Monday, July 28, 2008

Your Accounts

OK, you are tracking your spending and are making sure that your life insurance needs are met.  You are off to a great start.

However, I am sure that you are wondering what to do with the piles and piles of cash you have sitting around, right?  Today, I would like to share with you the basic banking and investment accounts that I believe everyone should have.  In later posts, I will discuss each account in more detail.  I have listed them in the order I would recommend establishing them:

1.  Checking Account.  You just can't get by without one.  However, make sure that you are smart about how you use it.  Try to find one that pays you at least a little bit of interest and does not charge any fees just to have the account.  Both E*Trade Bank and INGDirect tend to offer very competitive services.  If you are willing to bank online they are well worth checking out.

2.  Savings Account.  You need a place to build up cash for large expenses both planned (your trip to Costa Rica) and unplanned (your furnace breaking down).  Many experts advise that you should keep three to six months living expenses in your savings account.  I find that I don't need to keep that much cash on hand and generally have about two months of living expenses in the bank.  I do this because (a) I like to keep my money working for me harder than it does in a savings account, (b) I have a very stable job and a regular income, (c) in a worst case scenario I would be able to pull money out of my brokerage account or use credit.

3.  Credit Card.  A credit card can get you into real trouble.  However, if you can use it responsibly it can also be a great tool and safety net.  You should only carry and use a credit card if you are able to pay off your balance every month.  If not, your cards are hurting you, not helping you.  If you are in that situation something needs to change.  I will discuss paying off debt in a later post.  However, if you pay off your balance every month (or just keep it on hand for emergencies) a credit card can be a great tool to helping you manage your money well.

4. (tie)  401(k), 403(b), TSP, or other employer-sponsored retirement account.  If you are working you should be contributing to your retirement account.  For-profit companies can offer 401(k) plans, not-for-profit companies can offer 403(b) plans, and the Federal Government offers a plan called the Thrift Savings Plan to federal workers.  All of these plans offer employees the opportunity to invest a portion of your salary into a retirement account without paying taxes on the money you invest, or the money that your investments produce, until you withdraw your money from this account.

4. (tie) Roth IRA.  In addition to your employer-sponsored plan you should also have a Roth IRA.  A Roth IRA does not give you any tax benefits today when you put money into the account.  However, when you withdraw your money everything that comes out of the account is completely tax free.

6. Brokerage Account.  Once you have established all of the other accounts, you should have an investment account other than your retirement accounts.  This account will not have tax advantages but it will be more flexible in how you can use the money invested in it.

And if your situation requires it:

 - 529 Plan.  A 529 plan is one of the best ways to save money for your child's college education.

 - Rollover IRA.  If you leave your job to work elsewhere you need a rollover IRA.  You can "rollover" your 401(k) from your previous job into this account.

For most people, that should do it.

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