How to Afford Your Social Life

 

Hi, readers!

I spent my leanest years in some pretty rockin cities, and I didn’t let a shortage of cash get in the way of my social life. There are lots of ways to have a really good time without spending too much money- you just have to be clever about it. Here are my best tips about having an amazing social life while not going broke.

Keeping food/alcohol bills low

  • look at the menu before you agree on the restaurant. If you can’t afford it, suggest an alternative
  • sign up for Open Table and then make reservations for the group. You can earn dining points which add up to a free dining check when you have enough points.
  • pay attention to food costs- soups, salads, appetizers, sandwiches, hamburgers and pizzas are usually cheaper and can be as filling as an entrée. I can’t even remember the last time I could finish a whole restaurant hamburger, so there is lunch for tomorrow, too!
  • don’t drink to excess- learn to nurse your drinks. Alternating alcoholic drinks with nonalcoholic drinks will cut your bill in half, and you will feel better the next day.
  • cocktails are (almost always) more expensive than wine, wine is usually pricier than beer, and craft/imported beer is usually more expensive than domestic beer. Think about how much you plan to drink, and order accordingly
  • look for happy hour/appetizer specials
  • try to get separate checks when in a large group- no one intends to short the bill, but even though you would like to believe your friends all know how to add….evidence has shown time and time again that they can’t. Avoid the stress when possible.
  • avoid the extras- skipping an appetizer, dessert and beverage can cut your bill in half
  • eat before you meet your friends and then order something small or just a drink
  • look for Groupons or livingsocial deals for the restaurant you are eating at

Instead of going out, host at home

  • potluck dinner parties are an inexpensive way to enjoy meals with friends
  • having a barbeque and asking everyone to bring their own item to grill is another alternative
  • learning to make fancy cocktails at home is much more affordable than ordering them at bars
  • soups, tacos, vegetarian dishes and egg-based brunch dishes are inexpensive ways to feed crowds
  • ask guests to BYOB for dinners or house parties to keep your alcohol costs low
  • host a movie night with frozen pizzas, beer and popcorn to save on theater costs
  • game nights are a great way to spend time with your friends without spending a lot of cash. I especially like winter game nights because I never feel like getting dressed up for cold weather and then navigating bars with a coat.
  • if your house isn’t available for hosting, consider hosting picnics in public parks (check local laws before bringing alcohol)

Check out what is happening on weeknights

  • There is usually great local music available with no cover when you go mid-week.
  • Sometimes clubs/bars will have midweek theme nights (ie, Tuesday Funk Night, Thursday Line Dancing) that you don’t have to pay a cover for. They can be more fun than weekends!
  • If you have clever friends, check out trivia nights. Trivia is fun, and the prize for winning is usually money off of your bill. Less popular trivia nights= more chances of winning for you!

Getting around

*Don’t ever compromise your safety or the safety of others to save money. DUIs are expensive, hospital bills are expensive, car repairs are expensive, increased insurance is expensive, getting your car from the impound lot is expensive…and there is a lot more at stake than just money. Spend the tiny amount of money for a cab, choose a trusted designated driver before you leave home, or don’t drink. That is what adults do.

  • being the designated driver will save you cab fare and a bar tab. Often bartenders won’t charge for nonalcoholic drinks if you tell them you are the designated driver (don’t forget to tip)
  • if you know you will need a cab, consider taking public transportation there and then a cab home
  • sharing a cab will keep costs low
  • if your city has Lyft or Uber  you can usually get less expensive rides than a typical cab, and they often offer promotions.

General tips

  • If you take charge of planning events, you will have more control over how much you (and the rest of the group) spends
  • Keep an eye out for free community events- concerts, outdoor movie screenings, festivals

The point of having a social life is to enjoy time with your friends, and it should never make you go broke. Follow these tips, stay safe, and have fun!

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Paying for a Gym Membership

I am a yoga addict. The benefits are plentiful- increased flexibility, lower stress levels, great strength training, better body awareness…I’m obsessed! (Just ask my poor boyfriend: every time he has an ailment I tell him that yoga will fix it).

