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Importance of an Emergency Fund

Along with making goals, creating a budget, and managing debt, it is very important to establish and maintain an emergency fund. Most people at some point in their life, have heard from their grandmother or some other person “save it for a rainy day.” This may seem cliché because it is said very frequently, however, in the world of finance and money management, there is a 100% chance, at some given time in life, it will rain. By having an established emergency fund you can save yourself a lot of pain and hardship when faced with a financial or life emergency.

Getting Started

The first step in establishing an emergency fund is calculation and saving. Many experts agree that a well-established emergency fund should be between three to six months living expenses. This is because many financial emergencies involve loss of income in some form. By having three to six months saved, this will give you ample time to find a new source of income while still paying all of the bills you may normally have to. Similar to budgeting you must calculate your monthly living expenses including mortgage or rent, vehicle or other loan payments, utility bills, groceries, gas, or other expenses essential to living month to month. Once you know the amount you will need monthly you can multiply it by three to six and start saving. This money needs to be somewhere safe but it must also be liquid, meaning it can be converted to cash quickly should you have an emergency and need it. Saving accounts are safe, however, once you begin to have a bigger savings you may want to think about putting that money where it has a better chance of making money through interest such as a money market account or a short-term certificate of deposit (CD).

It Takes Time

Your emergency fund does not need to be established overnight; in fact, it is very unrealistic to establish one overnight. Although, if you have the ability to establish one overnight, such as an inheritance or bonus, it is important to put that money away in savings and do not look back. If you have a hard time putting away or saving money, do not be afraid to start smaller and work up to a larger amount. Start with $10 per month, or per paycheck, and do this for a couple months. It will not be a lot of money, but you will develop a habit and eventually will not miss the $10 you have been putting away. Once this happens you can think about bumping the number up to $15 or $20. These small numbers will eventually turn into big numbers as long as you keep working hard toward reaching your goals.  You can set up automatic transfers or direct deposit so that the money is put aside before you even see it!  Remember:  always pay yourself first.

Emergency Means Emergency!

It is important to remember why you have this emergency fund and define what it should be used for. There will be times when it is tempting to use this money for expenses such as vacation, down-payments, going shopping for seasonal clothing, getting a new game system, paying down other debts, or other things along those lines, but try to abstain from this activity. Your emergency fund is for financial emergencies, which can come in many forms.:  you can make a list of acceptable emergencies and only use the money on the things on that list. Everyone’s list will look a little different, however, here are some of the common things emergency funds may be used for: unemployment expenses, medical emergencies, unexpected repairs such as vehicle or household (due to unforeseen causes), unexpected tax bills, emergency veterinary bills, to name a few. It is important to remember the purpose of this account is to keep you from adding debt as a result of trying to come up with money quickly. Plan for worst case scenario so when smaller emergencies arise they are easily covered.

Revise and Maintain

It is essential you maintain your emergency account. There will be times you draw money from the account because emergencies happen, but remember that the money you use on emergencies is money that can no longer be used on other emergencies. This goes back to starting small, if it has been a while since you have contributed a portion of your paycheck to saving, you may have to go back to saving $10-$20 per paycheck until you get your emergency fund balance replenished. You will also have to reevaluate your emergency fund throughout life to adjust to life changes such as marriage, children, etc. Choosing a number that will give you three to six months of living straight out of college could be significantly smaller than three to six months of living expenses when you are married with children. If in doubt, save more.

This concludes the Financial Literacy Month series on money management.  Look for other posts for more tips on both saving and spending money wisely.

Resources

http://financialplan.about.com/od/savingmoney/a/emergencyfund.htm

http://www.investopedia.com/financial-edge/0812/why-an-emergency-fund-is-important.aspx

 

Shannon Vaughan
Peer Counselor I
Powercat Financial Counseling
www.k-state.edu/pfc

Debt Management

Over the last two weeks, Powercat Financial Counseling has been providing you with some useful financial tips on how to better manage your money. So far, we have discussed the importance of having financial goals and why people should integrate budgeting into their everyday lives. This time, we are going to talk about debt management as a necessary step for your overall financial success.

Borrowing money and having debt are a part of life. And, for the most part, debt is unavoidable. For many people, obtaining a quality education and purchasing your first house would be a daunting task without some kind of debt. In fact, capitalism was built on the extension of credit. Responsible borrowing to a very large extent is what drives the economy; higher spending leads to the creation of more jobs and higher incomes, which in turn is correlated with higher spending.

As you can see, debt can be our friend, but it can also get us in trouble. As of December 2014, total consumer debt in the U.S. is $11.7 trillion. (eg. mortgages, credit card debt, student loans, etc.).  Debt can be problematic when it used to buy unnecessary things we don’t really need, and especially when we don’t have enough income to cover our debt expenses. Debt requires a degree of self-control to avoid getting caught in the debt cycle that can last a lifetime if you are not careful.

