Investor Boot Camp

It’s probably no accident that America Saves Week occurs amid the heart of tax season. Last year, nearly 130 million taxpayers were issued refunds and the average refund amount was $2,815. Maybe instead of blowing the dough, you should use it to jump start your savings and investing plans. If you are a new investor, or even seasoned one, here’s my version of Boot Camp to start the process. I have framed our camp as a series of questions to ask yourself.

Am I ready to invest?

Before you build the house, you need a foundation. In the case of your investment house, the foundation starts with creating an emergency reserve fund of 6 to 12 months of living expenses, paying down debt, like credit cards or student loans, and then turning to retirement planning/investing.

Should I invest if I have debt?

It makes sense to contribute to retirement plans that provide a match, even if you have outstanding debt. Beyond the match, direct extra cash flow towards the debt. Remember, if you have a credit card balance that is costing 15 percent, paying it down is the best investment you could make. Where else could you get a guaranteed, risk-free return of 15 percent? With most student loans at 6 percent or so, paying them down also makes more sense than risking those same dollars in the markets.

Do I have a retirement plan at work?

If yes, then your workplace plan will be the easiest way to start investing, because they automatically pull money from your paycheck and direct it into investments of your choosing. The bonus is that many companies offer matching contributions.

Should I use a Roth or a Traditional?

If you do not have a retirement plan through work, you can open an IRA or Roth IRA at any brokerage firm, bank, or through an app. You can then set up an automatic transfer from your checking or savings, into the IRA. This year, the limit for the IRA is $6,000 ($7,000 if over age 50). The difference between a traditional and a Roth IRA is how the account is taxed on the way in and on the way out. With a traditional, the money that you put into the account is not counted as income for tax purposes. The money grows without taxes until you reach age 59.5, which is when you are permitted to take money out. When the money comes out, it is taxed at whatever your income tax bracket is at the time in the future.

With a Roth, you do not take any tax deduction today, there is no current taxation on earnings or capital gains on trades made in the account, but when you access and withdraw the funds after age 59.5, there is no tax due. Additionally, Roth IRAs are not subject to Required Minimum Distributions, which must occur at age 72. 

How should I invest the money? 

The basic concept of not putting all your eggs in the same basket applies to investing – we call it diversification. The most common asset classes are stocks (ownership in a publicly traded company), bonds (loans to companies, cities, or governments), commodities (gold, oil), real estate, and money markets (cash). Most companies will help you create an allocation that is consistent with when you need your money and your risk tolerance. You should rebalance your accounts regularly (once or twice a year) so that your allocation remains in line with the original allocation. Many retirement plans offer automatic rebalancing, which you should use.

How do I select the “right” funds for me?

In retirement plans, you will usually find a menu of mutual funds, which are pooled investments that allow you to own a sliver of each of the desired assets. The cheapest funds are those that track an established stock, bond, or commodity index (i.e., the S&P 500). These cost far less than actively managed funds and over the long term, perform at least as well, and in many cases, better than actively traded funds. You can also use Target Date Funds, whereby an investment company allocates the investments on your behalf according to your intended retirement date.

Where should I open an IRA?

You have probably heard of the big companies that offer cheap index funds: Vanguard, Charles Schwab, Fidelity, E*Trade, TD Ameritrade. You can also check out robo-advisors, which are automated systems that make it easy to invest. You start by completing an online questionnaire, which considers your financial goals, time horizon, and risk tolerance. Based on your responses, the software slots you into the most appropriate portfolio. Robo fees range from 0.2-0.5 percent of the account value every year. Many of the firms above have robo options, as does Betterment and SoFi, some of them also offer financial advice.