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Investing in Your Future

By Aimee Whitenack

Managing your money wisely during your twenties can make a remarkable difference in the long run.

"To put things in perspective: If you put $2,000 in your Roth IRA for the first 10 years of your working life and then never contribute again, you will be able to retire at the age of 60 with between $500,000 and $1,000,000 in your Roth IRA."
We know that paying your monthly rent on time can be a daunting task, let alone thinking about investing for your kids' education (kids?!), but we also know (because we've been told as many times as you have) that managing your money wisely during your twenties can make a remarkable difference in the long run. To learn the nuts and bolts of post-college money matters, we turn to Art Yasuda, a senior vice president at the top-tier investment bank Donaldson, Lufkin, & Jenrette (DLJ).

First: The Budget

Yasuda says that every young professional should sit down, preferably during their first year of work, and figure out a budget. You probably have a pretty good sense of how to work out a budget. How much do you pay for rent? Electricity? Dry cleaning? These are all monthly expenses, but don't forget about annual expenses as well (e.g., car insurance, holiday shopping, student loans, or magazine subscriptions). How much are you realistically going to set aside for entertainment and leisure activities? Yasuda points out that it's important to allow yourself to spend money on your social life, just be sure to stick to the budget. If you blow an entire month's entertainment allotment on one fancy dinner, for example, you'll have to pinch some pennies and pack your lunches for the rest of the month. On the flip side, if you set some money aside for these activities, you won't have to feel guilty every time you buy a beer.

Add all of these expenses together and subtract this sum from your after-tax income. Yasuda suggests that you then put some of the remainder (hopefully there's a remainder) aside in a savings account for emergencies. The money that is THEN left over is what you have to invest. So where do you put it?

A Roth IRA
Yasuda says that THE BEST thing a recent college grad can do is to start a Roth Individual Retirement Account (IRA). You can put a maximum of $2,000 into a Roth IRA annually. The advantage of the Roth IRA versus a traditional IRA is that withdrawals can be made completely tax-free once you reach age 59 1/2. The contributions you make to your Roth account will be taxed up front. Because it is probable that you'll be in a higher tax bracket when you reach retirement age, you will stand to save a substantial amount.

To put things in perspective: If you put $2,000 in your Roth IRA for the first 10 years of your working life and then never contribute again, you will be able to retire at the age of 60 with between $500,000 and $1,000,000 in your Roth IRA (assuming a rate of return between 10.5 and 12 percent). A 40-year-old who contributes $2,000 for 20 years won't end up with this much money.

Though smaller investment firms and local banks will be able to open a Roth IRA for you, Yasuda suggests working with a large brokerage house or commercial bank because there is much less risk that a large company will shut down. Keep in mind that the financial calendar ends April 15th, but the earlier you put in money, the more time your investment has to grow.

A 401(k) Plan
If you have some cash left after putting your annual $2,000 in your Roth IRA, Yasuda says the next stop is a 401(k) plan. Many employers offer 401(k) plans in which they either match your contribution or match a certain percentage of your contribution. With a 401(k) plan, you decide what percentage of your paycheck you want your employer to withhold and invest in the 401(k). The advantages of a 401(k) are twofold: first, if your employer is matching your contribution, you are essentially receiving "free money"; second, even if your employer does not contribute to your plan you should still invest in it because your investment is deducted from your pre-tax income. For example, if you earn $30,000 and you put $5,000 in your 401(k), you will only pay taxes on the $25,000.

Most employers give you investment options for your 401(k), such as a fixed income fund, a money market fund, or a variety of equity funds with different risk exposures. Yasuda encourages anyone with little investment experience to choose a broad mutual fund, such as an S&P(r) 500 Index fund or a Vanguard 500 Index fund. While it may sound like more fun to invest in or your buddy's new start-up, it's much wiser to begin with the general equity fund and learn as you go.

Two more things to know about the 401(k): 1) If your employer does not offer a 401(k) plan, you can still start one with any major brokerage firm; and 2) Your 401(k) plan can easily be transferred if and when you switch jobs.

And Lastly...
If you still have some money floating around (can we have your job?) Yasuda suggests going to a large brokerage house and, once again, investing in a well-known mutual fund. You can track the stocks within the fund and build the knowledge and experience you need to start purchasing individual stocks. Keep in mind that an income fund is more conservative and will provide you with steady earnings, and a growth fund, while a bit more risky, is likely to give you greater long-term growth. Yasuda would point a young investor to a growth fund, and says that you should not be nervous about approaching a brokerage firm with too little money.

Also, if you want to set aside a small percentage of your money to dabble in online investing, just make sure it's money you can afford to lose and consider it an educational experience. If you want the educational experience without the risk of losing your hard-earned cash, check out the Fortune Stock Tournament. Along the lines of a fantasy football league, the Fortune Stock Tournament gives you $500,000 worth of pretend money to invest in a variety of stocks. Another helpful learning tool can be found on Yahoo!'s finance page. Just look up any stock and then, under "More Info," click on "Msgs," which is a message board that professional and amateur investors alike use to discuss the stock. Though the information posted cannot be substantiated, you can learn a great deal about how people invest and what they look for simply by reading along. For additional information on general investment strategies, we suggest the Education, Planning, and Advice section of The Vanguard Group's web site.

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