The most gratifying e-mails I receive are from readers who tell me they gave a copy of one of my books to their children “so they won’t make the mistakes I made.”
Investing and financial planning are not complex. If we want to impact the next generation, we need to give them a plan that’s easy to understand and simple to implement.
Here’s my contribution.
Get ready to invest
Sound financial planning should start as early as possible. Tell your children not to rush into investing. They need to first deal with these issues:
Pay off debt: Student loans should be paid off, in full, before investing. Eliminate all credit card and other debt as well. The only acceptable debt is a mortgage on a primary residence.
Accumulate cash reserves: You children aren’t ready to invest until they have accumulated 6-12 months of living expenses. These should be deposited in an FDIC insured savings account.
Buy insurance: If others depend on their income, they need to purchase low cost term life insurance and disability insurance before they start investing.
Here’s the most critical rule for retirement planning: Invest a minimum of 15% of your net income, as soon as you are ready to start investing. Do so every time you get paid.
For many, the only investment you’ll ever need is one of Vanguard’s Target Retirement Funds. Consider the fund with the date closest to your projected date of retirement.
I recommend Vanguard’s retirement funds because the underlying funds are all index funds and they have a very low management fee, averaging only 0.13%. The industry average for comparable target date funds is 0.50%. There’s no reason to pay more for what’s likely to be lower returns.
For pre-retirement investing: Invest the maximum (currently $5500 a year for those under age 50) in a traditional IRA. Do so every year.
If you qualify for a Roth IRA, divide your investment so that you’re investing 50% in a traditional IRA and 50% in a Roth IRA every year.
If your employer matches your contribution to a 401(k) or similar plan, invest the minimum necessary to obtain the maximum corporate match. If your plan offers target date retirement funds, and if those are suitable for you, invest 100% of your funds in the target date fund with the lowest expense ratio.
If Vanguard’s retirement date funds are suitable, put 100% of your after-tax investments in the fund with a date nearest to the date of your retirement. Otherwise, consider the 3-index fund portfolio I write about in this blog.
Securing the financial future of your children isn’t difficult, but it takes discipline and some minimal knowledge.
Resource of the week
I recommend Taylor Larimore’s short book, The Boglehead’s Guide to the Three-Fund Portfolio.