Investing as a young adult is one of the most important things you can do to prepare for your future. Once you set up your investment accounts, you’ll be well on your way to saving for goals like retirement, purchasing a home or even future travel plans.
Many 20-something investors will have limited funds available for investing, but you don’t need thousands of dollars to get started with a strategy that will pay off handsomely over time.
How to start investing in your 20s:
Start building an emergency fund
Set your investment goals
Contribute to an employer-sponsored retirement plan
Open an individual retirement plan (IRA)
Find a broker or robo-advisor that meets your needs
Consider leveraging a financial advisor
Keep short-term savings somewhere easily accessible
1. Start building an emergency fund
First thing’s first: Always try to begin with building up an emergency fund. You’ll ensure that you’re covered if an unexpected expense were to arise, like a job loss or natural disaster, but you’ll also develop the habit of regularly contributing to a fund.
How much should you save?
“There’s both the mathematical answer and the emotional answer,” says Claire Beams, financial planner at Rhinevest in Cincinnati. “Mathematically, it’s saving three to six months of your fixed, ongoing expenses. But emotionally, maybe that’s not enough money for you to sleep at night. So it’s finding that perfect answer for you.”
Even if you start with just $100 or $500 in a high-yield savings account, you can contribute to your fund regularly and build it up over time.
2. Set your investment goals
Once you’ve begun contributing to an emergency fund, start thinking about the goals you want to work towards by investing.
“It’s ultimately looking at all the experiences you want to have over your lifetime and then prioritizing those things,” Beams says. “For some people, maybe they want to travel every single year or they want to purchase a car in two years and they also want to retire at 65. It’s crafting the investment plan to make sure that those things are possible.”
The accounts you use for short-term goals, like travel, will differ from those you open for long-term retirement goals.
Most important in your 20s, though, is just starting the habit of saving.
“Committing to a specific savings rate and continuing to increase that year-after-year is what’s going to have the biggest impact early in your savings career to get you started,” according to Ross Menke, a certified financial planner at Lyndale Financial in Nashville, Tennessee.
Once you’ve outlined a set of goals and established a plan, you’re ready to look into specific accounts.
3. Contribute to an employer-sponsored retirement plan
20-somethings who begin investing through an employer-sponsored tax-advantaged retirement plan can benefit from decades of compound interest earnings. Most often, that plan comes in the form of a 401(k).
A 401(k) allows you to invest money on a pre-tax basis (up to $19,000 in 2019 for those under age 50) that grows tax-deferred until its withdrawn in retirement.
Many companies also match employees’ contributions up to a certain percentage.
“You always want to contribute enough to at least get that match, because otherwise you’re just walking away from more-or-less free money,” Beams says.
Even if you can’t max out your 401(k) right away, starting small can make a huge difference over time. Develop a plan to increase contributions as your career progresses and income climbs higher.
Bankrate’s 401(k) calculator can help you figure out how much to contribute to your 401(k) in order to build up enough money for retirement.
4. Open an individual retirement account (IRA)
Another way to continue your long-term investment strategy is with an individual retirement account, or IRA.
There are two main IRA options: traditional and Roth. Contributions to a traditional IRA are similar to a 401(k) in that they go in on a pre-tax basis and are not taxed until withdrawal. Roth IRA contributions, on the other hand, go into the account after-tax, and qualified distributions may be withdrawn tax-free.
Investors younger than age 50 are allowed to contribute up to $6,000 to IRAs in 2019.
Experts generally recommend a Roth IRA over a traditional IRA for 20-somethings because they’re more likely to be in a lower tax bracket than they will be at retirement age.
“We always love the Roth option,” Beams says. “As young people make more and more money, their tax bracket is going to increase. They’re paying into those funds at that lowest tax rate today, so that when they retire they can take that money out without tax.”
Still, Menke advises investors of any age to consider their personal situation before making a decision. “It’s all dependent on when you want to pay the tax and when it’s most appropriate for you based on your personal circumstances,” he says.
5. Find a broker or robo-advisor that meets your needs
For longer-term goals that aren’t necessarily retirement-related, like a down payment on a future home or your child’s education expenses, brokerage accounts are a great option.
And with the advent of online brokers and robo-advisors like Betterment, Acorns and Wealthfront, they’re more accessible than ever for young people starting out with little money.
These companies offer low fees, reasonable minimums and educational resources for new investors, and your investments can often be made easily through an app on your phone. Betterment, for example, charges just 0.25 percent of your assets each year with no minimum balance or 0.4 percent for their Premium plan, which requires at least $100,000 in your account.
Many robo-advisors simplify the process as much as possible. Provide a bit of information about your goals and time horizon and the robo-advisor will choose a portfolio that matches up well and periodically rebalances it for you.
“There’s a lot of good options out there and each of them have their own specialty,” Menke says. Shop around to find the one that best fits your time horizon and contribution level.
6. Consider leveraging a financial advisor
If you don’t want to go the robo-advisor route, a human financial advisor can also be a great resource for beginning investors.
While it is the more expensive option, they’ll work with you to establish goals, assess risk tolerance and find the brokerage accounts that best fit your needs. They can help you choose where to direct the funds in your retirement accounts as well.
A financial advisor will also use their expertise to steer you in the right investment direction. While it’s easy for some young investors to get caught up in the excitement of daily market highs and lows, a financial advisor understands how the long game works.
“I don’t believe investing should be exciting, I think it should be boring,” Menke says. “It shouldn’t be seen as a form of entertainment because it is your life savings. Boring is okay sometimes. It’s coming back to what your time frame is and what your goal is.”
7. Keep short-term savings somewhere easily accessible
Like your emergency fund, which you may need to access at a moment’s notice, store your short-term investments somewhere easily accessible and not subject to market fluctuations.
While they won’t earn as much as money you put into equities, high-yield savings accounts, CDs and money market accounts are great options.
“If you need the money available in a couple years, then it shouldn’t be invested in the stock market,” Menke says. “It should be invested in those more secure vehicles like a CD or money market where, yes, you might be giving up some potential growth, but it’s more important to have the return of your money instead of a return on your money.”
Ready to get started?
Begin your investment journey by thinking through what your short-term, intermediate and long-term goals are, and then find the accounts that best fit those needs.
Your plans will likely change over time, but getting started with at least a retirement account is one of the most important things you can do for yourself in your 20s.
Not only will you ensure your money keeps up with inflation, but you’ll also reap the benefits of decades’ worth of compound interest on your contributions.
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6 differences between a Roth IRA and a Roth 401(k)
Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past investment product performance is no guarantee of future price appreciation.