Downward dog is wonderful, but paying $20 per drop in class is not. I find that paying for a month up front isn’t a better deal either- I just feel stressed about not going enough and wasting my money, and more stress is not what yoga is for! But I do believe that physical fitness is an area that it is worth spending money on, if it makes you more likely to stick to healthy habits. I sometimes do free yoga podcasts at home….but by “sometimes” I mean it’s happened twice in the past year. Evidence shows the free version is not going to work for me, so it is worth it to spend a little money to help me keep up with yoga.

Compounding the conundrum is the fact that getting to the nearest yoga studio would add an hour to my workout every time I go (car free living has a few downsides). I usually don’t have a spare hour in addition to my yoga time, so the chances of me going to that studio are slim….what to do?

Luckily, there is a gym on my block that has a few yoga classes each week. The gym itself isn’t especially appealing to me (rows of machines to help you exercise….I’d rather be outside!) but the unlimited yoga for a relatively low monthly rate is just what I’m looking for.

So I stopped into the gym and asked about their rates. This gym’s claim to fame is that if you pay an up front fee, you don’t have to sign a contract. You pay a month-to-month rate, but you can quit at any time. This sounded pretty reasonable to me, because I do know that unused gym memberships are a major way that Americans waste money. I also found out that there is a plan where I could pay a slightly lower monthly rate, but I would have to commit to a year. Here are the options:

  • Pay $99 up front and then pay $35 a month for as long as you want to be a member. No commitments here!
  • Pay $360 for the year (which comes to $30 per month)

Because I am me, I decided to crunch some numbers. I have already decided that I miss going to yoga, and I am going to spend some money to bring yoga back into my workout routine. Drop-in classes at the near-ish yoga studio are $20 each (and not as convenient). Do I want to keep it flexible (yuk yuk) and not commit? Or should I spend $360 up front?

Check it out:

Months Gym with no contract Gym with year commitment
1 $134 $30
2 $169 $60
3 $204 $90
4 $239 $120
5 $274 $150
6 $309 $180
7 $344 $210
8 $379 $240
9 $414 $270
10 $449 $300
11 $484 $330
12 $519 $360

At no point is joining the gym without a contract cheaper on a per-month basis. The first month alone costs $134!!! (6.5 drop in classes!!!) If you quit the gym any time before 7 months of membership, you will have paid less than the $360 needed for a year’s membership….so technically you would be saving money, but you also would have been paying a much higher rate for those 7 months ($50 a month!). After 7 months of membership, you are just plain overpaying! What might seem like a good deal at first (no commitments! How appealing!) is actually just a scheme to keep you from realizing that paying for 7 months of “no commitments” will cost you the same as 12 months on a contract…and signing a contract is like getting 5 months of gym time free!

I decided that the $360 up front is the best deal for me. $360 is the equivalent of 18 drop-in classes at the near-ish studio- so if I go to 1.5 classes a month (3 classes every two months) I will be breaking even. I try to go to yoga more than 3 classes every two months, so I think this will be the best choice. Now, off to get my downward dog on!

 

Money and Relationships: My Squeeze and Me

As my loyal readers will know, I moved in with my main squeeze two months ago. It has been just lovely, but it did bring up some new areas of discussion. We are not just roommates, but we are also not married and do not have legal rights to each other’s property. We aren’t ready for joint accounts yet, but we do have a lot of joint expenses. The bills at his/our place are a little higher than what I was paying before, but it is also a much better location and has a number of perks (like I get to live with my dreamy boyfriend).

Figuring out how we wanted to handle money together is not always easy, but we have had some good compromises and hopefully have figured out a system. It has been pretty pain free. (Ok, let’s be honest…it has been pain free for me because I love personal finance, but D does not love talking about money with me and I can see him squirming every time in bring up the subject with my excessive enthusiasm.)

So to give him a break from squirmily discussing our money, I will tell you all about the system we came up with:

-We set up a private googledocs spreadsheet (a la Lionel and Wilhemina) to track all of our mutual expenses. We put the receipts in a clip on the fridge and/or check our credit card statements, and fill in the spreadsheet each month. Whoever ends up having paid less writes a check to the other and then we start a fresh page of the spreadsheet.

