D and I were discussing how to allocate her planned savings when she starts her first “real” job next month. She worked out a budget that included saving 25% of her income, which looks manageable. Her company matches 50% of 401k contributions up to 15% of her salary, so I advised doing that and putting the other 10% into a savings account to build up an emergency fund, save for travel, etc.
She understands the logic of not leaving anything on table but is concerned about the 401K money being inaccessible. If she has an emergency in the next few months, we could cover her with a no-interest loan from the bank of Mom and Dad; so she doesn’t need a large emergency fund right off the bat, and can build that up over the next year. However, she seems nervous about not having enough liquidity (she’s not especially frugal, so that’s a plus to me but a negative for her).
Of course she will set up her payroll deductions as she pleases, but she did ask for my advice (which may be better if I get some other perspectives here).
I think it depends on how much she makes and how much money to takes to pay her monthly bills.
My D put the maximum for the match in a 401k, depends on the match and if they offer a Roth. D puts as much as she can in the Roth. I forget but the match is in a regular 401k and they rest in a Roth. She ups that every year as she gets raises. I think right now she puts 22% on her income in retirement accounts
She then has a short term savings which she likes to build up to 6 months of living expenses. She’s used some of that money in the past to put a sizable down payment on a car and then to pay off the car early. Then she rebuilds the emergency savings.
S was motivated to buy a house so when doing that put less in his retirement and more in emergency (house down payment account) until he had his 20% saved up and then diverted money to building up retirement. He still put in more than just the match amount but not as much as D.
But both kids had enough to save and make their monthly expenses. I’m of the camp that you save for retirement first and that there are safety nets. You can make loans from your 401k if things get desperate.
Both of my kids are cheap, not big spenders and aggressive savers, with better than average jobs out of college
“Her company matches 50% of 401k contributions up to 15% of her salary, so I advised doing that and putting the other 10% into a savings account to build up an emergency fund, save for travel, etc.”
I think your advice to your daughter is very sound.
For those of us who can afford it, we might want to consider encouraging our kids to contribute to a 401k and/or a Roth IRA. I understand that their contributions must come from their income. However, one thing that a parent might consider is to give their children some cash (we are allowed to give them up to $15,000 per year per parent per child) in order to make it easier for them to get by financially and be able to be afford to put some of their income into retirement funds.
I see two advantages of this. One is that their retirement funds have more time to be invested before they need the money. The other is that it gets them to think about saving for retirement. I understand that our 20-something kids are a long way from retirement, but they will get there eventually.
The taxes will be different on the 401k money, so the pinch may not feel as bad on that portion.
She’s right, that money is ‘gone’ as far as needing it for an emergency, but if she finds it is too much going into that account, she can always make an adjustment for future months. Does her company match only per paycheck or is there an averaging out at the end of the year?
I had a 401k with two plans. The company matched both plans but one was every paycheck and the other had a ‘topping off’ at the end of the year. They also didn’t match on the extra $5000 ‘old’ people could save and if I could I just put that in as fast as I could. Sounds complicated but it really wasn’t. I always made sure to have the 5% in one fund to get the match per paycheck and then played with the other depending on my needs for cash flow. If I needed more money in June, I could cut down on the other account and make it up in September.
She can also buy CDs with the savings money to have it making more interest but still semi liquid. My daughter also wants her money more liquid because she wants to buy a house, but I’m suggested she put it in a money market or CDs to get some interest.
We encouraged S to put as much as he could into retirement tax-advantaged savings. He also saved a lot for his emergency fund and investments. As an extra, every Christmas we try to give him a big check for his rollover Roth IRA.
I think you’re giving your D great advice. S always tries to live well below his income, while enjoying life and travel.
@DadTwoGirls We contributed to her Roth IRA during her college years (basically, she kept her summer earnings for expenses during the school year, and we “matched” it by funding the Roth) because we did not spend as much as we’d budgeted for tuition, R&B etc. However, her new job pays well (about 15-20% more than she expected although a fairly HCOL area) and has very generous benefits, so she should be able to save without suffering (plus she’s a spender so the discipline may be helpful to her in the long run). Agree it’s a nice idea when feasible for parents and if kid isn’t making a lot.
@twoinanddone I don’t know the specifics, but she did send me the massive paperwork that accompanied her offer so I’ll take a look. I did help her work out the taxes to see that a portion of what she’ll have deducted for the 401K would have gone to taxes anyway.
