If you’re a parent with kids in their 20s or 30s — or any kids at all — you’re probably no stranger to worrying about their future, including their financial future.
As you watch your now-adult children venture out into the real world, though, you may see them focusing almost entirely on their financial needs in the here-and-now — paying the rent, determining just how much health or renters insurance they can afford, etc. While learning how to manage their financial needs now is important, though, they also need guidance about how to secure their future.
There are certain underlying principles you can teach your kids now that, if followed, will help them secure financial independence in another 30 to 40 years. As a financial adviser, I have witnessed firsthand how people who approach their finances as a decades-long discipline will find themselves in great shape as they approach retirement. Conversely, those who bounce through life hoping things will somehow turn out all right might find their twilight years challenging.
The following are my top 10 savings tips you should be teaching your adult kids now.
1. Understand the time value of money. It is the most important asset you have.
I sat my two kids down, ages 17 and 21, and explained if they contribute $5,500 to a Roth IRA every year for 40 years and earn a reasonable 7% return, they will amass a $1.2 million tax-free nest egg. Put it off for a decade (meaning they saved the same amount for 30 years instead), and the total is only $556,000 — those extra 10 years can make a world of difference. Indeed, what your child does in their 20s to plant a seed is crucial to where they will find themselves come age 60.
This is a hypothetical example used for illustrative purposes only and does not represent an investment in any specific product. Investment return and principal value will fluctuate with market conditions so that, upon redemption, the investment, including the principal value, may be more or less than originally invested. Illustration does not account for any fees, charges or taxes.
2. Apply rigor and discipline to saving.
If all your Millennial can save to a retirement account is 3% of their income, they should do it, and bump it up 1% every year thereafter until you reach an IRS-mandated maximum (currently $18,500 per year for 401(k)s for those under 50; however, they’ll want to keep abreast of how this maximum may change over the course of their working years). Incremental steps make a huge difference over the course of 30 to 40 years.
There will be periods when they have to back off on savings, but with rigor and discipline, they can build back to the goal.
3. Build an emergency fund for unforeseen events.
Best practice is to keep six to nine months of living expenses in a savings account. If you don’t have an emergency fund, you could be forced to rely on high-interest-rate credit cards, take out a loan or tap your retirement account when the unexpected strikes.
You never know when you might lose your job, have a health problem, need an expensive car repair or any other unexpected big expense.
4. Spend within your means, not your dreams.
If your kid can resist the fancy cars and McMansions, they’ll be able to fulfill these dreams down the road. Delayed gratification is very important!
5. Recognize life has relentless bouts of healthy friction.
Do we take that vacation this year, or save more for retirement? Everyone needs a healthy balance between living their life today and planning for the future.
6. Protect your family adequately with life and disability insurance.
Term life policies for 20-somethings are incredibly inexpensive. Your kid should consider purchasing a 30-year term policy providing $250,000 to $1 million of death benefit, and if their employer offers disability insurance, they should take it. If the employer offers extra, they should purchase it.
No one is bulletproof, and a term life policy purchased now, when your Millennial is young and healthy, can help support their family’s finances in the event of the unthinkable — especially if they’re considering starting their own family in the next few years.
7. Invest heavily in stocks when you’re young.
When the market is down, it is on sale. They must be patient and remind themselves that every contribution they make is purchasing shares on sale. If you go to your favorite store and everything is 50% off, do you buy? Of course! It’s your favorite store! Your kids should look upon investing the same way.
That said, knowing which stocks to buy in this scenario can take a level of time and sophistication most of us simply don’t have. Your Millennial should take advantage of the target retirement date mutual funds offered by many employer-sponsored retirement plans, which take the guesswork out of what to buy and when.
8. Nurture your career.
The best way to save for the future is to get promotions and raises. When your kid gets a raise or promotion, they should devote some of the increase to a long-term plan.
For instance, if they get a 15% raise via a promotion, they should apply 5% of that raise to an increase in long-term savings — and enjoy the other 10%.
9. When you have a cash flow improvement, approach it with thoughtfulness.
As an example, let’s assume a car loan is paid off, freeing up $250/month of cash flow. Most people do nothing, and it is like a glass of red wine in the financial bloodstream. Your child should think through how some or all of that improved cash flow can be strategically deployed for long-term savings, additional debt reduction or both.
10. Establish a goal for a savings rate and a long-term nest egg.
I suggest young people endeavor to save 15% of their income for long-term retirement. That is the here and now. The long-term goal is for them to save eight to 12 times their pre-retirement income for retirement. Therefore, if at 60 they’re making $50,000 annually, by then, they should have a $400,000-$600,000 nest egg.
Developing healthy savings habits is not the easiest of tasks, but with guidance and support from loved ones, your kids can set themselves up for success. It’s worth taking the time to sit down with them now, just as they’re getting on their feet, to set them on the right path.
Jamie Letcher is a Financial Adviser with LPL Financial, located at Summit Credit Union in Madison, Wis. Summit Credit Union is a $5 billion CU serving 176,000 members. Letcher helps members work toward achieving their financial goals and through a process that begins with a “get-to-know-you” meeting and ends with a collaborative plan, complete with action steps. He is a member of FINRA/SIPC, a registered broker-dealer and investment adviser.
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