-D is responsible for paying rent and utilities on time, because he lived here first so he already has the accounts set up in his name. We enter it in the spreadsheet and it goes into the overall expenses for the month.

-We pay the bills according to our take home pay. D makes a bit more than I do (but I negotiated my salary very successfully, I’m sure I’ll catch up soon!) so he pays a little more of the bills each month than I do.

We had a big discussion about whether we should divide the bills based on our take home pay or our pre-tax salary (aka, the number they tell you you are making when you get the job, not the amount you get on your actual paycheck). I contribute to my retirement accounts and my flexible spending healthcare account before I get my paycheck, but D is one of the lucky few who will get a pension when he retires, so he doesn’t contribute to a retirement account or a healthcare account.

I thought that I should be contributing based on our pre-tax amounts, because only I am benefiting from my healthcare account but (depending on our future together) either we both will benefit from my retirement savings, or just I will. D wanted to split bills based on our take home pay because he wanted to make sure I had enough to live on without feeling pinched.

It might seem a little ridiculous to be worried about this type of question because it doesn’t actually come down to very much money, but it it is important in our relationship that no one feels they are taken advantage of. This means that neither of us feels like we are paying more than we should, and neither of us feels like we always take out the trash.

Because we don’t know for sure where our futures will end up, it is hard to make decisions that deal with long term financial planning (like will D benefit from my retirement savings in 35 years? Hard to say.) It is difficult to be exactly fair with planning finances now, so we are doing the best we can and making sure we talk about it and we both agree.

-We have also started talking about long term savings goals together. We discussed the amount we are each putting aside (in separate savings accounts) for our savings goals, and we are in agreement on our savings priorities.

-I recently read that you should divide up tasks based on who is better at what in a relationship. In our case, that means I do most of the household shopping because I am a coupon rock star ($38 for $106 worth of home goods today, what what). He is an AMAZING planner, and he is great at taking advantage of Groupon deals and planning sweet dates and activities.

 

Our joint financial planning has just started, but I suspect it won’t be difficult to keep openly compromising. We created a system together, and if it doesn’t work, we will scrap it and create another system together. What is really important is communication, common goals, and that we care about each other more than we care about money. (Vomiting yet? Sorry not sorry!)

 

Paying for a wedding

Not in love? Not engaged? Not even dating right now? Living on a desert island with no hope of meeting someone you want to marry?

This post is for you.

The average age that women marry is 27, the average age that men marry is 29. The median cost of a wedding is $18k. (The average cost is $28k, but the VERY expensive weddings out there skew the numbers for the rest of us).

The number two reason for divorce is trouble with finances.

If you start your marriage off with $18k of debt, you are starting your marriage off on rocky ground.

Now, I am not a wedding planning expert. I have never been engaged and I have never planned a wedding (but I do watch a lot of Bridezillas, guilty pleasure). From what I understand, weddings very quickly escalate to being out-of-control expensive, even if you are still keeping things simple and aren’t a bridezilla. So while there are some things you can do to save money, I am not the person to lecture future married people on how to do it. (Except for my sister’s wedding we bought 12 vases from Goodwill for $4 total for centerpieces! Goodwill is an amazing place to buy vases. That is my only trick. And also if you are a bridesmaid, you should look at this website to see if you can buy/sell your bridesmaid dress, because really….you won’t wear it again and someone else can.)

There are a few ways to pay for a wedding:

1. Her parents pay

2. His parents pay

3. Marry rich and your squeeze pays (word of warning: my mom always says it is cheaper (in many ways) to borrow money than to marry for it)

4. Win the lottery

5. Start your married life off with lots of debt

6. Plan for it

I hope you know me well enough that I am going to encourage strategy 6.

Strategies 1,2 and 3 are all things that may reasonably happen….but as a full-fledged adult, it isn’t smart to expect your parents to foot the bill, and I have already shared my mom’s wisdom about marrying rich.

