Tara Unverzagt January 18, 2019 No Comments

Are You Ready to Start Saving Money?

Saving money doesn’t happen by accident. It doesn’t happen because you want it to happen. Saving money takes some thought, planning, and action on your part. As they say: the definition of insanity is doing the same thing over and over again and expecting a different result. If aren’t saving and would like to, you need to find a new approach.

Bubble Gum Money vs Savings

Raising my kids, I gave them an allowance at a young age so they could learn about money. You can read more about teaching children financial skills in our article Saving Your Bubble Gum Money. In my house, bubble gum money was money the kids could spend immediately on anything they wanted. (My youngest used it mostly for buying bubble gum when she was under 5 years old.) But they also saved some of their allowances. They couldn’t touch “savings” unless there was something they were “saving” for. In a four-year old’s world “saving for the future” meant they had to wait at least a week before they were allowed to make the planned purchase.

If you see something and buy it, you should be using your bubble gum money. Otherwise, you should put money aside to save up to make important, large purchases that you’ve thought through carefully.

If all your money is bubble gum money, you’ll never accumulate assets that are needed for things like taking a year off work, buying a house, having kids, retiring.

You may not even have enough to pay for a simple vacation. Once you have learned the difference between bubble gum money purchases and planned expenses and transitions, you’ve taken your first step toward financial success.

Never fall in the trap of borrowing in order to “spend less than you make.” Any consumer purchase (furniture, a phone, a car, anything that does not increase in value) should be purchased with money from your savings. Borrowing (payment plans, leasing, etc.) to consume allows you to feel like you’re spending less than you’re making, but you aren’t. The credit card companies, banks, and stores love to convince you that “you can afford this low monthly payment.” Those “low monthly payments” can add up to big debt very quickly. Don’t fall for their trap.

Make Saving a Habit

How much should you save? There is no one answer to this question. It depends on your expenses, your income, your future plans, what’s going on in your life right now, etc. The rule of thumb is 10%-25% of your income should go to savings (and paying down debt). If you’re a single mom making $30,000 living in Los Angeles, CA, you are not likely to be able to save 10%. But save what you can. Save something. Anything. Even $10 weekly is better than nothing.

Saving is a habit. The first step is to integrate the habit into your life. When you get your pay check, put some into your saving account. It doesn’t matter how much–just do it. You can set it up to have it go automatically into savings without any thought.

When you get non-paycheck money, make it a habit to transfer a certain percentage to savings, such as $10 for every $100 you receive. When you get your tax refund, you’ll be in the habit and will put whatever percentage into savings. When you get a bonus at your job, you automatically save a percentage. Better yet, put is all in saving and give yourself some to splurge. Put the $100 in your saving account and give yourself $10 to blow on whatever you want. You weren’t expecting that money anyway.

A habit is a trigger, an action, and a reward. The trigger is “you receive money.” The action is “you put money into savings.” It’s important to have a reward to make the habit stick. You might check your saving account balance and have a happy feeling. You may see how close you are to reaching your goal. You may invest your cash every time you hit $1,000 (another good habit). A simple act like saying “ka-ching” like a cash register adding up the total, can be a reward. Find what works for you.

As you watch your saving account grow, or not, you should be motivated to save more. When you get to the point where the money comes in and the first thing you think is “put my savings away,” you’ve developed the habit. Congratulations!

Make a Savings Plan

There are three levels of savings: emergencies, opportunities, and asset accumulation. Your emergency fund allows you to have money on hand to take care of unexpected or anticipated, but not planned problems. Your opportunity fund allows you to have fun or take advantage of opportunities that come up. And asset accumulation allows your money to pay yourself at some point in the future.

We all find ourselves in a position that an unexpected expense pops up from time to time. Plan for it. If you want to stay away from the high cost of credit cards and pay day lenders, have an emergency fund to fill that need. If you want to have fun and not feel like you’re living paycheck to paycheck, have an opportunity fund. And if you want to one day have a choice to retire or cut back on working full-time, think about accumulating some wealth so you can pay your own paycheck.

If all of this sounds easier said than done, schedule a FREE 15 minute call with us. We are here to help!

Tara Unverzagt February 19, 2016 No Comments

What’s up with 529 plans?

Let’s explore college planning for your children or grandchildren. There are so many great questions about the “best way” to get ready financially for college, but the answers are very complicated. There’s no way to cover this vast topic in one shot, so let’s look at one college saving method: the 529 plan.

