Your Lifetime Financial Checklist
People often ask me, "Richard, how do I know whether I'm making the right financial decisions for this stage of my life?" Obviously, in a letter like Profitable Investing that goes out to thousands of subscribers, I can't counsel each person as intimately as if we were sitting in my kitchen.
However, I can share with you the storehouse of experience I've gained through the decades in accumulating and preserving wealth. To that end, I've put together the following checklist to help you evaluate how you're doing—whether you're in the early (ages 20–39), middle (40–59) or later (60 and above) stages of your financial journey.
Bear in mind, this list is far from exhaustive. It's intended merely as a jumping-off point, to get you thinking about where you stand and where you're headed. Don't be alarmed, moreover, if it seems that only a couple of the steps I recommend might work in your situation. That's OK. If I spur you to take just one action today that will improve your financial future, I've accomplished my goal.
Off to the Races: Ages 20 to 39
You've finished your formal education (or most of it). You're out in the workforce, or you're married to someone who is. Here are some of the tasks you'll want to get done during these exciting years when your career and finances are bolting away from the starting line:
- Pay off student loans and high-interest credit card debt.
- Begin a regular savings plan (at least 10% of your take-home pay). Build a rainy-day fund equal to at least six months' worth of living expenses in a money market account. Barclays Bank Delaware offers a 0.9% yield with no minimum deposit and no fees. Click on www.barclaysus.com.
- Open a Roth IRA with a well-managed no-load stock fund such as Oakmark Global (800/625-6275 or www.oakmarkfunds.com, $1,000 minimum). With a Roth IRA, you don't receive a tax deduction for your contributions. However, your investment earnings from the account are never taxed, as long as you follow the withdrawal rules.
One handy Roth provision enables you to take as much as $10,000 out of the account tax-free to pay for your first home purchase. (The account must be in existence at least five years.) You can also withdraw your contributions—not earnings—anytime, in any amount, without penalty. Thus, a Roth IRA can give you a significant boost if you're saving for a down payment on a house.
Most wage and salary earners are allowed to contribute up to $5,500 to a Roth. Eligibility begins to phase out if your family income, as defined by the IRS, exceeds $178,000 a year.
- Enroll in your employer's 401(k) plan. Yes, even in your 20s, you should start thinking (a little) about retirement. Why? Because the earlier you begin salting away cash for that far-off goal, the more time you've got for the "miracle of compounding" to work. Typically, employers match part or all of your 401(k) contributions, so your investment grows much faster than it would in an ordinary taxable account of your own. Furthermore, your 401(k) contribution comes "off the top" of your salary, reducing your current taxable income.
- Sign up for disability insurance. At age 30, your odds of becoming disabled are four times greater than your chances of death. While I don't discount the importance of life insurance for young families with only one breadwinner, disability coverage is, in my view, a more urgent priority. If your employer offers a low-cost plan, be sure to sign up for it. Otherwise, take out an individual policy with a reputable carrier like Guardian Life, MassMutual, MetLife or Principal Life.
At Full Stride: Ages 40 to 59
You're advancing in your business or profession, and by the time you've reached the middle of this age range, you'll probably be clocking your peak earnings. Following are some key points to check off your to-do list as you go:
- Open a 529 college savings account for your children. Actually, precocious parents may want to take this step in their 20s or 30s, but I won't scold you if you're running a bit late! With a 529, you can contribute as much as $70,000 ($140,000 for joint filers) in a single year to a child's college fund without disturbing your lifetime exclusion from estate and gift taxes. The fund grows tax-free, and there's no federal income tax due when you withdraw money for college expenses.
You can find details of your own state's 529 plan at www.savingforcollege.com. Not happy with your state's plan? I recommend the low-cost New York plan, open to residents of all states. New York uses Vanguard stock and bond index funds. Minimum to open an account: $25. Visit www.nysaves.org.
- Recalibrate your overall savings rate to meet your retirement goals. Because of today's low interest rates and high stock prices, you'll need a bigger kitty to retire than folks did, say, 20 years ago. As a rule of thumb, I suggest that a 40-year-old with no other investments should save $423 a year for every $1,000 (in today's dollars) that he or she hopes to spend annually, apart from Social Security, in retirement. A 50-year-old should save $854 a year to achieve the same annual spending power.
Daunting figures? Absolutely. But if you're determined to win this race, you can do it. Self-employed people should look into SEP plans and defined-benefit pension plans, which generally allow you to make much larger contributions than do IRAs and other mass-marketed retirement schemes.
- Set up an estate plan. A will is essential if you care about how your worldly goods are to be parceled out after you're gone. For larger estates ($1 million and up), I recommend a living trust to eliminate probate costs and provide for interim management of your finances should you become incapacitated. Be sure to use an attorney well versed in estate planning to draft the documents.
If you've got a fairly small resource base (under $100,000), you can simplify matters for your heirs by titling as many assets as possible in joint tenancy or by naming a "payable on death" (POD) beneficiary. Most states now authorize POD for bank and brokerage accounts. The chief advantage of POD over joint tenancy is that you can change beneficiaries anytime, without seeking permission from, or even notifying, the existing beneficiary.
Home Stretch: Ages 60 and Above
This is the stage where you get ready to kick back and enjoy the fruits of your life's labor. Here are a few agenda items for your home stretch (and victory lap):
- Close out your mortgage. Pay it off in full. You want to be free and clear of any major debts when your regular work paychecks stop coming in.
- Cancel unnecessary insurance policies. Give your term life insurance the old heave-ho. Ditto for your disability insurance once you leave the workforce. Cash in whole-life policies that pay negligible dividends.
- Choose an optimal date for taking Social Security. Age 62 (early retirement) makes sense for some folks, particularly if you're unsure of your health or your employment prospects. Bear in mind, though, that you give up part of your benefit if you collect Social Security ahead of your "official" retirement date. The haircut for people born between 1943 and 1954 is 25% at age 62. Weigh the numbers carefully.
- Settle on a safe withdrawal rate from your retirement plans. I used to advise 4% a year, but under today's market conditions I feel more comfortable with 3.5% or even a tad less. Online retirement calculators, available at Yahoo Finance, T. Rowe Price and elsewhere, can help you nail down a figure. Just remember to plug in conservative assumptions, such as a 25- or even a 30-year retirement lifespan and investment returns in the mid-single digits.
My last piece of advice, for investors of all ages: Work up an asset-allocation plan you can live with. One simple method is to earmark 110% of your portfolio, minus your age, to stocks, and the rest to fixed income. Another technique is to aim for a specified cash yield on your investments as a whole. You could shoot for 1%–2% during the "off to the races" phase above; 2%–3% during the "full stride" phase; and 3%–4% during the home stretch.
If you stick with a sensible allocation plan and reinforce it by carrying out the action items I've provided in this lifetime list, you're going to build some real wealth. I know, because that's exactly how I've done it.
Yours for Profitable Investing,
Richard E. Band