So as an independent, financially savvy adult, you must PLAN for how to pay for your wedding!

Now, this may be less than appealing. Why would you start saving for your wedding when you are still in the OKCupid-induced “I wasn’t sure whether to laugh, cry or run” phase of your dating life? Because you are smart. And you know $18k doesn’t grow on trees. And one day you want to have a wedding with an open bar. 80% of people get married by the age of 40, so statistically speaking, you will probably be one of those people. (No pressure, I’m just reporting facts here).

Here is a hypothetical timeline:

Age 23: Go on date with man who tells you he used to have pet rabbits but he accidentally drowned them.* Swear off of dating forever.

Age 25: Meet man who makes you laugh.

Age 25.5: Begin to suspect that the man who makes you laugh might be the man you want to make you laugh forever.

Age 26: Get engaged.

Age 27: Get married. Have open bar at wedding.

So when should you have started saving for this awesome wedding? Well, it depends on the other factors in your life. If you are having trouble making rent, you need to focus on taking care of the basics. If you are taking care of paying your bills, paying off debt, building an emergency fund and saving for retirement and you still have some disposable income- you can add saving for your wedding into your budget.

If you recall from my amazing post about Billy and Lilly, they saved as though they were still saving for their emergency funds. This is actually the most painless way to save for a wedding- after you have your emergency fund set up, keep saving at that rate until you have set up a wedding fund. You won’t even miss the cashola, because you weren’t used to spending it anyway!

If you feel like one day you are going to get married it is wise to start planning for that financially. You might want to save on your own, if you aren’t sure about who exactly you are going to want to marry (this is very smart but it is not very smart to mention your wedding savings plan on a first date…I would keep it under wraps, if I were you!) or you might want to start saving as a couple. (If you save as a couple you can each save $9k and take some of the pressure off!) One benefit of a long engagement is that you can use the time to adjust your spending for a year or two to save up for your wedding.

The point is- you can take some steps now (regardless of your dating status) to give yourself a financial leg up in the happy marriage department. Starting married life without wedding debt is a wonderful gift to give to your partner and to your future self.

 

 

 

*True story. Them=plural rabbits. I ran away in the middle of the date.

Time Out

Hello loyal readers,

I have had a number of big life changes, recently. I finished my fellowship, moved, had a month of funemployment  and I got an awesome new job (and now I have to set up a new budget!) I am about to take a step back from this blog for a bit, but that doesn’t mean you won’t still be reading my amazing wisdom. I know that many of you just started reading this blog and haven’t read the older (some might say wiser) posts (I can see it in my stats, guys. I know when you are only looking for ways to retire rich and you skip all of my awesome advice about budgeting). So, I am going to rerun some of my superstar posts that are very relevant (just further down the page and harder to see) and intersperse them with new posts. I still have some tips to share, so keep your eyes peeled!

I have loved getting feedback, learning more about personal finance myself and hearing your stories. If you have a personal finance question that you were just DYING for me to get to that I never did, send me an email or post a comment and I will see what I can do for you. Also, the internet and the library are both chock full of advice for how to manage your finances.

I hope reading this blog has made you feel less intimidated and nervous about finances. Having a budget and a money plan and knowing what you can and can’t afford should free you from feeling guilty and anxious. Automating your bill pay will save you late fees, keep you from paying high interest and will help your credit score.  Paying off debt steadily and based on an automated plan is much more pain-free than feeling guilty and not knowing what to do about it. Starting an account that will help you earn compound interest will give you some free cash money to help you to retire comfortably. Talking with your main squeeze about finances should help both of you feel confident in your financial goals and should help you avoid fights in the future. You have more control than you think over your grocery bill, utilities bills, entertainment bills. Remembering that your dollar counts as a vote and that is important to give back is part of being a citizen of the world. I hope I have helped you!

Kate

Money Saving Car Maintenance

Another post about cars means that I did not write it….this one is by Darius, my resident car owner and expert!

