd mortgage. ?The things we could have done with that money!? These are good people, smart people! It became apparent to me that when you are used to living month-to-month, you are used to spending all of your money every month.?And this got me asking some deep questions about my relationship with money.
What is money anyway?
Digits in a ledger, with the power to dictate how we spend our waking hours. So, really important digits in a ledger. But the financial world can be intimidating. Take compound interest, for example. That thing that will definitely bleed us out if we?re broke and in debt, or could possibly multiply our money if we?re invested. While the theory itself may be simple to understand, the actual calculation is a far cry from balancing a checkbook.
The more you learn about money, the more you wake up to how crazy debt is.?Yet it’s up to me, and only me, to rid myself of any ignorance of something that has such immense control over my life, how I spend my time, where I can go, and what I can do.?I know I have baggage around money. But at this stage in the game, I also know that I don?t have time to uber-analyze why.?Because the other thing that goes with saving money is time. You need them both.?And I?m running out of time.
So, I decided it was time to learn how to crawl out of this mess. And to do this, I had to first stop freaking out about it. My odds of facing this challenge with a self-deprecating mindset were low. I tried to treat myself with compassion and forgive myself.?I had to start, somewhere.?And when you’ve been using your credit cards as a source of income, looking at your?credit card statements isn’t fun. It brings up?a flood of negative feelings. I tried my best to do it with the cold eye of a surgeon?s scalpel. Void of emotion.
I approached it like a puzzle. Like a game. Something separate from me.
First I looked for any recurring payments that I might have set up and forgotten about. Book club websites, Skype, Amazon Prime, Netflix, memberships… I canceled them all. It felt cleansing. Did I notice? At first, a little bit. Then?I stopped using credit cards completely. This took a huge change in mindset. I?d always looked at credit cards as that go-to?when something came up.
No longer could I visit my family on holidays. You search for hours to get a good price on a ticket and end up paying in interest what it would have cost you to fly first class. No longer could I buy that new thing because it was on sale.??I had to charge it but it was 20% off!? Five years later, you?ve paid double for the thing that you’d already gotten rid of two years prior. Crazy!
How I Hacked Peace Of Mind
The first rift between my emotions and money occurred when I began to see that money had nothing to do with spending. Spending was something I did. Money is just a tool. And I had some problems that only that tool could fix. If I truly wanted to get out of debt forever, I had to create a platform where going back into debt at the slightest mishap or desire was off the table.?I had zero savings. Everything always went somewhere. Why couldn?t I just leave it alone? Just let it sit there and ignore it?
I started to ignore the money in my account in the same way I had been ignoring my debt. I pretended that it just wasn?t there, and continued living as if I just didn?t have any to spend.?So far I?ve saved a couple months’ worth of monthly expenses. Ten years ago that much money would be vacation fodder. Today, I want to be alright with myself more than I want a couple weeks of hotels and airplanes and souvenirs. A vacation would be lovely but it would also set me back in time.?And I?m terrified that I won?t have enough time.?Who is going to take care of me if I get sick? The government? Ha!
My biggest fear is that I will die broke and alone in some shit apartment, and no one will know until they smell the body.
Just recently, I?ve begun to learn a bit about how to make money grow. Not by reading expensive and complicated financial books or hiring a financial advisor, but by actually doing it on a tiny scale. Nothing I can?t afford to lose. Like 25-100 bucks a month. I?ve lost nothing yet. I?m diversified?(don?t put all your eggs in one basket).?Microbalances. (Tiny amounts.)?You can see what it?s doing and learn without hurting yourself.?I started picking up part-time gigs. I stopped buying coffee and other little crap throughout the day. I bought a cheap unlocked smartphone and a budget sim to get out from underneath my ridiculous cell phone contract.
The internet can open doors for you if you use it.
The internet gives us access to free financial information. I started reading Investopedia, watching Youtube videos, investment for beginners blogs, anything. I discovered that I didn?t need some professional financial person to introduce me to the world of finance and investing, and I also learned that you don’t have to be rich to invest.
