Got Orthonomics in your Email Box?

Wednesday, January 24, 2007

Saving: What are your priorities?

The comments in my last post about helping children, Bar Mitzvahs, and weddings reminded me of a number of discussions I have had with friends, of the Yeshiva world, who have found themselves in a good enough position that they can start to save a little bit of money each month. Nearly every one of these young wives, if not every single one of them, has stated that now that they can save money, their goal is to save for their children's weddings. Let's just say that for me keeping quiet isn't an easy thing to do when these types of conversations take place. But, that is why I have a blog (smiley).

I commend all those who are saving, but in many ways I think it is a sad commentary that saving for a wedding is at the top of the list as a saving priority. Just like all areas of life, saving should have a rhyme and a reason, and a seder as to how to go about it and how to make it work. And, in my opinion, saving for a wedding as a first priority just doesn't make sense, much less a Bar Mitzvah.

I don't assume any of these young couples are planning to make lavish weddings, and I imagine that they are really thinking about helping to "set up" their children. Yet these families are not currently "set up" themselves. They have not bought a home, nor have they put together a savings plan for retirement (this I know from other conversations, and this is a subject of its own-so give me some time).

The following is just my opinion of how young people (singles as well as couples-it is never too early to start saving, or paying down student debt if necessary!) should start to prioritize their savings. The theme might be "make sure to take care #1" (and for crying out loud, don't trick yourself into believing your kids will take care of you just because you plan to take care of them). :

1. Emergency Fund: I have yet to discuss an emergency fund, but stuff happens and if you don't want to fall into credit card debt, it is imperative that you have a cushion set aside to weather these times. Recently I bought a new pair of glasses to use up the excess money in our Flexible Spending Account. When I returned home, I found that my husband had placed an itemized receipt from his dentist appointment totalling $300 on my desk. Good thing the money was available, because we had just exceeded the available funds in our FSA.

2. Retirement: Many employers offer matching funds if you fund your own employer sponsored retirement plan. If you don't put in the amount that entitles you to maximum matching, you are passing up your money! Unfortunately, I know many people out there who have done just that. My mantra is that almost always a place to cut back, you should do everything you can to find that place before saying no to this money.

The great news about saving for retirement (401(k) or traditional IRA) is that it reduces your tax burden in the here and now. The amount you save is tax deferred, and if you are lucky enough (we have been!) you can bring yourself into a lower tax bracket and benefit in an even greater way. If your employer doesn't offer a plan, or even if your employer does, you can still place money into a traditional IRA and take a tax deduction for that amount.

Lest you are afraid of locking up your money until you are of retirement age, fear not. You can also borrow against your retirement if need be (not always a recommended course) and I believe you can borrow for a 1st time home purchase without a penalty.

3. Down Payment Rent is forever, a home eventually becomes yours. Whether or not you should buy in an inflated market is depends on a number of factors, including how long you plan to live in the area, but I consider buying a home in a "smart" way to be a good idea on a number of levels (not all of which are financial).

When is a good time to buy? It is trite, but the sooner the better. Frum people run the risk of never being able to make that move into a home of their own if the tuition bills start coming before a mortgage is established. I've seen it. I doubt I'm alone.

Saving should not be haphazard and using vehicles like a 401(k) or a 529 (see below) works only to your benefit. Saving for #1 (yourself) doesn't preclude saving for your children. In fact it will make it easier. Saving for retirement and buying a home significantly lowers your taxes burden and puts money in your pocket (unless you get hit by the AMT. Sorry Charlie Hall).

If you want to use that money to pay for weddings or Bar Mitzvahs, at least you will have more of it. But in the Sephardi household, we are not saving for weddings or Bar Mitzvahs, at least not yet. We can't do it all, and like commentor "jdub," we would rather have a "lox and bagel" wedding than strap our children with massive amounts of student debt from college or vocational school if we can avoid it. Therefore, saving up for college (or vocational school) will come before saving for a wedding. The best wedding gift we can give our kids and future kids-in-law is the preparation to be self-supporting. (You'll thank us later!)

