Tuesday, May 21, 2013

Top 10 Financial Steps for New College Grads

 By Jordan Kunz, CFA, CFP®

May in a college town. It’s that time of year when seniors’ thoughts go from studying and finals to graduation and what life will look like after college. Perhaps you have a great job lined up already or you are prolonging your time in academia with a stint in grad school. Maybe you’re still job hunting and polishing your resume, or going on a celebratory adventure. Whatever life post-college entails for you (or your kids for the parents reading this), here are ten proven steps to take once you enter the real world.

Why are they the top ten? Simple. These are what I wish I would have known when I graduated from college six years ago.

1. Organize your financial life

Before you can start, you need to know where to begin. Find out where everything financial-related is and get organized. You probably have student loans, plus credit cards, a checking account, and others. Write it all down. Even better, harness the power of technology to do it for you.

Mint.com offers a free online account aggregation tool that will make this a piece of cake. Online, smartphone, tablet, they’ve got it covered. There are helpful budgeting and goal setting features too. I’ve been using it personally for a few years and it’s indispensable. I really can’t recommend it highly enough.

Take a deep breath if this is your first time seeing everything in one place; maybe let out a low whistle. Keep breathing. Welcome to the real world.

2. Start saving what you can

Let’s start with some hard numbers. Do you think Social Security will bail you out when you’re ready to retire? According to the Social Security Administration, 53% of married couples and 74% of unmarried persons depend on Social Security for 50% or more of their income. That works out to about $15,000 a year in average benefits. Not much. And that’s for current retirees. The future of these benefits is rather bleak for the under-40 crowd, but that’s another blog post.

Three out of five retiree households had no savings in 2007. Half of those with savings had less than $61,000.

So, what can you do about it? Try a simple budget of 50% of your income towards fixed costs (rent, student loans, groceries, etc), 30% towards fun things (movies, ski passes, clothing, trips), and 20% towards savings (emergency fund, retirement account, new home, wedding).

Got your first raise already? Fantastic! Buy something nice for yourself, then start increasing your monthly savings with your well-deserved boost. A major factor to saving enough for your future goals is to keep your expenses from increasing faster than your income. Start off on the right foot.

3. 401(k) plan enrollment and employee benefits

If you have a 401(k) account, congratulations! You’re gainfully employed. The key is to make sure you are signed up for monthly contributions into it and that you are investing those funds. For the simple investment option, consider using a target date fund. Simply select the closest year to when you plan to retire and the assets will automatically be rebalanced from a more aggressive portfolio to a more conservative portfolio over time. No muss, no fuss.

For those of you more interested in an active role, you should look to build a diversified portfolio (i.e. try to avoid the temptation to accumulate big chunks of your employer’s stock). A financial advisor (like us!) can help with that.

I saved the best for last. Most employers will match the contribution you make to your 401(k) or other company-sponsored retirement plan up to a limit. So if you put 3% of your paycheck into the account, the employer would add the same amount in. Free money! Even if you have loans and credit card debt, make sure to max out the employer match and then go back to the debts. Not only is this money free, it is not taxed until you withdraw it at retirement and the “miracle” of compound interest means that the sooner you can get this money working for you, the better.

This is also a good time to make sure you understand any other benefits at your job. Health insurance, disability insurance, life insurance, relocation benefits, Friday growlers from Mountain Sun, and so on.

4. Open a Roth IRA

Don’t have a 401(k) or still have some money to put towards investing after making your 401(k) match? A Roth IRA account is the place to be. The key for a Roth is that contributions (up to $5,500 for 2013) are post-tax, but distributions at retirement are not taxed. This is crucial if you think you will end up in a higher tax bracket at retirement than your current bracket (or if taxes are going to go up in general). It also means those lovely compounded returns will never be taxed.

You can also withdraw your contributions at any time without a tax penalty because they were already taxed. It’s not recommended, and you should have an emergency fund setup from #2, but sometimes emergencies really are emergencies.

