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5 Rules to Guide Your Investing Career

In college, students learn many of the skills necessary for achieving success in the workplace. When it comes to achieving financial independence, though, many recent graduates may feel underprepared.

Student debt plays a big part—the average college student graduates with nearly $30,000 in debt.1 Many new graduates have to account for student loan payments on top of other monthly expenses, some of which they will be facing for the first time.

Another challenge relates to savings. Adopting a saving discipline early in your career is important for realizing your long-term financial goals, but it can be difficult to know just how much you can sock away.

When Bridget Devine’s college internship turned into a full-time job shortly after graduation, she knew that some of her salary would go to savings. As early as age 14, her father taught her the importance of saving some of what she earned from babysitting and summer jobs.

After college, every time her checking account reached a certain level, she would transfer some money to her Schwab brokerage account. “The first $1,000 check was one of the hardest I’ve ever had to write, but after that it got easier,” says Bridget, now 25.

“I knew that if it was out of sight then it was out of mind, and that I wouldn’t be able to spend it,” she says.

What worked for Bridget may not work for everyone. Each individual has to devise their own plan when it comes to managing finances. With that in mind, here are five areas new graduates should focus on to build a firm financial foundation.

Budgeting

Before you can even think about saving, you will need to get a handle on your monthly income and expenses.

Typically, rent is the biggest monthly expense and should be a prime consideration when deciding where to live. Most personal finance experts agree that your rent should account for no more than 30% of your income before taxes.2 If you earn $45,000—the national average starting salary of employed 2013 college graduates—your monthly rent should not exceed $1,125.3 Some college graduates live at home for the first few years out of college, or live with roommates, to help avoid or minimize rent.

Utilities such as electricity and water may be included in the rent, but it’s wise to check before signing a lease. Also, the rent will likely increase over time, and renters who plan on staying put for a few years should account for this possibility.

Distinguish between essential costs—the ones that must be paid each month—and discretionary expenses by categorizing each as “need” versus “want.” It’s OK to indulge in a want now and then, as long as it doesn’t rule your spending and you’re not acting on impulse.

Managing debt

Graduating with student debt is a reality for a majority of American college students. Of the approximately 20 million people who attend college each year, nearly 12 million borrow annually to help cover the costs.4

Typical federal loans give recent graduates a six-month grace period before they must begin repaying what they borrowed, but after that it’s the borrower’s responsibility to make timely monthly payments. Graduates can postpone or reduce loan payments if they qualify for loan deferment or forbearance. The Income-Based Repayment plan, enacted in 2007, is available for borrowers who are experiencing financial difficulty, have low income compared to their debt or are pursuing a career in public service. If you’re not sure if you qualify for such debt relief, check with your lender.

In addition to college loans, many students also graduate with some credit card debt. Interest rates on revolving credit card debt—debt that’s not paid off each month—are typically much higher than on other forms of debt, so it’s important to pay off credits cards as quickly as possible.

Failure to make monthly debt payments can hamper the ability to secure a loan down the road. The most widely accepted measure of creditworthiness is the so-called FICO® score, which is determined by five things: payment history, length of credit history, credit utilization, frequency of new credit requests and types of credit used. Some amount of credit is actually beneficial, as long as you pay your bills on time and keep your balances low.

FICO scores range from 300 to 850 and are used by lenders as a quick measure of the ability to repay debt. The median score is around 725, but a score of 760 or higher typically results in lowest interest rates.

One proven strategy for convenient debt repayment is to sign up for automatic withdrawals from your checking account. In some instances, it may be worth consolidating your student loans or credit card debt to secure a lower interest rate.

Saving

Once you know how much of your income will go to rent, debt and other fixed costs, it’s a good idea to set aside a portion of the remaining funds for savings.

The most attractive savings vehicle employers may offer is a 401(k) retirement plan. Traditional 401(k) plans allow employees to have some of their income withdrawn on a pre-tax basis, meaning it comes out of your paycheck before income taxes are deducted. You don’t pay any taxes until you withdraw the money in retirement. A Roth 401(k), if available, doesn’t provide any upfront tax benefit but withdrawals in retirement are tax-free. A Roth could save you taxes when you retire, assuming you’re in a higher tax bracket down the road. Either way, the maximum individuals under age 50 can put into a 401(k) account this year is $17,500.

Many employers will match a portion of your savings, so it’s like passing up free money if you don’t participate. Before accepting a job offer, find out whether your prospective employer has a 401(k) plan, if an employer match is offered and how soon new employees can participate.

Bridget started taking advantage of her employer’s 401(k) plan as soon as she could. “I contribute as much as possible,” she says. “I figured if I could get used to contributing at an early age, then I wouldn’t miss it as much later, when my earnings increase.”

Individual retirement accounts—or IRAs—are also attractive long-term savings options. With a traditional IRA, if eligible, you can deduct your annual contributions from your taxes (although the amount you can deduct is reduced with increasing Modified Adjusted Gross Income) but you will have to pay taxes on the money when you withdraw it in retirement. A Roth IRA has income-eligibility restrictions and allows for tax-free earnings and withdrawals in retirement but you will not get the upfront tax deduction.

When deciding how much to save of your monthly income, it’s important not to set the bar too high. One standard guideline used by personal finance experts is to save 10–15% of your income each month. That way, your savings contributions will grow along with your income.

Still, individual circumstances differ, so you may want to reduce or increase your own starting contributions. If you’re having difficulty saving money, consider making incremental changes to your daily life, such as bringing lunch to work or taking public transit.

Insurance

Employers don’t have to offer health insurance, but when they do, their health plans have one of three cost-sharing components:

  • Deductible: the amount you pay for health care services before your health insurance begins to pay.
  • Coinsurance: your share of the costs of a health care service, typically figured as a percentage of the total charge.
  • Co-pay: a fixed amount you pay for a healthcare service, usually when you receive it.

It’s important to understand your health plan and budget for expenses accordingly. If your employer doesn’t offer health insurance or you aren’t fully employed, you can stay on your parents’ health insurance plan until age 26.

Investing

Time can be a powerful ally when it comes to investing, mainly due to the power of compounded growth. What you put into your account has the potential to earn income, and the income in turn is reinvested, creating a potential multiplier effect as your contributions and reinvestments keep building on each other.

For example, a hypothetical investment of just $100 per month, every month, could grow to almost $100,000 in 30 years at an average 6% annual compounded rate of return.

Regular contributions allow you to take advantage of “dollar-cost averaging,” an automatic investment plan through which you buy securities in fixed dollar amounts over a period of time. When stock prices rise, you’ll buy fewer shares, and when they fall, you’ll buy more. The key is to invest consistently to tap into the potential for earnings over time, as shown below.

Regular investment 

Share price

Shares purchased

$70

$5

14

$70

$7

10

$70

$2

35

Average cost per share: $3.55

Number of shares purchased: 59

“It’s hard because when an investment loses value you’re tempted to get out of it,” says Bridget, who follows her stock holdings daily and checks her portfolio balance three to four times a week. “But my dad taught me that a good stock is a good stock no matter what happens in the short run.”

Next Steps

• Help your graduate explore saving strategies at schwab.com/OIstrategiesforsaving.

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Important Disclosures

Past performance is no guarantee of future results.

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