Investing Intelligently

When times are good, we often forget financial planning, lured by dreams of a plasma TV or maybe a new car. A better strategy is to protect your future by planning for savings just as you plan for business growth.

It takes discipline to stash money away for the future, but the rewards are terrific. Money invested is out of your immediate, impulsive reach and incremental growth over time might surprise you with its results.

The following is a special look at three distinct financial situations, along with possible strategies designed to optimize their potential returns. Read on to see if you can recognize yourself in one of these hypothetical scenarios.

Starting Out
Katie and her husband Tim have been married two years and have a combined income of $32,000 per year. Katie is a full-time freelance dance teacher and Tim draws a salary from another job. As partners, Katie and Tim discussed their goals: to build their business and support a family. Since they’re about 30 years away from retirement, they haven’t thought about long-term savings. They would be better off with a savings plan as they map out vacations and big purchases.

For Katie and Tim, a bank money market account would allow the transfer of excess cash from a checking account to one that pays slightly higher interest than a traditional savings account. Once they have exceeded $5,000 in the money market, they might move beyond the short-term by converting $5,000 to a certificate of deposit. CDs offer higher interest, but are locked in for a fixed term, ranging from three months to five years.
Since Katie is self-employed, she could contribute up to 25 percent of her income to a Simplified Employee Pension Individual Retirement Account, and Tim could also consider making a contribution to an IRA, which currently allows tax-deferred savings of up to $4,000 per year.

Too Busy to Save
Erica has been a dance teacher for seven years and earns roughly $60,000 per year. As a single mom, she is proud of her ability to support her family. But she has no time to manage investments and is afraid of losing hard-earned money. She has $34,000 in several savings accounts, including money she inherited. It is accumulating interest far lower than inflation.

At age 38, Erica figures she will live on Social Security when retirement comes. But how much money is that?  And will the funds run out of money before she retires? On average, Social Security pays only $14,000 per year for a 65-year-old; clearly, these benefits are not intended to be the sole means of support. Private pensions and retirement accounts should be a large part of any nest egg, no matter what Social Security has left when you’re ready to draw from the fund.

Erica can afford to invest in a mutual fund for better return with little risk. Mutual funds hold a variety of investments, helping to spread risk in volatile markets by including stocks, bonds and even real estate. By their nature, all investments are partly speculative and the goal is not to avoid risk by stuffing money under the mattress, but to manage the risk with a balanced portfolio. If Erica starts putting $300 per month in a conservative mutual fund, she may enjoy up to 10 to 13 percent growth each year. Putting that money into an IRA would help build tax-deferred dollars for her later years.
To save for her children’s education, Erica could open a 529 savings plan, created by the U.S. Government to provide tax-free savings for college. At present, about 25 states offer 529 plans with differing rules on beneficiaries and age-based limits. Like most investments, there are penalties for early withdrawal, and the money is taxed as regular income if it’s not used for college.

Reluctant Savers
Jason and Mary Beth each had 401k accounts from previous jobs before teaching dance full-time. They used some of those funds to invest heavily in their training and are now pulling in almost $90,000 per year in combined income.

Neither is an aggressive saver but they live modestly. With expenses totaling only 70 percent of their combined income, they have nearly $27,000 per year left for investments. The problem is that Jason feels they have enough money for retirement. But how much is enough and what about paying back the money taken from those 401ks?

Avoid borrowing from your retirement plan to get through a short-term cash drain. 401k-defined retirement plans and traditional IRAs grow tax-free until you begin to withdraw the money at retirement. When saving for the future, it’s a bad idea to cash out early. Although you can take money out of your IRA, you’ll pay a sizable penalty if you don’t repay the full amount within 60 days. You can borrow from these accounts only once a year.

A recent study by the Employee Benefit Research Institute and the American Savings Education Council showed most of today’s workers feel surprisingly positive about what the future holds. That’s not good news, since the survey showed the rosy glow seems to stem more from apathy about the future (or simply not knowing what a secure retirement will cost) than from careful planning. The study found that workers spend more time getting ready for holidays and social events than they do for their retirement.

If Jason and Mary Beth are willing to take risks, they can find plenty of opportunities to beat the market. Patient investors can often take a greater risk in investing, knowing there is time to recoup any swings that might drop investment value. To protect your assets, always consult an accountant or do your own research before embarking on any investment plan.

Balance is an integral part of a healthy lifestyle; it’s also very important to your financial health and your business. Remember, you’re working for your happiness tomorrow as well as today. DT

Helen Gallagher is a technology consultant and freelance writer, based in Glenview, IL. Her work appears in Cheer Biz News, T&D magazine and Writer’s Digest.