The idea for this blog came to me while listening to Bloomberg Radio on XM. One of the analysts had a very alarming figure American’s saving accounts prior to the 2008 market crash were almost at 0%. Today that rate of American’s savings is around 6%. I realize that saving’s account interest rates are not very attractive right now, but that isn’t the focus for this post. I want to sort of take the concept of saving a step further. Putting money away in a savings account is nothing new, but those two figures show that we are not saving enough collectively. Although, consumer spending is good for the economy, spending most of our income and carrying high debt isn’t good for us now or later as we near retirement age. My idea for the blog was to give the reader a wider perspective and touch on the importance of saving’s for our retirement and why it takes forward thinking. I understand not everyone is in a position to save for a variety of reasons. But if you are in the United States, we are in far better shape to save money than folks in other places.
Now, when it comes to saving I like to use the term Net Worth. Net Worth by definition is total assets minus total liabilities (everything I own – everything I owe). It is a very simple formula and it helps me determine whether or not I have too much debt and/or not enough assets or cash. It keeps me honest. The key to saving money and increasing your net worth is to keep your debt and spending under control. For example; I know I can afford a bigger house especially at today’s real estate prices. But adding $100K-150K in (mortgage) liability will not only REDUCE my net worth by $100K-150K, it will also REDUCE my ability to fully fund both per-tax and after-tax investment options. If you are under 50 years of age the Internal Revenue Service (IRS) allows you to deposit up to $16,500 pre-tax savings (401k,403b plans, some traditional IRA’s). If your employer offers a 401K plan and they match a percentage of your contributions. That’s a $5,000-$7,000 savings potential depending on the percentage they match. There are additional pre-tax investment opportunities:
- Health Savings Account (HSA) you can deposit up to $3130 for single person and $6,150 for married couple pre-tax per year. The HSA also has investment options where the money can be invested in for additional growth. The HSA account is for health expenses, and it is your account to keep even if you change employers.
- Dependent Care Expense Account (DCEA) allows you to deposit up $2500 for single parents and $5000 for married couples. For children under 13 year and elder care as well.
- Flexible Spending Accunt (FSA) can also be used for other qualifying expenses, but the only caveat is that you can not carry any remaining balances from year to year. It is use it or lose it.
The inherit benefit of all these pre-tax savings is they all REDUCE your TAXABLE INCOME. So Uncle Sam cannot tax you until you are 59 1/2 or later. Also, if you are over 50 years of age you have an additional catch-up amount of $5,500 pre-tax (401K) deposit opportunity on top of the $16,500. For a quick illustration assuming you have access to a 401K without matching, HSA and DCEA look at the potential in savings NOT including the earnings and 401k matching (if available).
|Saving Options||Single Individual||Married Couple||Catch-up|
|Total per Year||$22,050||$44,150||$6,500|
Taxable Income Benefit from pre-tax investments ONLY (not including any standard or itemized deductions YET):
Single Individual yearly salary = $100,000 – $22,050 = $77,950 taxable income
Married Couple yealy salary = $150,000 – $44,150 = $105,850 taxable income
If you do not take advantage of these $22,000-$44,000 in savings opportunity; over a work-life time (20-40 years) you are potentially forgoing and missing out on hundreds, thousands or possibly over a million dollars in savings and investment money. Few things in this world are too good to be true –well this is one of them. If you factor in the fact that you get to put all this money away before you are taxed the first $1 you make, it reduces your taxable income AND the savings and its earnings will grow tax deferred until you retired (remember when you retire you will be in much lower tax bracket). It does not get any better than this.
The Analyst on Bloomberg Radio said, “building up our savings account won’t take us to heaven but it is a least a start” rhetorically speaking. So having a few dollars in your savings account or in your pre-tax and after-tax accounts may not be much in the beginning, but if you continue to save it does lead to bigger savings. Of course, everyone’s ability to save is different, but the results of building up your savings are the same. You are going to have more money to spend, to save, to invest to reduce outstanding debt, etc. And those who can save more obviously see the results much quicker than those who save less. But don’t let that discourage you from saving; it works if you just to stick to saving. A lot of those saving opportunities I mentioned above are available to many of us. I urge you to look into it and to get in the habit of saving. The older we get the less physically able we become and our earning ability diminishes as well. So having to work when we are older to stay active and relevant is a great thing. But having to work when we are older to make ends meet because we didn’t plan is a sad reality that not only affects you, but it also affects those close to you especially if they have to help you financially.
Now, saving requires forward thinking because saving takes time, and if you start from zero you may not see the point initially. Saving for our future does NOT offer instant gratification like saving for your favorite toy or game. The gratification from saving and investing come much later. I hope by now you see the point the Bloomberg’s analyst was trying to make, and I also hope the upward trend of Americans saving money continues. We certainly do not need to learn any more lessons the hard way as described by NPR Editor Uri Berliner and Harvard economist Kenneth Rogoff “- a new frugality that’s been imposed by harsh economic reality. A recession of this magnitude redefines what necessities are”. We certainly can ‘t control the up’s and down’s of the economic, but if we save and we plan correctly we are better off in either event. I think 6% is still a very low savings number, but it is at least a start.
I take advantage of as many savings opportunities as I can. As I said earlier controlling spending is what allows most people to save. So if you are heavily in debt you must get your debt under control before you consider savings or investing. Otherwise, the high interest rate on your short term debt (credit cards, personal loans) will eat up your savings and investments. A side benefit to having NO debt is that it increases your Net Worth, and it gets you easy access to credit. Credit can be used constructively to maintain cash flow (not to buy things you can’t afford), we use credit (American Express) to manage our monthly expenses, and at the end of the month we pay is off. So, we maintain additional cash flow in our saving’s account for 20-25 days (depending on the credit card grace period) earning interest before we have to make a payment. Using credit responsibly also builds and/or helps restore your credit worthiness.
Depending where you are financially you can get a little creative with your savings. You can save to fund a Rainy Day Fund to cover your most immediate needs for a number of months 3-6 or 6-12 months depending on one’s earning capacity. If you have access in pre-tax investment plans (401k and 403b) you can increase or max your contributions to those tax deferred plans. And if you have any money left to invest after-tax these are good options: Roth IRA’s, Regular IRA’s, Life Insurance, Stocks and Bonds to boast your investment portfolio. I realize that if you are just starting to save some of these investment vehicles may seem a bit out of reach but in time you will be able to take advantage them. Saving takes some forward thinking and the sooner you start saving and investing the more money you are going to have. I hope the information helps.
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