If you haven’t heard of 529 plans, they are college saving accounts that are run by states. You can invest in the state where you are a resident or most any other state’s plan. Most people only look at their state, but if you are considering a 529 plan, it’s a good idea to look at what plan fits your needs best. That may be your state’s plan or another state’s plan.

I’ll use Illinois and California as examples of the differences between states. California has one 529 plan which is a savings plan. Illinois has four different plans which include saving plans and pre-paid tuition plans. I’ll just be addressing the Illinois Bright Start program here which is a savings plan similar to the California 529 plan.

What are the advantages of saving for college in a 529 plan?

  • On the state level, there are often tax advantages on contributions.
  1. California does not have a tax advantage for California residents.
  2. Illinois has a deduction of up to $20,000 of Illinois income for a married couple. Illinois businesses can also get a tax break for matching contributions. And there’s a tax break for rolling over another state’s program into Illinois.
  • On the federal level, 529 accounts are somewhat like a Roth IRAs. Contributions are after-tax dollars while the account’s earnings and growth are tax free.
  • The accounts are professionally managed. If you don’t have an investment advisor or you aren’t comfortable managing your own investments, 529 plans can help you with investment decisions.

Are there disadvantages to investing in a 529 account verses other investment accounts?

  • At the state level, some of the advantages mentioned above can come back to haunt you.
  1.  If you rollover your Illinois account to another state, it will be included in your Illinois income.
  2. Since California doesn’t allow deduction on contributions, there is no recapture if you move the funds to another state.
  • Most 529 plans have low fees, but each plan is unique. Illinois has the same plan via advisors and direct with the state. The Advisor version can have almost 1% higher fees than the direct plan. If your account has $100,000, that’s almost $1,000 per year going to fees!
  • Most plans are with a particular investment company (for example, TIAA-CREF or Fidelity) and you will be limited to the investment options they allow. This doesn’t always represent the best choices for you.
  • On the federal and state level, if you don’t take the funds out to pay for qualified expenses, you may pay taxes on the earning and a penalty. I’ll discuss this further later.

What if my child doesn’t go to college or goes to a cheaper college than we expected?

  • Non-qualified distributions (distributions not used for tuition or fees) will be taxable and have a 10% penalty on the earnings if withdrawn.
  • You can use the funds if your child wants to go to graduate school or take vocational/advance skills classes.
  • You can change the beneficiary and use it for someone else’s educational expenses. Haven’t you always wanted to go to culinary school?
  • You can save it for the next generation’s education.
  • There are exceptions that can eliminate the penalty (but you will still pay taxes on the earnings), including: the beneficiary dies or becomes disabled, goes to a US Military Academy, or receives a scholarship.

How does a 529 account affect federal financial aid?

  • A 529 account is counted as an asset of the parent. Federal financial aid considers 5.64% of parents’ assets and 30% of their income “available” to pay for college and 20% of a student’s assets and all their income over $6,260.
  • A grandparent can also start their own 529 account for a grandchild. That account is not included in financial aid reporting.
  • The catch with a grandparent’s account is that the distribution is included in the child’s income the following year.
  • If a grandparent plans to have a 529 account with one year of tuition and fees, your grandchild could save it for their senior year. The funds would never be counted as assets or income for financial aid.

What are the advantages of using a retirement account to pay for college instead of a 529 account?

  • A Roth IRA or Roth 401(k) makes a good college saving tool. You don’t pay taxes or penalty on Roth distributions for principal that has been in the plan at least 5 years.
  • Retirement accounts aren’t counted toward assets for financial aid.
  • If you distributed the taxable earnings from a Roth IRA or Roth 401(k) or from a traditional IRA or 401(k), the funds distributed won’t be penalized (they will be taxed though)

What are the disadvantages of using a retirement account to pay for college instead of a 529 account?

  • The limit for a Roth IRA or Roth 401(k) contribution is $5,500 ($6,500 if you’re over 50) in 2016 and phased out for higher incomes.
  • Each 529 plan has its own limits, but many will let you contribute $300,000 or more at one time.
  • Grandparents should remember you will have to pay gift tax for contributions over $14,000 ($28,000 for married couples) to each beneficiary or up to $70,000 each using a special 5 year exemption, but requires a Form 709, Estate & Gift Tax form, to be filed for each grandparent.
  • Distributions will count as income towards financial aid the next year.

Whether you should use a 529, a Roth IRA/401(k) or other saving plan depends on your needs and expectations. You also need to think about everyone’s tax situation, likelihood of wanting financial aid or need based scholarships, and flexibility. There’s not one right answer for everyone.