My future DIL wrote an article about finances for recent college graduates, and wrote the following:
Many experts use the 50/30/20 rule as a starting point for new budgeters.
• 50% Fixed Costs- Rent, Cell Phone, Utilities, Car, Groceries, Minimum Debt Payments
• 30% Discretionary- Clothing, Donations, Restaurants, Travel
• 20% Savings- Emergency Fund, Extra Debt Payments, Retirement
She also mentioned making enough of a contribution to any 401K to get the maximum matching employer contribution, which usually ranges from 3% - 6%.
Of course, some of the fixed costs are not fully fixed. The minimum cost rent/mortgage, phone, car, groceries can be reasonably assumed to be fixed, while choosing a more expensive place to live, phone and service, car, and groceries is discretionary.
Indeed, if those types of choices result in committing to a more expensive ongoing cost for a longer term, it may be especially important to exercise discretion in these choices, so that one does not have “fixed costs” that are too high for one’s budget.
Put the maximum into the 401(k) plan. If a qualifying emergency arises, she should be able to borrow from her 401(k) account. All interest on the borrowed funds goes into her account.
@Publisher Put the maximum into the 401(k) plan. If a qualifying emergency arises, she should be able to borrow from her 401(k) account. All interest on the borrowed funds goes into her account. "
Yes, but be aware that you are paying back the 401K loan with after tax dollars even though the 401K amount is pre-tax. In addition, if you lose that job you are expected to pay back the loan fairly quickly, used to be 60 days, now it’s when your tax return is due for the tax year you borrowed the funds. The bottom line is you may have to repay the 401K loan with another loan.
Any fixed percentage rule doesn’t have enough consideration for individual differences. These differences include things like wildly varying incomes, expenses, required emergency funds, upcoming major financial events, job security, future income expectations, employer retirement plans including 401K contributions, loans/mortgages/credit card debt, individual values and priorities, etc. The optimal percentages for any 2 persons will likely be completely different.
One key threshold is the employer 401k matching. If you are not at least putting enough in your 401k to maximize employer matching, you are essentially throwing away free employer income. Beyond that, there are 401k tax benefits up to ~$19k per year, which is another useful threshold to meet if practical. However, it can be awkward and undesirable to withdraw from a 401k, so one also needs to consider that they’ll have enough left over for expenses, particularly emergency (family, medical, home/car repairs, etc…) ones without dipping in to 401k. It’s also useful to compare long term benefits with alternative uses of the funds, such as paying off high interest debt/loans.
If you can invest more, there are many opportunities besides just 401k limits. For example, I have some form of long term investment for more than 70% of my after tax income. It works well for me, but I realize it would not be practical for most others.
That’s an extraordinarily generous company match. She should double check that. Most 401(k) plans will match maybe up to 4%. You’re suggesting that they’ll put in an addition 7.5% of her salary. Which, if true, is awesome!
Agree the match sounds surprisingly generous and should probably be double-checked.
Bear in mind that a 15% contribution to the 401k is pre-tax, so in reality (i.e. the effect on her take-home pay) it’ll be less depending on her tax bracket. The difference can be put towards her regular savings emergency fund if desired.
I suggest you tell her there aren’t many things in life that offer a 50% return on investment right away. (Hopefully that’s the right term).
Also, talk to her about the importance of compounding - how if she contributes this much early it’s like contributing X times that much later in her career.
I tell my kids they really need to contribute at least enough to get all company matching, even if it means a loan from mom.
Thanks for all the comments. I checked her paperwork and that match is accurate. There is an annual limit, but she won’t reach that for quite a few years. The benefits book actually says, “That’s a 50% return on your investment.” Both H and I thought it was very generous and my BIL, who worked for several major corporations over his career, agreed.
I think if I emphasize to D that it’s like getting an extra 7.5% in salary, she’ll see the benefit instead of bemoaning, “But I can’t touch it for 40+ years!” Even though one of her majors was Econ and she’s had several Finance classes, the magic of compounding is hard for her to grasp. She’s already been shocked by how much her take home pay will be reduced by taxes and how much rents are up here (her college was in a fairly low COL area) but fortunately her salary and benefits are very good, so she should be more than able to manage.
for my advice (which may be better if I get some other perspectives here).