You’ve done it! You researched, test drove, budgeted right, and got a great deal on the perfect ride. You drive out of the dealership under all kinds of pomp and circumstance, then you rear end another car because you were trying to figure the radio controls out. Insert WTF face here! But, really, it is the most common cause of accidents on the road. New owners distracted by their shiny new car.

Car ownership costs are one of those nebulous things that can sneak up on you if you aren’t careful. Here are some things I learned the hard way.

After you buy your car, call your insurance company before you even turn the engine on. Then drive right into a parking spot, put it in park, grab the Owner’s Manual from the glove box and spend a few minutes reading about the stuff you want to use for the trip home. You can read more once you get home. Where the radio controls are and what they do, where the climate controls are, the windshield wipers, etc… This 10 minutes can save you up to $3000 worth of repair costs. Money well saved!

Maintenance That Will Save You Money

-Tire Pressure: Most modern cars will have a tire pressure monitoring system (TPMS) and will display the current tire pressure (and the optimal tire pressure). The only thing on your car that touches the ground are your tires. Tire pressure is critical for efficient motoring and safe vehicle driving so, when that little orange tire light with the exclamation point illuminates, DO NOT IGNORE IT. As an example; four tires on a car that are under inflated by only 2 pounds per square inch (psi) will cost you an additional $150 in fuel costs per year.

-Oil Changes: If the car manufacturer tells you to change your oil every 5,000 miles with a full synthetic. DO IT. Motor Oil not only lubricates your engine mechanicals but it also absorbs lots of heat and removes and retains engine deposits. That is why oil goes in a golden color and comes out jet black. If you don’t change your oil regularly, your engine will slowly destroy itself. The first thing to go will be your fuel economy followed by the engine seal that keep the oil where it should be. Finally, the metal components may sieze up. So, that $50- $100 oil change could save you $300 in additional fuel expense, $4000 in engine work, and up to $10000 for a new engine. Money well saved!

-Check Engine Light: When the little orange engine light comes on, get it fixed IMMEDIATELY. That one light is attached to a very powerful and sophisticated computer that monitors over 170 different functions and sensors. There is a reason it is there and a resaon why it came on. For example, your light comes on and you ignore it. The light came on because the oxygen sensor in your emmissions control system went bad. No biggie, right? Well, that sensor controls how much fuel is used by your engine under every condition. So, it may cost you more fuel every time you drive. On GM cars and trucks, if you have OnStar you can get the exact reason why your engine light came on. That is pretty convenient.

Maintenance You Can Ignore

-Gasoline Brands: All US gasoline has to meet a very strict federal standard. Some big name brands put additives in their gasoline but there is no real benefit to the consumer. The benefit is to the oil company in the form of revenue. Don’t be fooled by the name of the gasoline, it could cost you an extra $1500 per year. Also, if your car says it just needs regular gas in the owner’s manual, there is no need to pay for premium.

-Some maintenance is super easy to do yourself. Replacing windshield wipers at an oil change place can set you back $30-$50 a blade, but buying them at the store costs about $20 each. Just read the manual for the right type and then snap them on. Everyone can do that on their own!

-Aftermarket products: Just don’t do it! You want to put some 20s on your Cruze? Skip it. Remember that sentence above about cars needing to be efficient by law. When you change the parameters of the car, many things can go wrong. Bigger wheels are heavier. That means, more energy is required to get them moving, stop them, and turn them. You car was not designed for that. So, those fancy wheels and tires you bought for $600 could cost you up to $500 in extra fuel every year, $900 for a brake job you wouldn’t have needed before, and up to $2000 for new suspension components. Besides, bigger wheels make your car slower (unless they are made for exotic lightweight materials which most of us can’t afford anyway).

You car is a big chunk of money out of your budget. Understand you car by reading the owner’s manual and take care of it just like the manual says and that car could run indefinitely.

A great story to read about:

http://www.telegraph.co.uk/telegraphtv/10324972/1966-Volvo-clocks-up-world-record-three-million-miles.html

How to open a Roth IRA

My good friend Kimberlyn and I were talking about personal finance at a party (what else? I am a really fun party guest). Kimberlyn told me that when she was in college she had a professor who told everyone they should open up a Roth IRA immediately. Kimberlyn’s amazing response?