Know How Much and Know Who You Owe

Start off by making a list of all of your debts. This list needs to include all of the creditors, total amount of the debt, due dates, and what your monthly payments are. One easy way to confirm the debts on your list is to get free credit report from www.annualcreditreport.com. You can select a free credit report from each of the 3 credit bureaus once a year (TransUnion, Equifax, and Experian).  Pulling free credit reports periodically will also ensure that there aren’t any unknown debt charges under your name.

When To Stay Away From Debt

Stay away from compulsive buying. Avoid financing a long term asset, such as a home or even a car, with a short term loan from your credit card company. The value of your home or your car will not benefit you when paying your monthly credit card bill. Moreover, borrowing long-term for a short term asset such as a home appliance can get you in trouble as well. If you take a 10-year loan to buy a brand new computer with extremely low monthly payments, you will still be paying long after the computer is obsolete.

Timely Payments

The crucial step is to pay all of your bills on time. Late payments make it harder to pay off your debt and you will be charged with a late fee. If you miss multiple payments in a row, your interest rate and finance charges will increase while your credit score will be negatively affected for up to 7 years. To make sure you are not missing payments, use a calendar system on your computer or smartphone. You can also set an alert several days before your payment is due or you can even have automatic payments withdrawn from your account so that you are never late on payments (but be sure to have enough in the bank to cover the payment). In case you miss a payment, don’t wait to pay outstanding charges until the next due date; rather, pay as soon as possible to avoid ‘missing payment’ reports to the credit bureaus. As a matter of fact, 35% of your credit score is determined by your ability to pay bills on time.

Pay More and Know Which Debt to Target First

Logically, your goal is to pay off all of your debts as quickly as possible. In order to speed up the debt repayment process, you can pay more than the minimum payment every month! Time value of money is a very powerful concept. Paying just the minimum payment on your credit card won’t get you very far and you will be mostly paying your interest cost while the loan balance won’t change much. For example, if you have a $1,000 credit card balance at 18% interest rate and you pay just the minimum each month (assuming minimum is 2% of your credit balance), it will take you over 7 year to pay off $1000 credit card balance and you will end up paying $1865 ($1000 balance and $865 in interest). If you have multiple loans, paying off the loan with the highest interest rate first would be your priority, while the rest of your debt would be paid in descending order in terms of interest rates. Paying off the loan or credit card with the higher interest rate would be a wise choice because you will be paying less in total interest on your debt. Some financial gurus even suggest to pay off smaller debts first which will drive your motivation to take care of any other outstanding debts you might have.

Understand Interest Rate Risk

Every time you borrow money, the bank will charge you an interest rate. In simple terms, interest is the cost of using someone else’s money. If you are a borrower, it is in your own best interest to get the lowest interest rate possible.  Every time you are borrowing, it is crucial to understand the interest rate risk associated with the borrowing and to understand the interest rate environment. There are variable interest rates and fixed interest rates. Variable interest rates will change and its movement will depend on market forces while fixed interest rates will stay put for the life of the loan. If you are borrowing at a variable interest rate right now and you are expecting interest rates to rise in the near future, the cost of your debt will rise as well. As  of right now, interest rates are at an all-time low, but this trend will most likely reverse in the near future as the Federal Reserve is looking to raise interest rates which will force the overall cost of borrowing to increase for consumers.

Don’t Forget To Save Money Along the Way

Paying off your credit card balance or your student loans is great, but if you are cutting debt at the expense of your retirement portfolio, you will end up disappointed in the future. A lot of employers are offering 401(k)s and they are willing to match a certain percentage of your salary if you are committed to contribute into your 401(k). In a sense, this is free money that you should not pass on.

Available Debt Help

If you have been struggling to pay your bills on time for a long period of time, there is help available. The first step would be to talk to your creditors and try to work out a modified payment plan that can possibly trim down your payments to a more controllable level. The second step would be to contact a debt relief company, like a credit counseling agency.  HCCI is such an agency that can help you get a debt management plan together that works for you.  They can also advise you on other options.  The other debt relief options include debt consolidation, debt settlement, and bankruptcy. These options have advantages and disadvantages so make sure to proceed very carefully.

Be on the lookout next week for more helpful tips about personal financial management during Financial Literacy Month.  If you have any questions about debt management or other financially related questions, Powercat Financial Counseling is here to help. You can make an appointment at our website: www.k-state.edu/pfc.  We provide free and confidential counseling to all K-State students.