Today there are services for people just like me to learn about investing by doing it on a small scale. I started learning about?roboadvisors, fintech sites, cryptocurrency.?And then another weird thing happened. I actually became interested. The financial world was no longer a necessary evil, it was fun. Bit by bit the little pieces of financial jargon were no longer as mysterious as Chinese characters. They began to have some context.
It’s easier to play the game when you are interested in it.
As I became aware of my feelings around money, angst, excitement, stress, fear, greed, desire, depression, sensuality, I tried to be mindful of them and acknowledge them without getting involved. I also began to challenge my thoughts, to get used to the discomfort of these emotions, and just sort of check them out rather than let them dictate my behavior.
I’ll be honest, it isn?t very pleasant at first. Perhaps this is why so many people pay high fees for brokers to make decisions for them so that they don?t have to get involved. But it?s getting easier. I?m learning. And the more I learn, the more I realize that I’m not alone in the struggle to extricate emotions from money issues.
I found out that even Wall Street and emotions are not mutually exclusive. I laughed out loud when I discovered that you can check the emotions of today?s market on CCN?s Fear and Greed index.? Nobel?Prize Winner Robert Shiller, professor of economics at Yale, talks about the relationships of the stock market and human emotions. He says that bubbles and crashes involve the human psyche on a mass scale. And it all makes sense. We can separate nothing from our humanness.
Money is a human creation.
Flipping The Script
We needn’t be?ashamed to discover that our emotions around money may have been causing us to make long-term financial mistakes. Many of us inherited weird stuff from our parents and culture around money.
We shouldn’t be afraid of not knowing enough about the financial world to start learning. Many of us have zero financial education. I remember having a one-off class on balancing a checkbook in Middle School. That?s about it.
Couple this lack of financial education with the aggressive marketing and consumerism we have been subject to from impressionable ages thereon, and you have an interesting mix of bullshit running malware through your head when it comes to managing money. My senior year in college I received countless pre-approved credit card offers after starving to death to work my way through school for years as a single mom. It was like a feast. My new consumer debt slipped right in next to my student loan. I was a good little American.
We are programmed to comply on a daily basis. A new phone. A new car. New, new, new. We need the latest iteration of everything. We have a twisted and erroneous idea of a success. It is empty. Short-lived.
We are leveraging our future for the appearance of success.
We get into debt, get out of debt, get into debt, get out of debt.The cycle is insane. And a lot of us have been doing it for a long time.
I?m intent on shattering this financial pathology.?A few more months of saving and I will be able to attack those credit card balances so I can stop the bleeding once and for all. I imagine the joy I will feel when they are gone. I know it won?t be easy. And I now know it’s going to take some time. But I can use that time to learn about how to grow the money I will get to keep after I?ve finished. And I can use that time to heal from the twisted mentality that has kept me swimming in this financial toilet bowl for years.?
I?m over 50. I’m broke and in debt. I?m at Ground Zero.
So fucking what.?It?s a mathematical puzzle game. And I?m going to learn how to play it.
The stories in Life are real. Sometimes the names are changed at the author’s request.
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Investing for retirement is something that every person should be thinking about. While it might not be easy to save due to low wages and/or high bills, the ability to put something aside for retirement is one of the most important things we can do to secure our future. There are many options available for people who want to begin investing for their retirement now. Be warned, this blog has a lot of finance jargon but take your time, look up any terms that you don?t already know and by the time you finish you?ll have a much better idea of what goes into investing for retirement.
The investing arena is filled with investors that have different needs. But one constant is the desire to provide for themselves or their families financially after retirement. Creating ongoing financial returns from investments can help create a stream of income for retirees. It is a means of securing financial freedom while no longer being in the workforce. While certain strategies might be used widely in finance, they might not be suitable for a person that is trying to gain a retirement level of income. Knowing what different options are available and why different people choose them is a great place to start ensuring the investment you choose for your retirement fits your needs.