4. College Savings: Yet another benefit in saving through specific vehicles is the "tax shelters that they offer. A 529 plan allows savings to grow tax free and be withdrawn tax free so long as they are used to pay for qualified college (or vocational school) expenses. There are even some rewards credit cards that you can use to fund a 529, so long as you have the funds to open the plan (normally $1000, but Vanguard lets you open up a plan for only $250 during the "holiday season" through Upromise). So even if you are not as far as step 4, you still might be able to get one foot in the door. And if you haven't registered at UPromise, there is no time like the present. [Update: 8/19/08: There is a $20 annual fee on the UPromise accounts for those that live outside of Nevada. There are plans with no fee that can be bought through many states. I have this account, but might roll it over into a no fee account].

5. Saving for the kids: We put all of the little bits of money our children recieve as gifts here or there in their own young savers accounts. Here too there are some tax advantages, as children under 18 are not taxed on income below a certain amount. The disadvantage: the custodial parent(s) loose control over the money when the children turn 18. But, even with this disadvantage, there are great advantages. More discussion on this later.

There is so much to save for in life. But saving is much more effective when you use the tools at your disposal to increase savings. Saving for a wedding, probably won't help you reach that goal (assuming you still think want to do so after reading this post). Saving for retirement might actually help you near that goal. Illogical? Not to me.

Previous Budget Posts:
Budgeting Credit and Debt I
Budgeting Credit and Debt II
Budgeting Tool #1: Monthly Budget Tracking and Budget Summary
Budgets: Putting it on Paper, Defining Priorities, and Doing what it Takes


Unknown said...

Great, great post.

A few notes:

2) People should usually be maxing out what their employers will match at their jobs. I have friends who think "well, the first couple of months I need the money..." and then never end up changing it, because they're used to that higher paycheck. Meanwhile, they're blowing thousands of potential dollars a year that could have been put away - of other people's free money.

Some IRAs you can pull out completely after 5 years with no penalty - but you've still gotten all the matching funds. Really, quite a bargain.

AMT - This actually is a big deal, as it now hits more and more people. Congress doesn't care enough to change it, because THEY are excluded from AMT even though they easily qualify to get hit by it. Ask any tax accountant what the dumbest rules are, and AMT is sure to be top 3 if not at the very top.

5) A family who teaches their kids enough to understand budgeting will likely have kids who are smart enough not to blow it all at 18.

mother in israel said...

Great post. If parents give all their money to their children, their children will have to support the parents later.

Ariella's blog said...

We have not earmarked our savings for weddings or our one bar mitzvah. We've set up accounts and funds for each of our children from the monetary gifts we were given for them. When they get such gifts for their birthdays or Chanukah, we add to it. We also have small education IRA funds for them (the money can be tapped for yeshiva tuition as well as other qualifying expenses.Do note that the proceeds would be tax free, but there is no tax deduction for the money invested.) Actually, if the children attend a CUNY school, the tuition would actually be far lower than yeshiva high school. I'm the one who generally pushes to put more money into retirement funds, but my husband does not want to tie up money that he thinks we may need to draw on.

LT said...

Another thing parents rarely consider:

The kind of pressure "wedding savings" put on young men and women to marry. Imagine being in your mid twenties and not-yet married. Imagine all the relatives bugging you about this, and imagine "losing" many of your close friends as they get married and grow apart.

And imagine on top of all that, knowing your parents have been expecting and planning for your marriage since you were an infant. Yech.

DAG said...

I've saved a bundle for my daughter at upromise....

Somewhat Anonymous said...

All of my savings are going towards building up a down payment at the moment. Once we have a house IY"H, I plan to put whatever savings I can muster towards paying down my private student loans (The Federal Loans I plan to repay as slowly as possible). I'll probably start contributing towards a 401k at that point too (my employer does not match), depending on how much excess is left after homeownership expenses and tuition. Beyond that, I guess we'll start saving up for weddings and home renovations (assuming that we will be moving into an older home that can use a bit of non-urgent work).

