|
|
|
|
|
|
|
Our Financial Resources The Loan Process Company Information
|
Inside
This Article: Save and Invest
You have budgeted and identified an amount to save monthly. Where are you going to put your savings? By investing, you put the money you save to work making more money and increasing your wealth. An investment is anything you acquire for future income or benefit. Investments increase by generating income (interest or dividends) or by growing (appreciating) in value. Income earned from your investments and any appreciation in the value of your investments increase your wealth. Get Guidance There is an art to choosing ways to invest your savings. Good investments will make money; bad investments will cost money. Do your homework. Gather as much information as you can. Seek advice from personnel at your bank or other trained financial experts. Read newspapers, magazines and other publications. Identify credible information sources on the Internet. Join an investment club. Check out the information resources listed in the back pocket of this publication. Take Advantage of Compound Interest Compound interest helps you build wealth faster. Interest is paid on previously earned interest as well as on the original deposit or investment. For example, $5,000 deposited in a bank at 6 percent interest for a year earns $415 if the interest is compounded monthly. In just 5 years, the $5,000 will grow to $7,449. Let's see how interest compounds on Lynne's savings. Assume that Lynne saves $125 a month for 30 years and the interest on her savings is compounded monthly.
The chart above shows how compound interest at various rates would increase Lynne's savings compared with simply putting the money in a shoebox. This is compound interest that you earn. And as you can see from Lynne's investment, compounding has a greater effect after the investment and interest have increased over a longer period. There is a flip side to compound interest. That is compound interest you are charged. This compound interest is charged for purchases on your credit card. Chapter 4, "Take Control of Debt," discusses this type of interest. Understand the Risk–Expected Return Relationship When you are saving and investing, the amount of expected return is based on the amount of risk you take with your money. Generally, the higher the risk of losing money, the higher the expected return. For less risk, an investor will expect a smaller return. For example, a savings account at a financial institution is fully insured by the Federal Deposit Insurance Corp. up to $100,000. The return—or interest paid on your savings—will generally be less than the expected return on other types of investments. On the other hand, an investment in a stock or bond is not insured. The money you invest may be lost or the value reduced if the investment doesn't perform as expected. How much risk do you want to take? Here are some things to think about when determining the amount of risk that best suits you. Financial goals. How much money do you want to accumulate over a certain period of time? Your investment decisions should reflect your wealth-creation goals. Time horizon. How long can you leave your money invested? If you will need your money in one year, you may want to take less risk than you would if you won't need your money for 20 years. Financial risk tolerance. Are you in a financial position to invest in riskier alternatives? You should take less risk if you cannot afford to lose your investment or have its value fall. Inflation risk. This reflects savings' and investments' sensitivity to the inflation rate. For example, while some investments such as a savings account have no risk of default, there is the risk that inflation will rise above the interest rate on the account. If the account earns 5 percent interest, inflation must remain lower than 5 percent a year for you to realize a profit. My financial goals are: My time horizon is:
Tools for Saving The simplest way to begin earning money on your savings is to open a savings account at a financial institution. You can take advantage of compound interest, with no risk. Financial institutions offer a variety of savings accounts, each of which pays a different interest rate. The box below describes the different accounts. You can choose to use these typical accounts to save for the near future or for years down the road. Individual Development Accounts Training programs on budgeting, saving and managing credit are frequently part of IDA programs. Find out about IDAs by calling the Corporation for Enterprise Development at (202) 408-9788, or visit its web site at www.idanetwork.org. Types of Savings Accounts Money market savings account
Certificate of deposit (CD)
