Answers to your most embarrassing financial questions
I reached out to a bunch of friends and asked them to send me their most "embarrassing" or "stupid" money related questions. I put those words in quotations because the truth is, there aren't any embarrassing or stupid money questions. Don't be ashamed of what you don't know! Swallow your pride and find out the answer, your financial future depends on it! All of the questions I received were legitimate and relatable. I'm truly proud of everyone who sent me a question! I hope their bravery in asking will inspire you all.
Let's jump right in:
1. "I think my company offers the option to buy their stock but I don't know if it's discounted, how much I should buy, when I should sell it, how long I should let them grow?"
Great question, young padawan. First, let me ask you this: Is your company offering an Employee Stock Purchase Plan (ESPP) or Stock Options? (Ask your benefits manager if you aren't sure!) With an Employee Stock Purchase Plan your employer is giving you the opportunity to purchase company stock usually at a discount, typically ranging from 5%-15%. On the other hand, stock options give the employee the right to purchase the company's stock at a fixed price for a certain period of time. The cost is usually what the stock was valued at when the option was granted. There are two types of stock options, so it's important to know exactly what your employer is offering. Do not be afraid to ask!
Taking advantage of a company's ESPP or stock options can be a good way to build long term wealth. You don't want to put all your metaphorical eggs into your company's basket though. A diversified portfolio is crucial for long-term investing success, so make sure the company stock you purchase works well within your greater financial picture. Owning too much company stock can be an issue.
If you do decide to purchase your company's stock either through an ESPP or stock options, it's important to understand the different tax implications. I would get into tax consequences, but this article's already long enough! Here's a good article on common stock plan mistakes: https://www.fidelity.com/viewpoints/stock-plan-mistakes
2. "I have some bonds that have reached maturity...but I have no idea what a bond is. What am I supposed to do with them?"
Let me define "bond" before we continue. A bond, in the simplest terms, is money you are letting a government or company borrow for a certain period of time to fund their projects and initiatives. In return, the entity will pay you interest. There's a lot more to bonds than I care to write about, but when you get a minute, Investopedia does a good job at explaining how bonds work: http://www.investopedia.com/terms/b/bond.asp
After speaking with this particular friend, we discovered the bonds in her possession were savings bonds she received as a kid (you know the ones Grandma and Grandpa give you on your birthday or at Christmas). The savings bonds have matured and she doesn't know what to do with them. This is so common, I had three people last week alone ask me this same question.
For this friend, I would say her best choice is to redeem the savings bonds at the bank and reinvest the proceeds. Your savings bonds, while a low-risk investment, likely have underperformed the stock market in the last few decades. I suggest reinvesting in index funds or ETFs within a Roth IRA to maximize future growth. Remember, everyone's risk tolerance, risk capacity, time-horizon, and financial situation are different so be sure to consult with a financial planner or do your research before choosing any investments. Also, when you redeem your savings bonds, it counts as income that'll you'll have to report on your taxes that year. Here's some more information on what to do with your old savings bonds: http://www.wisebread.com/6-smart-ways-to-use-old-savings-bonds
3. "What's a 401k?"
Another solid question, young polliwog! The term "401(k)" refers to the Internal Revenue Code's subsection 401(k) which lays out the details and requirements for employer-sponsored defined-contribution retirement plans (defined-contribution means the employee is contributing money to the plan). Now, there are a few types of 401k's, but generally speaking, the 401k is a tax-deferred account to save money for your retirement (tax deferred means the money you put into it won't be taxed until you withdraw it in retirement, all your contributions and earnings within the 401k will grow without having to worry about annual taxes!) A 401k allows you to invest money directly from your paycheck before taxes.
So why should you participate in your employer's 401k plan? Because it's the best way to save money for retirement! Taxes eat away at your investments' earnings. By contributing to a 401k, you are sheltering your contributions. and subsequent earnings, from the IRS until you withdraw it in retirement. When you're at least 59 1/2 years old, and decide to start withdrawing your 401k funds, you will be taxed at your ordinary income tax rate.
You can contribute up to $18,000 per year into your 401k. The amount you contribute is a percentage of your paycheck. You'll let your employer know how much to withdraw ahead of time.
As mentioned earlier, there are a few variations on the 401k, if you have questions, be sure to ask your HR department or get your hands on an employee manual and do your research! For more on 401k's check out: http://www.investopedia.com/terms/1/401kplan.asp
4. "What's the difference between a Traditional IRA and a Roth IRA?"