Elvis Hodzic
Graduate Assistant
Powercat Financial Counseling
www.k-state.edu/pfc

When Is The Best Time To Negotiate Your Salary?

An employer ask you to take a seat and you start talking about the job as he looks over your resume. You are thinking really hard about all your qualifications that will get you this job. The employer then ask what sort of salary are you looking for. Is this the right time to tell him what you want to be paid? The answer is no, not just yet.

First, think of when you go to the store and you are looking at clothing.  Think about when you first see something you want! You are very interested and you have to buy it. What stops you? For most people, it is the price tag.  What happens when the retailer asks you to try it on before you see the price? Most people that see the merchandise on them before they see the price tag are more than likely to buy it. This is the same thing with employers: you want them to commit to liking you before you talk about how much you are worth. Don’t let them screen you out because you are over their budget.

The employer asked early on in the conversation how much you are wanting to get paid, so what do you say?  To postpone the salary talk until you have been offered the job reply, “I’m sure we can come to a good salary agreement if I am the right person for the job, so let’s first agree on whether I am.” Or: “Salary? Well, so far the job seems to have the right amount of responsibility for me, and I am sure you pay a fair salary, don’t you?” (What can they say here?) “So let’s hold off on the salary talk until you know you want me. What other areas should we discuss now?”

You may think this seems bad that you are trying to avoid the employer’s question, but think of it from the glass half full side instead of half empty. The employer may be impressed that you’re wanting to make sure you are a good fit before you talk about how much you want to be paid. The more qualifications the employer knows you have, the more he is willing to pay you. So by postponing the salary talk until you have been told you are the right person, you will not get screened out and their salary offer may go up.

Resource:  Negotiating Your Salary: How to Make $1000 a Minute

Tyler Larson
Peer Counselor II
Powercat Financial Counseling
www.k-state.edu/pfc

IRAs: What They Are and What They Can Do For You

What is an IRA?

An IRA is an individual retirement account in which you can contribute up to $5,500 per year (2014), with an additional $1000 when you are 50 years and older, to save for your retirement. Most banks, mutual fund companies, and brokerage firms offer IRAs.  You must have earned income in order to contribute, and you can start withdrawing at age 59½.  There are two types of IRAs:

Traditional IRA:

  • Money goes in before taxes
  • Taxed on withdrawals
  • Must start withdrawing specified amounts at age 70½
  • 10% early withdrawal fee in most cases

Roth IRA:

  • Money goes in after taxes
  • Money isn’t taxed again, not even on the interest accrued or at withdrawal – allows your money to grow tax free
  • Not required to withdraw money at a specific age
  • Can withdraw early with no penalty for a first-time home purchase (up to $10,000) or in the event you become disabled

Some logic to consider about these is that when you first graduate and start out at a new job, generally you will be in a lower tax bracket than you will be as you reach retirement.  This being the case, it may be better to go with a Roth IRA so that you are taxed at a lower rate than you would be if you paid taxes upon withdrawal as with a traditional IRA.  On the other hand, if you don’t open an IRA until you have been working for several years and you are in a higher tax bracket, you may want a traditional IRA instead, since you will most likely drop to a lower tax bracket by the time you withdraw funds—this would happen if you were no longer earning income.  Try to choose the one that is the most taxably efficient for you depending on your situation and your plans.  Historically, tax rates tend to increase over time; however, there is always a possibility that the rates will be lower when you withdraw the funds, so this is another factor to consider as well.

Why Save Now?

You might be thinking, “I have student loans I need to pay off for the next 10 years, I can’t afford to save now,” or, “I’m only in my early 20’s, I have plenty of time to save for retirement.”  While these may be true, the reality is that life costs money.  Saving early, even if it is a minimal amount, will pay off.  If you are thinking that you want to retire at age 65 to 67, you have to consider how much you will realistically need to live on for 20-30 years after you retire.  You should also consider that you may not be the only one you need to provide for during that time: you may have a family to support as well.  Time is of the essence when it comes to saving for retirement.  If you start early, you will save yourself much stress later on.  If your employer offers you a retirement plan, take full advantage of it.  That alone, however, may not be enough to support you in retirement; this is why it is important to consider other avenues of saving such as IRAs, a savings account through your bank, or even investment portfolios.

Even if you have student loans or any other debt you are paying—such as a mortgage or car loan—it is still important to be saving.  Think of it as paying yourself.  You want to “pay yourself first”—you are investing in your future!  A good rule of thumb for saving is to set aside 10% of each paycheck.  Depending on your situation, you may want to save less than that in order to pay your bills, but if you are able to save more than that, you should.  There may come a time in your life when you aren’t able to save much at all for whatever reason, and you want to be able to have a cushion for those times.