5. Watch your credit history and credit score

Checking your credit history and score is straightforward, but has huge benefits. Think of it as a yearly checkup at the doctor, except it’s free.

First, the credit history. Go to www.annualcreditreport.com. Once a year, you can see exactly what the credit card bureaus see about if you pay your bills on time, how much you borrow, and more. If there is anything wrong with the report, you can file for a correction. You want a “clean bill of health”.

If everything looks good, visit www.myFICO.com to get a free snapshot of the credit score assigned to you by the credit bureaus. This is what controls the interest rate (how expensive it is for you to borrow) for things like car purchases, home mortgages, credit card balances, and more. A good score is 750 and up. Over the course of a 30-year $250,000 mortgage at current rates (5/10/13), you will save tens of thousands of dollars compared to someone with a low score.

If yours is lower, there are some straightforward steps you can take to improve your scores right away. Pay down the balances on your credit cards, make sure you make payments on time (see #5), request higher limits, and give your credit history time to mature. Oddly enough, the more unused credit you have available, the better your score can be. To learn more, visit this credit score calculation page.

6. Use your credit card (wisely)

If you already have an existing balance, work on paying that off first before adding more back on. The key here is to pay off your balance every month in full.

Maybe you’re asking why not use a debit card? A credit card builds credit history and improves your score if used responsibly (see #3). That stellar credit score you’re building will pay off when you’re ready to take out a loan for future big-ticket purchases. The cash back rewards or airline miles don’t hurt. Also keep in mind the extra goodies like extended insurance, concierge services, and other member perks.

Don’t have a credit card? Not a problem. Head over to Bankrate and see what cards are available.

7. Automate your financial life

Assuming you followed the first step and setup an account at Mint, you’re halfway home. Now comes the fun part. All those accounts you linked have some great features. Are you taking advantage of all of them?
  • Setup auto payments on any account you can pay with your credit card (utilities and so on).
  • Have checks mailed via bill pay from your checking account for things you can’t pay with a card (e.g. rent).
  • Setup auto payments from your bank account to pay off your credit card in full each month.
  • Setup retirement contributions to come out of your paycheck right away. Soon you won’t even notice the funds are gone.
No more late fees, no more stamps.

8. Think about your goals for the next five years

If you’ve been interviewing, this question might sound familiar. It’s worth answering for yourself. Are you starting a career in a field you enjoy? If not, now is the time to consider a change. The switching costs (shout-out to my fellow econ majors) will only get higher in terms of lost income while you study for a new career or accept an entry-level job in a new industry. Ask around and see how many of your parents’ friends are currently in a job they don’t enjoy because starting over means losing weeks of vacation and other golden handcuffs.

9. Invest in yourself

You are worth far more in human capital (or the future income you’ll make) than your current paper net worth.  Work on ways to increase that value, especially while you’re young and don’t have the extra responsibilities that come along with having a spouse and family to support.  You’re also more likely to still remember your study habits. Strike while the iron is hot!

Look into continuing education through work. You’ll find that initiative is often rewarded. There are many avenues for free training/skills. First stop, your local library. Other resources:

Code Academy – Programming for everyone.  PHP, Java, C++, Python, HTML, the list goes on.
MOOCs (massively open online courses) – Coursera, Udacity. Free classes from top universities. These are going to change the face of education.
creativeLive – Design/photography. Watch and learn from some of the best creatives on the planet.

10. Meet your professional peers

Social life is a little different when you aren’t surrounded by hundreds of your peers on campus every day. Beer pong at 11pm on a Thursday is replaced with something called “networking”, or adult happy hours. Take advantage of local young professional groups and industry associations. If you’re in Boulder, check out Boulder 2140 (full disclosure: I’m on the board). You never know if that chance conversation might lead to a new opportunity.

This isn’t an exhaustive list and there are far more tips out there, but these are the biggest I’ve come across personally. What have you found helpful? Don’t forget to contact us with any questions.