Another important question, from the same little polliwog friend. So first of all, IRA stands for Individual Retirement Account. A traditional IRA is an account where you're contributing pre-tax money. The contributions you make are deductible at both the federal and state level in the current year. The money will then grow over time (of course you have to pick good investments within the IRA) without having to deal with federal income taxes each year. When you withdraw the money in retirement, that's when it'll be taxed at your ordinary income tax rate.
A Roth IRA is an account where the money you contribute is considered after-tax, meaning you will pay income taxes on the money in the year you contribute (there are no tax deductions for Roth IRA contributions). The money in the Roth IRA will grow tax-free. Unlike the Traditional IRA, when you withdraw the money in retirement, it will be tax-free, because you paid taxes on your contributions in the year you made them.
Think of it this way, it's a pay taxes now (Roth) or pay taxes later (Traditional) scenario. The idea behind the Roth IRA is that you'll likely be in a lower tax bracket now as a young person than you will when you're older. Either way, IRAs are a great tax-sheltered vehicle to save for the future. They do have a lot of other rules you'll want to read up on here: http://www.rothira.com/traditional-ira-vs-roth-ira
5. "Why should I put money away when the government already takes money out of my paycheck for Social Security?"
An important question, dear friend. Simply put, your Social Security payments will not be enough to fund your retirement. It's not a good plan to leave your golden years in the hands of other people (i.e. the government) either. Social Security has it's issues, and if you're at least 40 years old you'll probably get the benefits you're owed, but there's always a chance the government could decrease your payments if there's mismanagement or if there's more people claiming Social Security benefits than paying into the system (cough cough Baby Boomers cough cough).
If you don't want to adjust your lifestyle much in retirement, you're going to have to put money away yourself.
6. "How much money should I be contributing to my retirement fund?"
A great question from a southern friend! I get this question A LOT and the answer depends on your overall financial situation and no two situations are the same. First, how much money do you make? Do you have a lot of student loan debt or other types of debt? Do you have an emergency fund? Does your employer match contributions? These are important questions to have answered before deciding how much to invest.
If your company offers a match, you should contribute the necessary amount to receive the match. This is free money. Even if you've got student loans and a car payment, put enough into your 401k to qualify. Don't leave free money on the table.
Ideally, it would be great if you could afford to contribute up to 15% of your pay into your 401k (there is a limit of $18,000 if you're under 50). Obviously, this isn't feasible for many young people. I would suggest trying to increase your contribution 1% each year.
If you don't have a retirement plan with your employer, and if you qualify, open a Roth IRA. You can contribute up to $5,500 per year. Putting something away is better than nothing. Your future self with thank you.
7. "When you're an independent contractor, how can you estimate how much money you'll owe for taxes? How much should I set aside ahead of time to prepare for taxes?"
This question comes from one of my friends in comedy, and is a super common situation among actors, writers, and basically anyone who freelances for a living. If you receive a 1099 instead of W-2 this is for you:
First, you need to figure out how much money you expect to make and how you're going to file (single, married filing jointly, married filing separately, etc.). From there you'll be able to calculate what tax bracket you're in. Visit the IRS site to see what bracket you're in: https://www.irs.com/articles/2016-federal-tax-rates-personal-exemptions-and-standard-deductions
You also need to account for state income taxes (most states have an income tax, you may need to see if you will owe any county, city, town taxes as well). Look up your state income tax, it shouldn't take long with the power of search engines.
Now, you'll have to do some math. Here's a cool calculator to do the federal income tax math for you: http://www.moneychimp.com/features/tax_brackets.htm
Let's say your federal tax bracket is 15%, and your state tax is 5%. This means each time you get a paycheck you should save 20% because you'll owe that in taxes. Try to find a savings account with a decent interest rate and save your money there.
Finally, you've got a couple options as to how to pay the taxes. You can either wait until tax time and pay your bill in full or make estimated quarterly payments throughout the year. I would recommend you make estimated payments. You'll want to pay at least 90% of your estimated tax bill to avoid any penalties for underpayment.
You can go to https://www.eftps.com/eftps/ to get enrolled to pay your estimated taxes. Or you can use the Direct Pay system (a little easier to use) to pay estimated taxes: https://www.irs.gov/payments/direct-pay
Thank you to all the friends who sent me questions, I owe you all a round of drinks! I hope this empowers you in your journey to financial freedom.
The post Answering Your Most Embarrassing Financial Questions appeared first on The Funny Financial Planner.
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