Written by: William Omberg, 2017 Summer Intern
As a rising college freshman, I have my work cut out for me in dealing with my personal finances over the next decade. Even excluding the effort that is paying for college (read a thorough explanation here), the onset of earning income, saving for future expenses, paying current ones, and attempting to enter the market as soon as possible (despite its current high valuations!) are all a bit overwhelming. Luckily, there is no shortage of avenues to help me and other teenagers begin our financial journeys.
The first step in managing money is to obtain money, with the most obvious and legal option being to have a job. The second step is to save money for daily expenses and to maintain an emergency fund for unexpected expenses. This should be done before worrying about an IRA or other long-term investment accounts. While interest rates on traditional savings accounts are currently low (at an average of .06% APY), online savings accounts offer much higher rates – roughly 17 times higher than traditional counterparts. These accounts are not tied to brick and mortar stores and operate solely on e-platforms, namely mobile devices. As with all financial products, there are pros and cons to each account, ranging from higher yields to ATM access. Among reputable banks, the best two options that I have found are Goldman Sachs Bank and Ally Online Savings. Both have no account fees nor balance minimums. Goldman Sachs currently offers a higher APY at 1.20% but does not offer its own checking account, so transfers to and from the account take two days. Ally offers a slightly lower APY at 1.15% but also offers checking accounts and credit cards, so account transfers between different Ally accounts are instant, providing on-demand liquidity. No matter which option you choose, an online savings account is the ideal rainy-day fund tool for a millennial (or anyone) with a propensity towards e-banking.
After setting money aside for a liquid emergency fund in an account that earns at least marginal interest, the path becomes less obvious. A forward-looking option would be to apply for a student credit card. In doing so, there should be an open dialogue between parent and child over the detriments of “buy now, pay later” and the logistics of paying the bill. Making payments on time and in full will help build a sturdy credit score foundation, which will minimize future insurance premiums and mortgage rates. In fact, 15% of a credit score is based on the length of credit history. Additionally, many student credit cards offer cash back rewards and other incentives. For the most lucrative deals, again look to Ally and their Cashback Card. Pairing the card with Ally’s online savings enhances benefits with a cashback match program. Another solid option is Discover, currently offering similar cashback and even an annual $20 bonus for maintaining a GPA of a least 3.0.
Hand-in-hand with a steady paycheck comes the regular payment of taxes. The good news is that beginning to pay taxes opens the door to tax-deferred savings vehicles, such as a Roth IRA. The specific details on contribution eligibility are mentioned here. The overall concept is quite simple: contribute as much as you can in post-taxed dollars (up to the lesser amount of your yearly earnings and $5,500 annually) and reap the benefits in untaxed withdrawals come retirement and/or a few exceptional circumstances. Individuals can withdrawal up to $10,000 for the purchase of a first home and an unlimited amount of money for educational expenses tax-free and penalty-free. These exceptions allow for an individual to save for two major upcoming expenses and retirement in the same tax-deferred account.
With excess cash after dutifully maintaining a savings account, paying off a student credit card, and/or contributing to a Roth IRA, opening a traditional brokerage account can also be fruitful. For those making less than $37,950 annually, long term capital gains are taxed at a rate of 0%. In essence, every account is a tax-sheltered one for teens. An IRA is still preferential due to it being tax-deferred no matter the future tax bracket, but in cases where a child receives a substantial sum of money from gifts or non-taxable income (maybe via a neighborhood lawn-care service), a brokerage account will suffice. At least one year after the purchase of a security, after a child begins earning income, he can sell the security in his brokerage account in a non-taxable event, so long as the total of his income and realized gains is less than $37,950 during that year. From there, the funds can be used to maximize Roth IRA contributions and lock-in tax-deferred growth for decades or simply as a medium-term investment tool until funds are needed after college.
No matter the particular financial position of a teenager, at least one of the aforementioned vehicles will prove beneficial, whether it be switching savings account providers or beginning a trail of credit history or opening an investment account (tax sheltered or otherwise). As always, each situation is unique. Please consult your financial strategist with any specific questions.
Written by: William Omberg, 2017 Summer Intern