My mission is to spread financial literacy and since this is the season of graduation speeches, I am sharing 10 tips for new graduates that will help them achieve financial independence. You might be wondering why you need to worry about being financially independent so early in your working life. As these tips will show you that time is your best friend in this journey. The earliest you get this snowball rolling, the easier it gets for you. So here I go with my 10 tips for new graduates.
- When you get that first job, use a paycheck calculator to figure out your take-home pay. For example, if your job pays $60,000 per year, that doesn’t mean that you will be taking home $5,000 every month. A big chunk of that paycheck will go towards taxes and other deductions. Find out approximately how much your paycheck will be to track your spending so that you can follow the next tip.
- Use the 50-30-20 rule. This means that you should not spend more than 50% of your take-home pay on fixed expenses (needs), 30% on your variable expenses (wants) and save at least 20%. So when you are about to rent an apartment, buy a car or make any big ticket purchases, make sure that you will be easily able to make those payments within the 50-30-20 rule.
- Pay off your debt as soon as possible. In general, any loans that carry a double-digit interest rate can severely damage your path to financial independence. A low-single digit interest rate (home mortgage) is okay but stay away from other high-interest rate loans like credit card debt or personal loans.
- Participate in your 401 K plan to get the full-employer match. If you are not contributing enough to get the full employer match, you are leaving money on the table. This is free money. Once you have your 401 K plan, make sure to check that this money is invested the way you want it to be. In general, passive index funds are the best choice for these types of investments.
- Open a Health-Savings Account (HSA) if your employer allows one. This is the best retirement account because your money is never taxed in this account and you can use this account to pay for health-related expenses even after you retire.
- Open and contribute to a Roth IRA account as soon as possible. Even with a modest salary, you will save hundreds of thousands of dollars in taxes over your lifetime with this account.
- Work on building an emergency fund so that you can start investing as soon as you can. Here are two rules that will help you in this path
- Any money that you need in the next 2-3 years should not be invested in the stock market. It should be part of your emergency fund, preferably in a high-yield savings account.
- Any money that you do not need in the next 2-3 years should not be in your checking or savings account. It should be invested.
By spending about 15-30 minutes per month on tracking your spending, you should be able to figure out how much money is needed in your emergency fund and how much money do you have to invest.
8. When you get a raise and you will get several of those in your career, take 50% of that raise and apply that towards your savings and investments and use the other 50% towards your lifestyle. This will help you to increase your savings rate and you will get to financial independence faster.
9. Time and compound interest are your best friends and will help you achieve financial independence as soon as possible. Consider this example:
A 25 year old making $50,000 per year invests 10% every year for 40 years. Assuming a 9% return, she will accumulate about $2,000,000 at the end of 40 years.
Now assume, she misses the first five years because she got started late. In this case, she will accumulate about $1,286,880 (short by about $700,000).
What if she started 10 years late. She will get to $815,000 (short by about $1,200,000).
Another way to look at this.
10. If you follow these tips and depending on your savings and investments rate you will realize that after some time, the returns from your investments will be more than your annual salary. This is the point of financial independence and at this point your money is working for you. Don’t disturb the compounding clock and stay invested.
Graduation ceremonies are called Commencement because it is a new beginning of your life and your career. As you get started on this path, I hope these tips will help you in achieving your goals. If you enjoyed reading this, feel free to share it with someone who will benefit from these tips. Got any more tips to add to this list? Feel free to comment below.