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Adulting is hard. Between figuring out how to do your own laundry and figuring out how to show up to work every day, the last thing anyone wants is to start thinking about how to set themselves up for long-term financial success.
And yet, living through your 40s in blissful ignorance of the fact that you’re going to want to retire someday is about as advisable as taking your whole paycheck to the roulette table and betting it all on Black 17.
Don’t worry though: we’ve checked with some excellent financial advisors and compiled a list of the five actions you’ll want to make sure you take before you turn 50 in order to set yourself up for financial freedom even after you stop working.
1. Open an IRA
We’ve already written a fairly extensive article on why you should get an IRA as soon as humanly possible, but we’ll rehash some of the finer points here.
What it is
An IRA — or 401(k) or 403(b) — is a tax-incentivised retirement account. That means that, because the purpose of the account is to save for retirement, you get some tax incentives for contributing to it. As a result, you have a harder time accessing your money pre-retirement, and will likely pay some hefty penalties if you need to withdraw funds before you reach retirement age.
What do those tax incentives look like? Well, in a Traditional retirement account, you are able to make contributions without paying taxes on the money you deposit. This means you’re able to contribute more money to your retirement on the front end. When you retire, however, the withdrawals you make are taxed as income.
In a Roth account, on the other hand, you pay taxes before you deposit money, so you have less going into the account on the front end. Your withdrawals during retirement, however, are not subject to taxation.
Why you want one
First, because IRAs etc. are investments, they tend to grow at considerably higher rates than you could ever hope to get from a savings account. For comparison, the best interest rate you could hope to get from an online savings account is around 4% (however most banks’ rates are much lower than that — the average is less than 1%). A conservative estimate of expected investment growth, on the other hand, is 10%.
So, by putting your money in an account that invests it, you are much more likely to grow your wealth ahead of inflation (which averages around 2% over the last 20 years).
But wait, there’s more! Because of the magic of compound interest, the longer you have your money invested in an IRA-style account, the more it’s going to grow. The math on this type of interest is almost unbelievable: without getting too much into the weeds (we did that already, and you can read about it here), starting your investments at 25 as opposed to 35 is likely to net you an extra $150,000 by the time you retire — and that’s not accounting for the additional deposits you’ve made over those extra years.
The moral of the story is “it’s never too early to get an IRA.” It’s also never too late — any contribution will grow well ahead of any other investment options, even if you’ve missed the opportunity to start in your 20s.
2. Buy Property
Paying rent on your living space is the financial planning equivalent of flushing it down the toilet: you aren’t actually getting anything out of the deal other than a place to live because you don’t actually own anything.
For this reason, buying a house is generally an excellent investment. When you make mortgage payments, you’re building equity in a house that you own. It’s more like putting that money in a bank because, assuming the value of your home stays stagnant, when you sell it you’ll get all that money back.
But home prices don’t stay stagnant. In fact, they’re technically one of the best investments you can make. The average real estate appreciation year-over-year is 14.5% in the US, which outpaces basically any other investment you might be able to make.
Granted, owning a home does come with some costs. First, there’s the upfront cost of the down payment you’ll need to take out a mortgage, which can be especially prohibitive (although most banks offer mortgages with only 3.5% down to first time home buyers).
You’ll also have to pay to maintain the home yourself — when you own your house, you can’t just call a landlord and have them fix your leaky faucet. You can learn all sorts of minor maintenance skills online, however, and so — unless something goes horribly wrong — it’s still a good investment to buy a home.
There are a couple of exceptions to this rule, of course. First, if you plan on moving within a couple of years, it’s unlikely that the value of the home you buy will appreciate enough for you to make a profit when you factor in closing costs (which tend to add up to between 3 and 6% of the amount of the loan).
Another exception has to do with the quality of the home you’re buying. If the house is falling apart and you’re going to need to spend more than it’s ever going to be worth to make it liveable, you shouldn’t buy it (even if it has the wood burning fireplace you’ve always wanted).
Finally, if the city or town you live in has a declining population, buying a home there may not be a good investment. If the housing market is depreciating, you may never be able to recoup your investment.
3. Get out of Debt
As lucrative as investing in the stock market or real estate can be, none of it is going to grow at even close to the rate of high-interest debts. I know we just told you to buy a house, which (unless you’ve won the lottery) involves taking out a mortgage, which is a debt, but that’s not the kind of debt we’re talking about here.
Mortgage rates have certainly gone up recently, but you’re still looking at about 6%, which is historically quite low (between the 1970s and 2000, rates did not fall below 7% and rose to over 10%). Even student loan debt (assuming it’s subsidized) probably has a relatively low interest rate — the national average is 5.8%.
In either of these cases, the investments you make are likely to grow faster than your debt (if you assume an annual 10% return on investment from the stock market). The average interest rate on a credit card, on the other hand, is between 18 and 20%, which is just completely bonkers.
No investment is going to outpace that kind of growth, and so it’s generally advisable to pay off your high-interest debts before you start making serious, long-term investments.
4. Start an Education Fund for Your Kids
If you haven’t heard, college is expensive, and, despite Bernie Sanders’ outraged yelling about how we need to make it free, it’s only getting more expensive. The average cost of college tuition currently sits right around $19,000 per year (about half that if you’re paying in-state tuition at a public school, and double it if you’re attending a private, not-for-profit university).
And that doesn’t even cover room and board, which is another $11,000 – $14,000 per year depending on where you go and how fancy the dorms are.
What’s more, these are just the averages. If your kid has their heart set on an Ivy League school, for example, you’re going to be on the hook for upwards of $70,000 per year in tuition alone (CBS News’ list of the 50 most expensive colleges in the US are all above $70,000 per year).
Suffice it to say that, unless you’re Jeff Bezos, you’re unlikely to be able to afford paying tuition out-of-pocket, and you should start saving up as soon as possible (especially if you have more than one child).
5. Buy Life Insurance
Have you ever witnessed the look of utter shock and devastation on a child’s face when the tide comes in and washes away the sandcastle they’d just spent 15 minutes building?
Well, imagine that child is you, the sandcastle is the quality of life you’ve built up over the years, and the tide is any number of misfortunes that befall normal, hardworking people on a daily basis (illness, injury, market fluctuations, death, etc.).
Now, that was all very bleak for sure, but it is good to be prepared for the worst, especially when doing so won’t break the bank. That’s why most financial advisors suggest purchasing some sort of life insurance policy.
Life insurance is, essentially, a contract between you (the policyholder) and an insurance company. In return for monthly premium payments, the insurer agrees to pay out a lump sum of money to your beneficiaries upon your death. There are a few different types of life insurance, however the most common ones are Whole Life insurance and Term Life insurance.
Whole Life insurance is for, well, your whole life. You pay the premium as long as you live, and when you die your beneficiaries are guaranteed to receive a lump sum.
Term Life insurance, on the other hand, is more like a bet. When you buy the policy, the term is set (20 years, for example). Then, you pay premiums for the duration of that term or until you die (whichever happens first). If you die during the term, your beneficiaries are paid out.
As you might expect, Whole Life policies are much more expensive than Term Life policies, however they also allow you to access some of their value during your life, so they tend to be better investments overall.