Teresa Hassara, Senior Managing Director and Head of Institutional Client Services at TIAA-CREF
Just as everyone must take responsibility for their own health with regular checkups, so must everyone check in frequently on their financial status and knowledge. A study from the TIAA-CREF Institute shows that people with a high degree of financial literacy are more likely to plan for retirement, and that people who plan for retirement have more than twice as much wealth as people who don’t. This is an especially critical issue as more and more people play a greater role in managing their own financial well-being.
But many people in the U.S. still do not have a basic level of financial literacy. For instance, the TIAA-CREF Institute recently conducted a study of Americans over 50, asking them three questions that required them to understand interest rates, the effects of inflation, and the concept of risk diversification. Only one-third of the respondents were able to correctly answer all three questions.
The problem is likely to become worse as Generations X and Y head into middle age: A recent survey from the Financial Industry Regulatory Authority (FINRA) found that Americans between the ages of 18 and 34 were less likely to be financially capable than older Americans.
This is a problem not only for individuals, but for the U.S. economy overall. To be globally competitive, we must have a population in which everyone can make informed decisions about their financial futures.
There are simple steps that everyone can take today to see their financial picture more clearly, put their financial goals in the forefront, and increase their understanding of the impact of their choices.
Target ongoing spending in areas where you might not even notice any real impact from cutting back. For example, raising your auto or home insurance deductible from $250 to $500 or even $1,000 can lower your premiums significantly, and you will generally come out ahead if you don't have a claim for at least a few years.
Forgoing even relatively small expenditures can make a big difference over time. For example, by bringing a reusable bottle of tap water to the workplace instead of spending $1.50 a day on bottled water from a vending machine, you will save $7.50 a week, or about $30 a month. Invest that $30 a month at 4% annual interest calculated monthly, and after 10 years, you will end up with a pretax balance of about $3,744. After 20 years, your bounty will grow to about $7,488.
A good credit score can make it easier for you to get approved for a credit card, a car loan, a mortgage, or even an apartment lease or job. It can also help you qualify for lower interest rates on the money you borrow, which can save you a lot of dollars over the years. Your score is determined by four elements: your payment history (35%); the amounts you owe (30%); the length of your credit history (15%); and the types of credit you have in use (10%). You are entitled by federal law to a free credit report every year, so stay on top of your score, review your history, and correct any errors.
If you have access to a 401(k), 403(b) or 457 tax-deferred savings plan at work, you can save for retirement through regular payroll deduction contributions to this plan. When you contribute to your plan on a pretax basis, you reduce your taxable income which, in turn, reduces your taxes. Take advantage of employer matching by contributing the full amount that will qualify for the match; if you don’t, you are leaving free money from your employer on the table.
You can also supplement employer plans with an IRA, which allows your contributions and earnings to compound over time while growing tax deferred. Since tax-deferred savings can help your money compound at an even faster rate than money in non-tax-advantaged investment vehicles, an IRA can be a good choice for helping you build additional funds for retirement.
A 529 college savings plan allows you to save for your children’s education or your own continuing education with an account that you can tap to pay for qualified higher education expenses at any private or public school in any state. These plans offer multiple investment options with no income and no annual contribution limits (although maximum account balances vary by state). You can transfer an account to any eligible family member, including a sibling or ﬁrst cousin of the current beneﬁciary.
When it comes to finances, no one is an island. Whether you are combining your accounts with a new partner, working with your parents to manage their finances, or helping adult children find their feet financially, most people need to coordinate with someone else to build their financial future. The key to all of these financial partnerships is communication. Understand what your rights and responsibilities are in regard to your loved ones, talk open and honestly about how your priorities and financial philosophies intertwine, and consider meeting with an advisor to ensure that everyone involved can meet their goals and achieve financial well-being.
In the next month, schedule a few hours to consider these steps, evaluate your own financial status, and make a plan to close the gap between where you are and where you would like to be. Consider selecting three of these items to focus on for the rest of 2012, and check in with yourself every few months to see how you’re doing. By 2013, you will see that it has been time well spent.
Please note that withdrawals of earnings from retirement plan accounts are subject to ordinary income tax and a Federal 10% penalty may apply prior to age 59½.
The material is for informational purposes only and should not be regarded as a recommendation or an offer to buy or sell any product or service to which this information may relate. Certain products and services may not be available to all entities or persons. Past performance does not guarantee future results.
TIAA-CREF Individual & Institutional Services, LLC and Teachers Personal Investors Services, Inc., members FINRA, distribute securities products.