I couldn’t even afford crackers, how was I supposed to save for retirement?

I hear ya, Kimberlyn. Not only is it pretty intimidating to open up a new type of money account for the first time, but you were told to do it when you had no ca$h money at all. I worked two jobs in college and I was still super broke- it’s not an easy time, financially, and it is hard to think about saving long term when you are buying store brand saltines.

But Kimberlyn’s professor was right, starting a Roth IRA as early as possible will pay off hugely in the long run (because of compound interest. Do I sound like a broken record yet?)

I opened my Roth IRA in 2010 when I was living in a double wide trailer making about $1200 a month. If I managed to do it, you can do it, too!

Lots of Roth IRAs have a minimum deposit of $1000-$3000 before you can even open an account. I have (to this day) never had $1000-$3000 sitting around, and you better believe that double wide lifestyle was never going to allow me to save up $1000 to get started. Luckily, I found an easier way to get started.

At the time, ING Direct had a program that allowed you to put in  $50 a month as long as you set up automatic deposits. I had $50 a month, I already loved automatic deposits- boom! Roth IRA was set up and my compound interest makes me happy every day! $50 a month= $600 a year, which is not a ton of money, but that cashola has grown quite a bit! I didn’t have time or the money to muck around with trading stocks and paying fees (“um, I would like to buy 1 share of stock X for $14. Oh the fee to trade is $6 per transaction? Huh.”), so I chose to put all of my money into the 2050 retirement fund and I stick to it. The 2050 retirement fund is a plan already set up by ING Direct that invests my money more aggressively (aka, takes more risks) now, because I am young. When I get closer to retirement (in 2050…the year I will be 65) the money will be moved over to more conservative investments. I don’t have to do anything at all!

 

The bad news: ING Direct is now Capital One. And they don’t offer the awesome $50/month sign up deal anymore…so you guys can’t copy what I did exactly.

The good news: I will still tell you how to open a Roth IRA without needing $1000-$3000 in your piggy bank.

TD Ameritrade has no minimum and no annual fees (I HATE fees!) and they have a number of funds that you can trade around for free, if you are into that sort of thing. You can still set up automatic $50 (or $5…whatever you can afford) deposits, so it is kind of like you can do exactly what I did four years later!

It is worth it to give it a whirl. Start with an amount you won’t miss. I like to think of the money I invest as “night out equivalents.” If I went out for dinner and to a movie twice a month, that would cost me (more than) $50. I think it is snugglier (and cheaper) to make homemade (or frozen) pizza, buy a 6 pack, and rent a Redbox to watch with friends on the couch twice a month. Look at that! I saved for retirement!

Remember that unlike savings account it is not risk-free. But, you will have access to the original capital you put in at any time without penalty, so it’s like a secret emergency savings account. However, you will not see your money benefit from compound interest if you don’t take risks with it, and it is nearly impossible for the average Joe to retire if he has not invested his ca$h.

There you go! How to open a Roth IRA (relatively) painlessly. It will pay off tenfold when you are ready to retire, so it is worth it to get started now!

 

Healthcare Savings Plans

Lots of awesome news for this week:

  • Happily no longer funemployed.
  • I have written 50 blog posts! Hurrah!
  • My grocery store just started stocking my favorite beer, which I have never seen in this state before. I may have freaked out in the aisle.

Not so awesome news:

Good counter-news:

  • My new job means I will have dental insurance and also a flexible healthcare savings plan!

Now, dental insurance is awesome and I am thrilled to have it. But my cavities are plentiful and expensive, and my insurance doesn’t cover the whole cost of mining my mouth.

I have never had a flexible healthcare spending account before, but I spent a little time researching them, now that I have one. Basically, it is money that you put aside before you pay taxes (another way to lower your tax bill, woohoo!!) that can be used for healthcare expenses like prescriptions, glasses or contacts (Lasik, even!) or…to fill in those cavities.