How to Invest for Retirement
The first step in determining a strategy to investing is to figure out where you are in the process. If you are younger, you have more time to take higher risks in your investment portfolio. This is only because you still have the time to recoup any loss if an investment doesn?t work out. You also have more time to take advantage of compound interest growth. The older you get, the less time you have to recoup losses or change course, and therefore the less risk you want to see in your investment portfolio.
The most important aspect is to set aside a portion of every wage or income stream for retirement purposes every month. You’ve heard of “pay yourself first”. This is very important. No matter what else is going on your life, find a way to set aside something (even as little as $50 per month) for your retirement. The amount you can contribute will be determined by income and expenses.?In general, a good rule of thumb is to save 15% of your income every year, starting at 25. But even 5-10% will create a noticeable benefit, especially if you have time on your side.
Another rule of thumb: by age 30, the goal is to have 1x your income saved for retirement and invested stocks and bonds. By age 40, it is 3x your salary saved. By 50, it jumps to 6x. And by 60, you’d be looking at having 8x your salary saved and invested for retirement.
Why Tax Deferred Accounts Are Good
Most retirement accounts are tax deferred accounts. Why are tax deferred accounts good? Two reasons:
If you put money into a tax deferred retirement account like a 401k or IRA, that money grows tax free until you take it out.?When you withdraw the money, the investment gains made on that money will be taxed at your then current tax rate. That means that if your tax rate is lower in retirement (it usually is) v. your current tax rate, it makes sense to defer paying taxes on those gains until later in life.
When you move some of your income into a tax deferred retirement account, it lowers your overall adjusted gross income (AGI) in that year. That means you will pay lower taxes on the rest of your income that year.
Consideration must be given as to whether you are self-employed or have access to a pension pot and/or also can contribute into a voluntary contribution scheme,?like a 401k.
If you work for a company and they offer a 401k plan, find out if the company matches contributions into your 401k. Many companies encourage their employees to save for retirement via the 401k program by matching up to a certain percentage of your salary. For example, 3%. But it’s called a match for a reason. It means you need to put in at least 3% of your income into the 401k retirement account in order to get their 3% match. We cannot underscore this enough: make sure to max out your 401k contributions each year. If you cannot, then at least put in up to the company match. Why? Because it is free money. The company is literally offering to match your contributions for retirement. That’s separate from your salary, bonus or equity. In other words, don’t leave free money on the table.
Individual Retirement Accounts (IRAs) are also popular for retirement investment. There two types of IRAs: Traditional IRA and Roth IRA. Both have a $5,500 contribution limit per year for 2018. Here we will provide a quick overview of the Traditional IRA. IRAs? are available to both self employed and company employees.?Like 401ks, Traditional IRAs have the benefit of being tax deferred for amounts up to a certain level per year, which makes them doubly advantageous.
There is also no limit to how long an investment can grow in these accounts past the age of retirement, there is a requirement to start withdrawing money by 70.5. With upfront tax deductions available as well as the tax credit deferral, the Traditional IRA is another good choice for retirement investing.
If you are self-employed there are other retirement contribution schemes available. These include a SEP IRA, i401k (Individual 401K) or Simple IRA. We will profile the SEP IRA in this section.
SEP stands for Simplified Employee Pension. With a SEP IRA, your business (not the individual) funds the account. Any small business owner with one or more employees, or a freelancer can set up a SEP Account. One of the main advantages of a SEP IRA over Traditional or Roth IRAs: your contribution limits are much higher. In 2018, the contribution limit is $58,000. That means that you can put in up to $58K in tax deferred income every year. And it doesn’t have to be the same amount every year. In a lean year, you can put in a much smaller amount. In a great year, you can load up and defer a significant amount in tax payment.
Guaranteed income annuities, cash value life insurance plans, non-qualified deferred contribution plans and real estate investing all investment vehicles that are set up for investing for retirement. But be careful, some of these products carry many hidden fees. For example, some annuities will charge 50% of your premiums in the first few years as a commission fee for the salesperson. Make sure you fully understand the terms before signing up.