Tools for Investing Stocks—Owning Part of a Company Stocks. Shares of stock may be acquired on an organized exchange such as the Nasdaq or New York Stock Exchange, through a stock-broker, over the counter or by direct purchase in some cases. When you buy stock, you become a part owner of the company and are known as a stockholder, or shareholder. Stockholders can make money in two ways—receiving dividend payments and selling stock that has appreciated. A dividend is an income distribution by a corporation to its shareholders, usually made quarterly. Stock appreciation is an increase in the value of stock in the company, generally based on its ability to make money and pay a dividend. However, if the company doesn't perform as expected, the stock's value may go down. There is no guarantee you will make money as a stockholder. In purchasing shares of stock, you take a risk on the company making a profit and paying a dividend or seeing the value of its stock go up. Before investing in a company, learn about its past financial performance, management, products and how the stock has been valued in the past. Learn what the experts say about the company and the relationship of its financial performance and stock price. Successful investors are well informed. Stock options. Some companies offer employees stock options, which they can use to buy stock in the company at a fixed price. For example, your employer, Wally's Widgets, offers a stock-option plan, and its stock is valued at $30 a share. The stock-option price is set at $40 a share. As part of your compensation for meeting company goals and contributing to increased profits, you receive options to purchase 100 shares. Over time the value of the Wally's Widgets shares appreciates to $50 a share. You may now want to exercise your stock options and purchase the shares valued at $50 for $40. Bonds—Lending Your Money Bonds. When you buy bonds, you are lending money to a federal or state agency, municipality or other issuer, such as a corporation. A bond is like an IOU. The issuer promises to pay a stated rate of interest during the life of the bond and repay the entire face value when the bond comes due, or reaches maturity. The interest a bond pays is based primarily on the credit quality of the issuer and current interest rates. Firms like Moody's Investor Service and Standard & Poor's rate bonds. With corporate bonds, the company's bond rating is based on its financial picture. The rating for municipal bonds is based on the creditworthiness of the governmental or other public entity that issues it. Issuers with the greatest likelihood of paying back the money have the highest ratings, and their bonds will pay an investor a lower interest rate. Remember, the lower the risk, the lower the expected return. A bond may be sold at face value (called par) or at a premium or discount. For example, when prevailing interest rates are lower than the bond's stated rate, the selling price of the bond rises above its face value. It is sold at a premium. Conversely, when prevailing interest rates are higher than the bond's stated rate, the selling price of the bond is discounted below face value. When bonds are purchased, they may be held to maturity or traded. Treasury bonds, bills and notes. The bonds the U.S. Treasury issues are sold to pay for an array of government activities and are backed by the full faith and credit of the federal government. Treasury bonds are securities with terms of more than 10 years. Interest is paid semiannually. The U.S. government also issues securities known as Treasury bills and notes. Treasury bills are short-term securities with maturities of three months, six months or one year. They are sold at a discount from their face value, and the difference between the cost and what you are paid at maturity is the interest you earn. Treasury notes are interest-bearing securities with maturities ranging from two to 10 years. Interest payments are made every six months. Inflation-indexed securities offer investors a chance to buy a security that keeps pace with inflation. Interest is paid on the inflation-adjusted principal. Bonds, bills and notes are sold in increments of $1,000. Savings bonds. U.S. savings bonds
are government-issued and government-backed. There are different types
of savings bonds, each with slightly different features and advantages.
Series I bonds are indexed for inflation. The earnings rate on this type
of bond combines a fixed rate of return with the annualized rate of inflation.
Savings bonds can be purchased in denominations ranging from $50 to $10,000. Mutual Funds—Investing in Many Companies Mutual funds are
established to invest many people's money in many firms. When you buy
mutual fund shares, you become a shareholder of a fund that has invested
in many other companies. By diversifying, a mutual fund spreads risk across
numerous companies rather than relying on just one to perform well. Mutual
funds have varying degrees of risk. They also have costs associated with
owning them, such as management fees, that will vary depending on the
type of investments the fund makes.
Invest for Retirement Have you ever thought about how much money you will need when you retire? Many people don't save enough for retirement. Use the following chart to calculate how much you need to invest today to achieve your retirement goal. For example, suppose you are 20 years old and would like to have $1 million when you retire at age 65. If you can invest $13,719 today, it will grow to $1million over the next 45 years if it earns a constant 10 percent return, compounded annually. You never have to add another dime to your initial investment.
