retirement

Today is the second post in the financial sustainability series that I’m working on.  Yesterday was goals and budgeting and can be viewed here.  Today is on to banking basics.  I felt the need to do a post about what some may find basic knowledge because of quite a few things:

1. Its surprising how many people dont know, and are afraid to ask
2. The fact that I have never had formal training in the subject (from other than my parents and what I have read on personal finance blogs

So, now begins the money that I spent today.  So far, it’s 28 dollars, because the car needed a fill up.  This is about a 1 time per week expense, and I was ready for it.

So here are your basic account types.  I decided to break these into temporal groups because I thought it would be an interesting representation of the accounts available to you (my readers).

Accounts for Today:

Checking: This is the account for many peoples day to day purchases.  Many people have an associated debit card, a check book, and have a high transaction volume from this account.  Things to look for in a good checking account include:

• no fees: banks charge atm fees when you use an out-of-network atm, along with the associated cost of the atm.  This may not matter to some of you, but if you make a $20 withdrawl and have to pay both fees, that could be $4 (or more!) and represents fees of 20%!!!
• service and other fees: these can quickly eat into your monthly checks.  make sure to keep these to a minimum
• interest:  some banks will pay you interest (typically a small sum) if you have a certian amount in your account at all times.  As my dad would say “it may not be much, but it’s better than a sharp stick in the eye”
• Free Online Bill Pay: for us here at the sustainable life blog, this one’s a biggie.  I have been paying my bills online for quite sometime, and have rarely had problems that were not of my own doing.  Online bill pay reduces waste in a number of categories: fuel and gas emissions of postal trucks that send the bill both directions, cost of a stamp, time between money spent and the charge on your account, and it saves paper if your statements/bills are all produced online.

There are multiple “green” checking accounts available if you wish to go that route.  This one from the Home Savings Bank offers the following features

• e banking, online bill pay, electronic statements and checks printed on recycled paper, among other things.

Savings: These accounts typically pay interest and are used for saving your money.  Many people have multiple accounts, dedicated to saving for a big purchase (car, new tv, etc) or an emergency fund.  Moneies in this account are liquid and easily accessable when needed.  Currently, the interest rate on most accounts is low, hovering around 1.5%.  While not as high as it used to be, it’s still better than nothing.

Accounts for Next Year

Savings accounts, once again.  However, if these accounts are for specific goals, make sure that you evaluate and put a time on your goal.  An example would be: “I’d like to have 25,000 saved for a downpayment on a home I would like to purchase in 5 years.” this means you need to save 5,000 per year.  This should be seperate from your other savings accounts, as it has a defined goal and end date.

Certificates of Deposit (CDs): These accounts typically work the same as a savings account, with the exception of liquidity.  The bank will hold your deposit for a given amount of time from three months to five years.  When it comes due (matures) you will recieve a certain amount of interest.  Typically these are higher than savings accounts, but due to the economic conditions, its pretty close.  Same as jumbo CD’s, except jumbo cds involve large balances (typically >100k)

• Benefits of CDs – You know exactly how much money you will have when it comes due and you will get a better rate than a typical savings.
• Drawbacks – most banks charge a penalty for early withdrawl

Bonds: These are similar to cds, except they are sold by municipalities and other types of governments to finance community projects suchs as roads and water treatment.  The following is from wikipedia: bond is a debt security, in which the authorized issuer owes the holders a debt and, depending on the terms of the bond, is obliged to pay interest (the coupon) and/or to repay the principal at a later date, termed maturity. A bond is a formal contract to repay borrowed money with interest at fixed intervals.

Accounts for a long time from now:

These accounts are all different types of retirement and college accounts.  Each come with their own tax benefits and drawbacks, and some are better suited to your needs than others will be.  Make sure that you understand the benefits and drawbacks before investing in these accounts.

529 Plans: These are plans for qualified educational expenses.  They offer federal and state benefits and have a very high contribution limit (300k in some states).  Most states have plans, although some (like wyomings) are managed by an outside source.  These plans are typically set up for children, but if you are considering going back to school or earning an advanced degree, you can set up one for yourself.  Withdraws are not counted as parent income, an assist for those who are currently filling out the FASFA forms.

Coverdell ESA: ESA Stands for education savings account, and has a contribution limit of 2,000 per year per child.  Your after-tax monies will be deposited in an account and grow until it is withdrawn, also tax free.  The account will need to be used by the time the beneficiary (child) is thirty, or you’ll have to face Uncle Sam.

401(k): A retirement account named for the tax code that permits it.  An employee to save for retirement with pre-tax dollars.  The money in your 401k is staying put until you reach a certain age (70 1/2), when your forced withdraws begin.  Now, I know you’ve been wondering when your favorite uncle (sam) will get his cut, and it comes on withdraw from your  401k.  This plan is similar to 403b plans (for educational employees, churches, hospitals and non profit organizations) and 457 plans (for state and local government employees).  The tax savings are the benefit of this plan.  Maximum contribution is 16,500 per year.  This does not include your employers contribution, which is maxed out at 49,000.

Roth 401(k): A new type of investment that was allowed by congress in 2006, combining the roth (post-tax) portion of an IRA and a traditional 401k.   Funds in these accounts can be made by post tax dollars, as opposed to pre-tax dollars with the traditional 401k.  This type of plan offers tax benefits, praticularly for younger workers who plan on being in a higher tax bracket when they retire.  They also offer significant contribution benefits.  The maximum for this account is 16,500 dollars per year, and includes your traditional 401k.

403(b): This plan is the 401k plan for public employees, as noted earlier.  Also has been given a roth option for employees.

457: Pre tax contributions for the plan, a government version of the 401k.

Stocks: A share of ownership in a company.  Traditionally the stock market has provided a return of about 7% per year, however many people are shying away from the market currently, due to the large drops from peak in October, 2007.

Pension: Otherwise known as a defined benefit plan.  Companies pay employees who are no longer employed by the company.  Employees and the company pay into this plan, and get benefits upon retirement.  Benefits are typically not defined by contributions, but by years of service with the company.  These plans are no longer common.

Social Security: Im not counting on this to be around when I retire, and I personally believe no one younger than me should, and people 5 years older than me should either (im 24).  Unless there are changes to the program, they are going to run out of money.

Roth IRA: Established in 1997, championed by Senator William Roth of Delaware.  Allows post-tax dollars to be invested in stocks, securities, bonds or other vehicles. The main advantage is the tax structure, however the benefits are limited by congress.  Distributions can be taken before age 59 1/2 as long as they are qualified (for a first home, or other deductions).  Investments for this account are limited to 5,000 per year or 6,000 if aged 50 or more.

Traditional IRA: Similar to the traditional 401k.  Money is deposited pre-tax, and grows tax deferred until retirement.  Distributions are counted as income upon withdrawn at age 59 1/2.  Investments for this account are limited to 5,000 per year or 6,000 if aged 50 or more.

So, use this to ensure that you are saving your money for the future.  There are many different types of accounts to use, make sure you pick the one that suits your needs best.  In the future ill be going over how to use these accounts to the maximum.

Questions? email me at info@sustainablelifeblog.com

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