The main factor to remember is to consider what you have at present and how long you have to make a gain or handle a loss. The closer you are to retiring, the less risk you want to take with your investments. High-risk investing is for younger people with the time to recoup their losses in the future. Choosing solid and stable investments later in life will help to create consistent income and see you able to retire when ready, a guarantee not everyone has.
The 401(k) has been touted for decades as the safe place to put your money for retirement. Unfortunately, many of us have been unknowingly sold bunk products. We need to take control of our future and we need to do it now. Start by understanding exactly what you are putting your wages into, and what it is doing to your wages.
The Birth of 401(k) A Brief Overview
Before 401(k)s, many companies offered pensions. Workers were promised a secure income upon retirement.
But pensions were getting expensive from an employer?s perspective. People started living longer and maintaining them became difficult in light of new regulations and market volatility.
401(k)s turned out to be cheaper for companies than pensions. ?401(k) plans essentially shifted the responsibility and payment for an employee?s retirement from the company to the employee. Instead of the company being on the hook to pay for pensions, that responsibility now fell on the employees themselves.
How were millions of Americans convinced that 401ks were better than pensions? Marketing. We were told that we?d have a lot more freedom by managing our own investment choices for retirement. Imagine that. Instead of the company guaranteeing a pension, we were now given the freedom to pay for our own retirement.
The Rise of 401(k)
This decision to shift from pensions to 401(k)s created millions of new employee investors for Wall Street and the financial industry.
However, the very idea of trillions of dollars in the hands of newbie investors opened the doors for all kinds of potential abuses within the financial industry.
The explosion of 401(k) investing coincided with their intermingling in mutual funds. The growth of 401(k) and mutual funds somewhat parallel each other. In 1990, 401k investments stood at $385 billion and were invested 9% in mutual funds. ?By 2000, nearly 50% of the 401(k) assets were invested in mutual funds.
During the bull runs of the 80?s and 90?s, when the markets were doing well, the returns on 401(k)?s seemed consistent, even invincible. So it was perhaps easy not to perceive any dangers.
Signs of Trouble for Individual Investors
The dotcom bubble of 2000 was the first warning sign that 401(k)s were putting people?s retirement plans at risk. Many took a big hit and lost their retirement savings.
Eight years later, the subprime mortgage crisis of 2008 hit retirement savers again, devastating many who not only lost their plans to retire, but also equity in their homes. The rash of bonuses handed out by bailed out banks was a slap in the face to those Americans left teetering on the financial edge.
The Problem with 401(k)
It is critical to remember that having a 401(k) is not saving for retirement. It is investing. And investing carries with it inherent risk.
?The problem with the 401K and the retirement industry, in general, is a definitional one. Saving money, or ?pure asset? accumulation is different from investing. Saving money carries little to no risk outside of the counterparty risk of the saved currency. Investing always carries risk, regardless of whether the invested asset is gold, oil, or bushels of wheat.? – ?Future Money Trends
If the quality of the mutual funds in a 401(k) plan is poor or even mediocre, how would an everyday employee without investment experience know?
Undisclosed fees are another problem altogether. Most of the people who look at their 401(k)?s prospectus have no idea that these fees are being taken out. And when trying to discern what they are, they are hit with a myriad of terms that are increasingly confusing.
Asset managing fees
To name a few.
It can take a ton of research to figure out what is actually eating away at the earnings of your 401(k). These fees are expressed in percentages, and they grow over time, just like your money.
Compound interest, the very thing that grows your money, also applies to fees, which reduces your money. And as your money compounds, the fees compound.
?According to our fee model, a two-earner household, where each partner earns the median income for their gender each year over their working lifetime, will pay an average of $154,794 in 401(k) fees and lost returns.????Robert Hiltonsmith
Many of these fees can come from revenue sharing arrangements. The fund advisers pay off the middlemen who are selling to potential investors to push their funds. This can also be how funds get on a 401(k) list to begin with. The more hands in the pie, the more fees.