Click here to calculate the future value of current savings! Individual Retirement Accounts
You don't pay taxes on the money in a traditional IRA until it is withdrawn. All withdrawals are taxable, and there generally are penalties on money withdrawn before age 591ž2. However, you can make certain withdrawals without penalty, such as to pay for higher education, to purchase your first home, to cover certain unreimbursed medical expenses or to pay medical insurance premiums if you are out of work. A Roth IRA is funded by after-tax earnings; you do not deduct the money you pay in from your current income. However, after age 591ž2 you can withdraw the principal and any interest or appreciated value tax-free. Other rules for withdrawing money from a Roth IRA are less stringent than those for a traditional IRA. An education IRA is an educational savings account, not a retirement account. A parent, grandparent or other person can contribute up to $2,000 annually to an education IRA on behalf of a child under the age of 18. The big advantage of an education IRA is that withdrawals are tax-free if they are used for qualified postsecondary educational expenses, such as room, board and tuition. The money contributed to an education IRA is not tax-deductible. 401(k) Plans Many companies offer a 401(k) plan for employees' retirement. Participants authorize a certain percentage of their before-tax salary to be deducted from their paycheck and put into a 401(k). Many times, 401(k) funds are professionally managed and employees have a choice of investments that vary in risk. Employees are responsible for learning about the investment choices offered. By putting a percentage of your salary into a 401(k), you reduce the amount of pay subject to federal and state income tax. Tax-deferred contributions and earnings make up the best one-two punch in investing. In addition, your employer may match a portion of every dollar you invest in the 401(k), up to a certain percentage or dollar amount. As long as the money remains in your 401(k), it's tax-deferred. Withdrawals for any purpose are taxable, and withdrawals before age 591ž2 are subject to a penalty. Take full advantage of the retirement savings programs your company offers—and understand thoroughly how they work. They are great ways to build wealth. Qualified Plans If you're self-employed, don't worry. There's a retirement plan for you. A qualified plan (formerly referred to as a Keogh plan) is a tax-deferred plan designed to help self-employed workers save for retirement. The most attractive feature of a qualified plan is the high maximum contribution—up to $35,000 annually. The contributions and investment earnings grow tax-free until they are withdrawn, when they are taxed as ordinary income. Withdrawals before age 591ž2 are subject to a penalty. Other Investments Investing in Your House Remember Bob in Chapter 1, who started reading this workbook to create wealth? Practicing what he read, Bob reduced his debt, increased his savings and is now ready to buy a house. He has a sizable down payment saved, so right from the beginning he will have equity in his home.
Equity, in this case, is the difference between the market value of the house and the balance on Bob's mortgage. As Bob pays his mortgage, he increases his equity. Plus, over time, his house may rise in value—giving him more money if he chooses to sell it. Knowing that the more equity he has in his house, the wealthier he will be, Bob takes a 15-year mortgage rather than the more traditional 30-year mortgage. This will enable him to own his house in 15 years. Of course, Bob will make higher monthly payments on his mortgage than he would have, but he will build equity quicker and ultimately pay less interest. By making higher monthly payments, Bob not only will own his house outright in 15 years, but he will save $106,119 in interest. That's $106,119 Bob can invest as part of his wealth-creation plan. Making higher monthly payments, of course, means budgeting. Bob chose to budget extra money each month out of his paycheck—and make wise spending choices—so he can do just that. Start Your Own Business You can also start and invest in your own business as part of a wealth-creation plan. This requires planning, know-how, savings and an entrepreneurial spirit. Starting a small business can be risky, but it is one of the most significant ways individuals have to create personal wealth. Duncan
had a dream—he wanted to own a business. He worked for a printing
company for 10 years and learned every aspect of the business. He and
his wife saved every month until they had a sizable nest egg. When they
felt the timing was right, they bought a printing press and computer equipment
and set up shop in an old warehouse. Duncan's wife kept her job so they
would have steady income and benefits while the business got off the ground. For the next five years, Duncan worked long hours and put all the income back into the business to help it grow. He gave his customers good service, attracted more customers and paid close attention to his expenses. By the sixth year, the business was profitable and Duncan and his wife were well on the way to owning a successful, ongoing enterprise that will increase their personal wealth. None of this would have been possible without budgeting and saving. Duncan was able to use the couple's savings to invest in his talents and entrepreneurial spirit. Other Investment Alternatives You also can invest in other things that may not earn a dividend or interest but may rise in value over time, such as land, rare coins, antiques and art. If you are knowledgeable about these types of investments, they might be the right choice for you. Now it's time to plan your investment strategy. List the investment options you are going to learn more about and weigh them against your wealth-creation goals, time frame and risk tolerance. 1.
Click here to track your own financial investments! We have seen that by budgeting to save, saving and investing, wealth can be created. But what if debt limits your ability to save and invest? The next chapter discusses controlling debt.
<< Budget to Save | Take Control of Debt >> |
 |
||||
|
Fallbrook Financial Services
- 6700 Fallbrook Avenue, Suite 111, West Hills,
CA 91307 info@FallbrookFinancialServices.com
|
|||||||
|
|
|