The following is an example from PracticalMoneySkills.com of how postponing savings can hurt you:

The longer you delay saving, the harder it is to catch up…if you saved $100 a month at 8% interest, after 20 years your account would be worth $57,266. But wait only two years to begin saving and that balance would shrink to only $46,865 – over $10,000 less. A five-year delay would reduce the balance to only $33,978.

The Magic that is Compound Interest

Compound interest is a very powerful tool.  To illustrate, let’s say you are able to find a savings account that offered 8% interest on your money—this, unfortunately, is not a realistic bank account rate currently; however, if you shop around in the investment arena, you should be able to find higher rates of return.  If you started putting $100 per month into the account, you would have $450,000 by age 65.  If you put in $200 per month, you would have $900,000 in the same amount of time; and if you increased the amount to $300, you would have $1,000,000!  How cool is that?  This is how IRAs work.

This site also has many other calculators that you might find useful.

To learn more about compound interest, visit: http://www.practicalmoneyskills.com/personalfinance/experts/practicalmoneymatters/columns/compounding_110708.php

Saving Tips

If it is hard for you to save, whether it is something you easily forget, or it is just difficult for you to physically transfer money into savings, one simple solution is to have a portion of your paycheck go directly into savings.  When setting up a direct deposit through your job, you can specify how much you want to put into a separate savings account, whether this be a percentage or a dollar amount.  This way you won’t “miss” the money; you will be accumulating funds without even noticing that the money isn’t in your checking account.  You can also set up an automatic transfers from your checking to your saving account by talking with your bank.

Resources

Rachel Vogler
Peer Counselor II
Powercat Financial Counseling
www.k-state.edu/pfc

Mutual Funds

What is a Mutual Fund?

A mutual fund is a pool of investors in a “basket” of stocks and bonds. In other words, instead of you investing in one stock or bond, you combine your money with the money of several others to invest in many stocks and bonds. Mutual funds work like stocks in that the money you invest goes into the portfolio, and you receive shares of interest in the fund. There is a professional fund manager who is in charge of investing the fund. Some businesses use mutual funds as an investment medium for their employees’ retirement accounts, but you may also want to consider investing your own personal IRA (Individual Retirement Account) in a mutual fund.

Benefits

One of the benefits of mutual funds is that because the sum of money is so large, it makes the cost of purchasing and selling stocks much cheaper than you investing alone. It also means that the fund manager can invest in many more stocks and bonds than you can on your own. Another benefit of investing in a mutual fund is that someone else is managing the investments for you. Yes, this is a potential risk, but ideally you would choose a fund company that has a good reputation and track record and will have a manager in charge of the fund who has experience in investing and has been successful at it.

How to Get a Mutual Fund

You can purchase a mutual fund in several ways:

1) Directly through the fund company. Vanguard, PIMCO, and Fidelity are just a few of the many fund companies.

2) From a “supermarket.” This is basically purchasing funds through a third-party company. They are likely to charge you for purchasing funds, so be aware of all of the possible fees before investing with one of these companies.

3) Through a broker or financial planner who is qualified to sell investments. The benefits of going through a broker or a financial planner are that they are professionals who know about the market and the funds, and it is probably the most cost-effective way to go. Brokers will charge you for their services and possibly additional sales charges. Financial planners may do the same, but probably the least expensive thing to do would be to find a financial planner who charges by the hour instead of commission. They can probably find some less expensive, no-load funds for you (which are defined below).

Load Fees

It is important to be aware of load fees. Load fees are what brokers and financial planners charge you in order to make a commission on your investment. They will either charge you at the beginning—front-end load—or at redemption or sale of the fund—back-end load. Funds without loads are called no-load funds. In addition to these stated or understood fees, some brokers will try to tack on 12b-1 fees which is basically an extra but unnecessary expense to your investment. It is perfectly legal for them to charge you these fees, but is also perfectly unnecessary for you to pay the extra fee as the investor, so avoid them if you can. It might not be a stated fee so you may need to ask about it.

Checking out Fund Companies, Brokers, and Funds

It is crucial to do some research before diving in and investing in anything, whether it is a stock, bond, or mutual fund. You want to choose a fund company that has had consistent success in its performance and has a good reputation. The same goes for brokers. It is important to do a broker check beforehand, which you can do at http://brokercheck.finra.org/Search/Search.aspx.

To check out the performance of mutual funds as well as other types of investments, www.morningstar.com is a helpful site. As with any investment, make sure you do your research BEFORE investing your money. You should always know what you are getting into ahead of time.

http://guides.wsj.com/personal-finance/investing/how-to-buy-a-mutual-fund/

Rachel Vogler
Peer Counselor I
Powercat Financial Counseling
www.k-state.edu/pfc

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