?The 401(k) is one of the only products that Americans buy that they don’t know the price of it. It’s also one of the products that Americans buy that they don’t even know its quality. It’s one of the products that Americans buy that they don’t know its danger. And it’s because the industry, the mutual fund industry, have been able to protect themselves against regulation that would expose the danger and price of their products.? – Teresa Ghilarducci, Professor of Economics, The New School
Still, another part of the problem is the term ?financial advisor.?
Exactly what is a financial advisor? Financial advisers can don a number of names: financial planner, retirement planner, financial retirement advisor. But ultimately, a ?financial advisor? is a salesperson. And you have to ask yourself if a salesperson has your best interest in mind. Because, historically, financial advisors did not have a fiduciary duty to put your interests before their own.
Many financial advisors sell you financial products because they make money doing it. They make a commission from selling you that specific product. It is important to recognize that.
The Department of Labor Fights Back
The Department of Labor is responsible for regulating employee retirement plans.
But the Department of Labor did not give up. A controversial new rule which requires retirement investment advisors, including broker-dealers and insurance agents, to abide by a fiduciary standard took effect in April 2017. However, any financial advice given before April 2017 is not covered by the new rule.
In addition, while the new rule prohibits revenue sharing arrangements, ?pressure by financial lobbyists has added a loophole to the rule by allowing an exemption to the prohibited transactions. This exemption is known as BICE (Best Interest Contract Exemption).
Provide a detailed breakdown of their collected commission
Finally, the growing list of class action 401(k) lawsuits against companies for their lack of fiduciary duty and excessive fees should give anyone pause that something foul has been going on in the 401(k) markets.
If you have a 401(k) plan, it?s time for you to get your hands dirty and do some research. If the responsibility for retirement using 401(k) has been pushed upon the backs of employees, employees simply must take it upon themselves to understand what their 401(k) is invested in, what fees they are being subject to, and how they can get a better deal.
Remember that your 401(k) is not a savings account. It is an investment and you must actively manage it to mitigate risk.
Take control by asking your company questions so that you can make informed decisions. John Katovich of Cutting Edge Capital mentions that most people don?t know that they have a lot more power than they think they do.
?Individuals can march into their HR office and say, ?Let?s have a talk, tell me about my investments or put on a seminar for us. Explain to us how our money is impacting us. Am I investing in something?s that doing good, am I investing in something that?s actually harming me, I should know that, right? I want to know that.? – John Katovich, Cutting Edge Capital, Prosperity*
According to Katovich, the little-known secret about the 401k is that you can actually ask your company to set up a separate account that allows you to invest the way you want to invest.
?Imagine going into your company and saying, ‘I want to take 10% of my 401k retirement savings account and I want to invest it in some companies in my town.’ You can do that today, they?re not set up for it, the companies themselves don?t even know that they can do that, no one has been told that they can do that.?
If you have a 401(k), you need to find out exactly who is managing it, what they are charging, and what your money is doing. You can start by using free tools available online by the Financial Industry Regulatory Association (FINRA). FINRA?s job is to regulate brokerage firms doing business with the public in the United States. It’s a great place to start.
You can also use Morningstar or Google Finance to help you research your funds.
Get a copy of your Fee Disclosure Statement. It is usually included in your 401(k) prospectus. Understanding your fees is going to take some effort, but there are free resources available that can help. The internet is your friend here.
Once you have a clear picture of what your 401(k) is doing, you can make some informed decisions and take control.
Don?t like where your money is invested? Worried about People and Planet?
You have the power to incorporate Socially Responsible Investments into your portfolio. A new rule passed by the Department of Labor in 2015 makes it easier for you to invest in your 401(k) along with your values.
The money in your 401(k) is your future. People can no longer afford to simply tick the box on their risk portfolio and hand the oversight of their future over to fund managers. The illusion that the financial industry, and even your HR department, actually have your future in mind while playing with your money has got to be discarded.
And only you can do it by exercising your rights and taking control.
Check out more great interviews and videos from leaders in conscious capitalism in the new feature film?Prosperity
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Thinking about money gives me heart palpitations. As a small business owner in a creative field, my focus has always been squarely on my work and my clients. I send invoices off at lightening speed so I can get back to the real work.
