7 Places For Young People To Put Savings

June 15, 2017

In my last two posts, I wrote about why saving is such an important part of “adulting” and shared saving hacks for new grads. But where should those savings go? Here is how I would prioritize putting my savings if I were just starting out:

  1. Build up an emergency fund. You may still feel invincible, but you’re actually more likely to need emergency savings than anyone since you’re more likely to change jobs frequently and less likely to have retirement assets or home equity to fall back on in an emergency. Shoot for at least $2,000 in savings, which is what the Federal Reserve Bank estimates the average American needs to resolve a financial crisis. Ideally, you want to be able to cover 3-6 months’ worth of necessary expenses in case you’re in between jobs. After all, you can’t always rely on the Bank of Mom and Dad.
  2. Max a Roth IRA. Since Roth IRA contributions can be withdrawn tax and penalty-free at any time, a Roth IRA can be used to help build your emergency fund while also saving for the future. Just make sure you keep it invested relatively risk-free like in a savings account or money market fund until you’ve accumulated enough emergency savings outside your Roth. At that point, you can invest the Roth IRA more aggressively to grow tax-free for retirement. The younger you are and the longer the money will be invested, the more you can benefit from that tax-free compounding. You can also use the earnings penalty-free for qualified education expenses or up to $10k for a first-time home purchase.
  3. Max the match on your employer’s retirement plan. Once you’ve accumulated some emergency savings, make sure you’re contributing at least enough to your employer’s retirement plan to get the full match. Otherwise, you’re leaving free money on the table. If you can’t afford to do that right away, you can slowly increase your contributions over time. Some plans even have a contribution rate escalator feature that lets you automate that.
  4. Pay off high-interest debt. Once you’ve done the above, pay down any debt with interest rates higher than 4-6% since the debt may be costing you more than what you could earn by investing your savings. Start with the highest interest rate balance and then put the payments towards the debt with the next highest rate as each balance is paid off. You can see how quickly you can pay off the debt and how much interest you can save with this Debt Blaster calculator. Paying down the debt will also improve your credit score and improve your debt/income ratio, which can help you…
  5. Buy a home. Once you’ve settled down enough that you think you’ll keep it for 3-5 years, owning a home can provide tax benefits and allow you to build equity. However, you’ll need savings for a down payment, closing costs, and any furniture/appliances you want to purchase. Ideally, you want to put down 20% to qualify for the best mortgage rates and avoid having to pay private mortgage insurance.
  6. Max out a health savings account. If you’re in a high-deductible health insurance plan, you can contribute to an HSA pre-tax and use the money tax-free for qualified health care expenses. Unlike flex spending accounts, you can keep any unused money in the account and even possibly invest it. When you turn 65, you can then use it for any purpose without penalty so it can do double-duty as a retirement account too.
  7. Save enough to hit your retirement goals. If you’ve done all of the above, run a retirement calculation to see if you’re on track. If not, you may want to save more, starting with your employer’s retirement plan.

If you need help, consider consulting with an unbiased financial planner. Your employer may even offer access to some at no cost to you. Aren’t you starting to feel more like an adult already?