Flexible healthcare savings plans allow you to get more medical bang for your buck. Suppose I had to pay $1000 out of pocket for my cavities. Normally, I would have to pay that amount after I had already paid taxes on it, so it would cost me about $1300 (paid to the dentist and to Uncle Sam). With this savings account, I only have to pay $1000 to the dentist and none to Uncle Sam. Cavities stink, but at least I can save some cash-ola.

What is the catch?

  • You have to estimate the amount you think you will need up front. You don’t get to readjust, and you set the amount once a year.
  • If you don’t spend the full amount in the savings plan, you don’t ever get the money back (this is called a catch, friends).

My strategy is to plug in the amount I already know I am going to have to spend (hellooooo fillings) and then to estimate the remainder based on my past expenses. I am being somewhat conservative because this is a gamble. I would rather not forfeit money… and I know that I have some health expenses  (like new glasses) that I can take or leave, depending on how much money is left in my account at the end of the year. Worst case scenario I pay taxes on my healthcare expenses, which I would have done, anyway!

 

Things I just Learned about Taxes

Hi readers!

As you might guess, I filed my taxes this weekend. I also have had some big life changes. I am no longer funemployed! My job was supposed to start today but we are having a good old fashioned snow day instead! Kind of a bummer, but now I get to tell you about some of the things that I just learned about taxes.

Along with my new job comes some new benefits. I had to decide on my benefits this weekend, too, so I now have many more thoughts about that.

The first thing I learned was a little bit about how to work the tax system (thanks, Mom!). You know how I told you all that 401k’s are tax deferred? Meaning, you pay taxes on them when you are ready to retire, but you don’t pay taxes on the money now? Here are a few new things that I just learned.

  1. You pay taxes on the amount in your retirement not based on the amount of money you made the last year you worked (ideally, this will be a gazillion dollars) but on the amount of money you take out of your retirement each year when you are retired (ideally, this will not be a gazillion dollars). Therefore, you will pay taxes during retirement based on the tax bracket of someone with your “retirement income.” Which may or may not be lower than your income is now, but you have control over how much you take out, and therefore you can control which tax bracket you are in when you retire.
  2.  You can LOOK UP tax brackets and do the calculations yourself. This may sound like the most obvious thing in the world to some of you, but taxes have always been a big mystery to me and I didn’t realize it can be simple to estimate your taxes. I’m really smart, I swear! I just don’t like taxes.
  3. Because you don’t pay income tax on tax-deferred savings, you are able to put more money into your investments at the start (and you can look up how much more, depending on your tax bracket). This means more money (like, 25-30% more…not insignificant) will be subjected to compound interest from the get-go. So your end result will be much higher than if you had paid taxes on the same amount at the beginning (like for a Roth IRA). Don’t forget that you have to pay taxes when you withdraw your funds, though. There is no escaping Uncle Sam, but you can decide how and when you want to pay those taxes.
  4. When you put money into tax deferred accounts, you can actually calculate the amount of money you will be saving in taxes, so it is a little easier to choose how much to save. For example:

Say I make $80,000 per year. I am able to invest up to 5% into my 401k ($4000). Not only am I getting compound interest (like a boss), but I also am spending less on taxes! Here is the math (based on the 2014 tax schedule):

Taxable income Amount invested Amount owed in taxes Difference from no investment Summary
Without investing in 401k  $80,000  $-  $15,856  n/a $0 invested, $0 tax savings
Investing 2.5% in 401k  $78,000  $2,000  $15,356  $500 $2k invested, $500 tax savings
Investing 5% in 401k  $76,000  $4,000  $14,856  $1,000 $4k invested, $1k tax savings

It is a bit of a balancing act: if you put more into your 401k, you have less cash to spend today, but you also save on taxes (which you can spend before you retire). If you can afford to contribute the maximum into your 401k, you get compound interest, but you also pay less in taxes.

Hopefully this was obvious to all of you, but I had not thought of tax deferred investments as a tool to decrease your tax load (probably because I have never had benefits before….), but there you are- an added benefit to saving for retirement!

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