Small business owners, freelancers, gig economy worker bees: we have all purchased tickets to ride a financial roller coaster. Money comes and goes in unpredictable waves. It?s easy to think things will always be sunny when you?re riding high on cash flow. But I?ve had enough down cycles over the past 15 years to know I can?t get comfortable.
The elephant in the room for me is retirement. For years I reinvested profits into the business, figuring I could save for retirement at some future date. When my industry, along with every other, took a nosedive in 2008, I was forced to dip into my savings. Fast forward 9 years and I?ve managed to make the business profitable again, purchase a nice apartment and maintain a comfortable standard of living.
But I have saved little for retirement.
Looking back, I wish I’d set up an automatic withdrawal and investment account, even if the contributions would’ve been small. Compound interest would have been nice.
“Compound interest is the eight wonder of the world. He who understands it, earns it…..he who doesn’t….pays it. Compound interest is the most powerful force in the universe.” -Albert Einstein
… Means Playing Catch-up For Retirement
I am now having to play catch up and it doesn’t look pretty. A peek at a retirement calculator confirmed my fears.??The good news is, I’m putting my retirement decisions on a fast track.?A few years ago I opened an IRA account and because I cannot contribute more than $5,500 per year, I decided to invest aggressively by purchasing mostly technology stocks. So far that account is up a whopping 30%. It isn’t a lot of money and that’s the only reason I feel safe taking such a risk.
Next, I opened a SEP account through my business (something I should have done ages ago) and opted for a more balanced portfolio made up of low cost?ETFs. I am contributing the maximum allowable each year, which in my case is about $20,000. These are pre-tax dollars and I am counting on that compounding interest to help reach my retirement goals.?This plan has certainly curtailed my bottom line, which means I’ve had to cut back on my expensive sushi and sake habit. But I feel safer knowing the money is working for me.
When You’re Building A Business, It’s Hard To Save
When you’re busy building a business from the grown up retirement is the last thing on your mind. As free agents it is hard enough to keep track of all the tax liabilities, let alone a retirement account. It seems almost trivial. But time flies when you’re having fun and before you know it, your friend who’s been doing the corporate grind for 15 years suddenly has a nice nest egg and you have…..nothing.? I’ve had to re-calibrate the way I think about spending.
I used to pay my business expenses, taxes and living expenses, in that order. Whatever was left over was reinvested into the business. Now, after paying business expenses and taxes, I pay my retirement accounts. There is less money to reinvest in the business and less money for living expenses.
Predictably, this has made me a more careful and mindful consumer. If there is a piece of equipment that needs upgrading, I will purchase used instead of new. I have lowered my overhead by consolidating staff while taking on more work myself. I cook more meals at home and Trader Joe’s is my new Whole Foods. Living a bit more frugally has proven to be less stressful than I anticipated.
What Finally Helped
The anxiety of planning for retirement largely came from the worry that I might not be able to keep up with monthly or yearly contributions in a consistent manner. So I simply didn’t deal with it. What finally worked for me was?automating my retirement contributions. I made them realistic. I made them a fixed line item, like my monthly mortgage. Once I did that, I had no choice but to pay into the accounts.
Practically everyone is familiar with Warren Buffet’s ‘pay yourself first’ principle. When you are running a business, simply keeping it afloat seems like a tremendous accomplishment. Moreover, many of us believe our small businesses will in fact be part of our retirement plan. Unfortunately there seem to be fewer guarantees about the long term viability of any given small business these days. Industries, especially creative ones, are changing so rapidly, it is impossible to predict the value of an asset 20 years from now.
Although I’m more than a little late to the party, saving for retirement using traditional investment vehicles has paradoxically forced me to streamline my business and perhaps better prepare it for that uncertain future.
Darla Roost is a pen name for a gig economy creative professional thriving in New York City. Her dream is to share her stories and create a place where people can share theirs, too.?Photo by?Bonnie Kittle