I do not plan to save for my kids to go to college. As Ariella notes, CUNY is really quite cheap (~20K for 4 years including summers), and the advantage one might gain from going to, say, Columbia instead is not worth the additional 125K or more, especially when you take into account how much tougher the competition for grades is at the more prestigious private institutions. I truly do not understand the mentality of prioritizing college savings over the myriad of other necessities, especially given the financial strain many people seem to live with daily (insert umpteenth complaint about the cost of yeshiva education).

Orthonomics said...

Somewhat-Thanks for your comments.

I too see no reason to prioritize saving up for an Ivy League College Education. I believe that the a public University (or even junior college followed by college or university) will be just fine for our children. We can't do it all and private school K-12 followed by private college and maybe even grad school is just an impossibility.

Nevertheless, saving for college is not "mutually exclusive" and it is always better to save earlier than pay in cash later because dividends/interest reinvested early makes the cash outlay less.

I will post more on this later including on the creative ways we are funding a college fund which don't divert funds away from retirement or a downpayment fund for a "real" home.

Anonymous said...

What college is suitable will depend on the child; there are children for whom a large state school (or large private school for that matter) is not appropriate.

However, saving is always good. Too paraphrase Santayana: Thise who do not understand compound interest are doomed to pay it.

Orthonomics said...

Mike S-Love the saying. So true. It has also been said that compounding is the 8th wonder of the world.

Anonymous said...

First, great post. I think everyone should be aware of these things.

I'll disagree somewhat. I think that while many private colleges are not worth more than their counterparts, some are. While CUNY may have fine schools, they are (1) not as good as Columbia and the other Ivies and comparable schools in many respects and (2) strictly from a credentialing perspective, a degree from Columbia will help far more with graduate/professional schools than a degree from CUNY. (Clearly, Michigan, UVA, and other top-flight public schools are different.)

I'm a Marylander. I can't see paying for a school like BU (ridiculously large expensive private school) over UMD. That said, I'd pay for Columbia (my alma mater) or similar schools. One reason I got into Columbia, Penn, NYU and similar law schools was because I went to Columbia for undergrad. My roommate who went to Brooklyn undergrad got into far fewer law schools even though he had similar LSATs and better grades. Schools know that an A at Columbia is harder to get than an A at CUNY.

Additionally, I was better prepared coming from Columbia. By and large, the better students at Columbia Law(at least for the all important first year) had gone to better schools. They had competed and been tested against excellent students and were challenged more than their counterparts. So, I think there is an inherent value in going to certain private schools.

I'm saving as if all four of my kids will go to Ivies. If they don't, and go to Maryland, they'll have money left for graduate or professional schools. If not, they'll graduate from college debt-free.

But I'm not saving for their weddings.

Orthonomics said...

JDub-Thanks for the great comments. Saving (in a 529 or through another vehicle) as if your kids are going to go to Ivies, even if they end up in one of the many excellent public Universities out there seems like a sound approach to me.

We are hoping our kids choose (and are accepted) to one of the excellent public colleges that are out there--incidently, residency can be obtained for out of state students, sometimes quite easily if the student has their own money, so if your child likes U of XYZ but you live in state ABC, he/she may still be able to go to U of XYZ as a resident student (yet another reason to save for college, but not a wedding. :)

Thanks for reading and contributing everyone. More to come.

Jacob Da Jew said...

In Summary, I think the main thing is to save. For whatever purpose. I am not a big saver, hence my DW is in charge of the finances. She purse st holds the purse strings tight.

Anonymous said...

A belated response:
1) You can withdraw from a ROTH IRA penalty free for a down payment on your first home, or for certain educational expenses. The same DOES NOT hold true for a traditional IRA, 401k, 403b, or any other retirement funds that I know of. If you do withdraw from those early, you will have to pay the 10% penalty.
2) If you open a Roth, you will pay tax on that money now, but not in retirement. If you are relatively young (20s or 30s) and don't plan to retire for 30 more years, it's worth paying taxes now, because that money will be worth a lot more later, thanks to compound interest.
3) The exact numbers change from year to year, but the Roth is designed for middle income people. The amount you can contribute starts to go down around $90k for an individual, and you are no longer Roth eligible at around $120k. What this means, is that for reasons 1 and 2 above, you should max out your Roth every year that you are eligible. Especially if you are young, and anticipate that you won't be as you move up in your career.