If you’re in your 20s or 30s there’s a strong chance that you are getting puny paychecks that never seem to stretch far enough, and you may look at everything your baby boomer parents have and wonder if you'll ever catch up.
But that doesn’t mean you’re going to feel poor forever.
As a generation, millennials are earning 20 percent less than baby boomers were making in their late 20s and early 30s, according to a recent analysis of federal data by Young Invincibles. And today’s 25- to 34-year-olds have only half the wealth that baby boomers had at the same age. In other words, today’s young adults have less savings, fewer homes, cars, businesses and other assets, plus much more student loan debt.
But millennials can build their wealth, even though they may be starting with less, if they are intentional about handling money. With less pay, and the likelihood that it won’t escalate the way baby boomers’ did over time, today’s young adults don’t have the cushion to be sloppy about money decisions.
–Saving. Many baby boomers weren’t great savers. About 43 percent are not going to have enough money for retirement, according to the Center for Retirement Research. But millennials – since they are coming from behind – will be especially vulnerable if they don’t start saving for the future in their first jobs.
Despite the wealth baby boomers have accumulated as a generation, too many missed the golden opportunity people have in their 20s. Boomers would be on their way to having $1 million for retirement if they’d simply put $25 a week into a stock market index fund in their 401(k) at work or an IRA retirement savings account starting with their first job, and kept it up.
Yet, most millennials don’t realize that if they wait until their 30s or 40s to begin saving, they'll have much less in retirement. A person who skips saving $25 a week on the first job, and waits until 35 to start, will need to save more than $100 a week to end up with $1 million. That assumes a stock market index mutual fund investment averaging 10 percent a year. Notice $1 million isn’t as huge as you might think. In retirement it will provide just $40,000 a year to cover living expenses.
Jaclyn McClellan, 25, and a financial analyst for the American Association of Individual Investors, worries about her millennial peers. They don’t think they can save because they have student loans, and they “say their paperwork for 401(k)s is too confusing,” she said. “But that’s not an excuse.”
“Say you are 23 years old and make $50,000 a year,” she says. “If you save 10 percent of your salary that year in a retirement account, you will be saving $5,000. And by the time you retire in 42 years, that $5,000 will become $85,721 if your money grows at 7 percent annually, which is not unreasonable to expect in a total stock market index fund. That $85,721 isn’t fake. You wouldn’t have it if you didn’t save at 23.”
Financial planners urge millennials to save 10 percent a year for retirement, starting with their first job. “If you do it automatically and never see it, you don’t miss it,” said McClellan. Yet, if you are terrified about 10 percent, start smaller but don’t miss a penny of the free money your employer will give you if you put money into a 401(k) at work. Often if you put 3 percent of your pay in the retirement plan, your employer will match it. In total, you will be saving 6 percent of pay. Then write yourself a note on the calendar to re-evaluate in six months. If you are paying your bills and having some fun, go to your 401(k) website or benefits office and start contributing 4 percent of pay. Keep upping the percentage every few months, especially as you get raises.
Remember, saving is a requirement; just like paying rent or utilities. When you save only what’s left over those leftovers never appear, even if your income is high. Baby boomers made the error of waiting for leftovers.
Confused about where to invest your savings? Choose one of the retirement funds set up specifically for someone retiring around the same time you plan to retire, or ask for what’s known as a “balanced fund.” If you don’t have a 401(k), go to a low-cost mutual fund company like Vanguard, Fidelity or T. Rowe Price, open an IRA and route money from every paycheck there.
▪ Buying cars. Although some millennials have caught on to the way car payments, insurance, gasoline, licenses and repairs and tires can drain away paychecks, others make the mistake of paying too much for cars and leaving themselves no money each month to save.
You may need a car for transportation, but cut back on the dream car if payments will consume so much of your pay that you can’t cover housing costs, food, insurance, clothes, utilities, other necessities and routine saving.
And make sure you consider the total cost of your car – monthly payments on the loan, plus the extras like car insurance and gas. As a rule of thumb, keep monthly car-related costs to no more than 10 percent of your monthly gross income. This calculator will help you envision the entire package of costs www.edmunds.com/tco.html and this will give you an idea about what you can afford www.edmunds.com/calculators/.
Don’t extend the length of your loan so you can make monthly payments affordable. Keep the loan to five years so you aren’t stuck making payments when the car is old, needs costly repairs, and it’s time to buy a new one.
▪ Renting or buying a house. After the housing crash and Great Recession of 2008, millennials are skeptical of buying homes as an investment. They realize, correctly, that homes do not always increase in value, although over many years they have appreciated slightly – a little over a third of a percentage point – over the rate of inflation, according to economist Robert Shiller.
But whether a person buys a home or rents a home, keeping monthly payments on a 30-year fixed rate mortgage within a manageable level is crucial. The rule of thumb is to spend no more than 28 percent of your monthly gross income each month. This calculator will help: http://money.usnews.com/money/personal-finance/articles/2012/03/29/are-you-in-over-your-head
Living within the 28 percent limit is especially important if renting because you won’t be building up any equity the way you may if you buy a home. To decide whether to buy or rent, try this calculator: www.calcxml.com/calculators/rent-vs-buy-home
Gail MarksJarvis is a personal finance columnist for the Chicago Tribune and author of “Saving for Retirement Without Living Like a Pauper or Winning the Lottery.” Readers may send her email at firstname.lastname@example.org.