401(k)

If your employer has a 401(k) plan, it is the easiest way to save money for retirement. It is a way to pay myself first because it is taken out of my paycheck before it is deposited into my checking out.

I think that saving for one's retirement is an important goal. Unless you are lucky enough to work for a company that has a defined benefit pension plan or are independently wealthy, you'll need to save. Hopefully, Social Security will still be around, but I have serious doubts about its solvency and I'll likely be getting very little in terms of benefits, if at all. Even then, I doubt that I could survive on Social Security alone if I'm not able to save anything, so saving something, if only a little bit is a must.

What is a 401(k)

A 401(k) plan is based on IRS code and are employer sponsored. There are two variations: (1) a traditional 401(k) account where money is taken out on a pre-tax basis and income taxes are deferred until withdrawal, and (2) a Roth 401(k) account where money is taken out on a post-tax basis, but withdrawals are tax free.

Benefits and Reasons to Invest

If you're lucky, you work for an employer that encourages 401(k) participation by matching a portion of the contributions that an employer makes. For instance, some employers will match 50% of your contributions up to 6% of your earnings, which is a 3% total contribution. This is free money! At the very least, in this scenario, one should contribute at least 6% of earning in order to maximize the employer match, but some employer contributions are subject to vesting requirements (some have a 4 year vesting period, were 25% of the employer match vests each year).

Another benefit if you invest in a tradition 401(k) is that it defers some of your federal tax liability for the current year. For instance, if you made $50,000 and contributed $5,000 to your traditional 401(k), then you'd only have to recognize $45,000 of income. This may also be a means to lower your tax bracket if you are on the fringe. However, note that withdrawals are taxed. In some sense, you only defer your tax liability but hopefully at that time, you will be in a lower tax bracket so the total tax liability will be less.

Downsides

There are a few downsides to investing in a 401(k):

• Some plans offer a limit set of investment choices. I would still do a bit of research because your contributions are still an investment and it may not make much sense if you have poor choices. Before investing in any fund, I do a basic search on Morningstar and look at each fund's ratings.

• Some have high fees. Look at BrightScope, to get an idea of whether your plan has higher fees than those of its peers. While it looks at outdated data, at least it will give you an idea.

• It's still a bit risky. Notwithstanding the tax benefits and the ease of "investing", it's still an investment subject to risk. Note that this is a long term investment and the stock markets (assuming you invest most of your contributions in stock funds) have generally gone up in the long term, there are still risks involved. Just look at the recent stock crashes. I remember looking at my 401(k) statements in dismay last year when the stock market plunged. It felt as though all of my hard work was all for naught and that I should have just spend the money (however, if I hadn't just kept on going, I would have then missed out on the impressive rebound, but let's see how that lasts).

Withdrawals

401(k)s are supposed to be long term investments. This is supposed to be for one's retirement. Thus, the most important question, really, is when can I withdraw the funds? When I started working, I was 27 and 65 seemed like an eternity away. Was I really going to put money away now so that I can enjoy it 38 years later? In some ways, I knew that I would have to save for my eventual "retirement" but it seemed so distant, so theoretical whereas I had pressing needs that needed immediate attention. Rent/Mortgage. Food. Entertainment.

But, I knew that I wanted to take advantage of the power of compounding and start investing early. I knew that the earlier I started, the better off I'd be so I bit the bullet and started contributing to my 401(k). I have faith that in the long run, the stock market will go up, but even if it didn't, I want to at least have some money put away.

So, when will I be able to start withdrawing money from my 401(k) accounts? At the earliest, when I'm 59 and a half (59 1/2). Any withdrawal before then would be subject to an additional excise tax of 10% on top of the ordinary income taxes, unless there is a exception such as a hardship withdrawal. Hardship withdrawals include payments to cover medical expenses, cover the down payment or to avoid foreclosure on your principal residence or to cover tuition.

To avoid this, you could consider a 401(k) loan, but there are also disadvantages to this approach as well.

Contribution Limits

I believe that the maximum contribution limit for the 2009 and 2010 year is $16,500. Future limits are indexed for inflation, but may increase in increments of $500. Employees who are 50 or over are allowed to contribute more (a "catch up contribution") of up to $5,500, which can also change in the future.

Generally, I think that 401(k)s are a great investment tool to enable a person to save for the future. It is automatic (taken out before I even get my hands on it) and I get free money in the form of my employer match.


Disclaimer: this is not investment advice. This just reflects my own observations and understanding of 401(k) plans.

Ways to Save

How do I save?

Saving is somewhat counter-intuitive and goes counter to my desire for instant gratification, but I've just learned to trick myself into saving for the long term. To make it as painless as possible, I've done or taken advantage of the following:

• 401(k)
• Automatic withdrawals from my checking account or deducted from my paycheck before it is deposited into my checking account
• ESPP

I think it's really easy to just spend whatever comes in, and for a while I was living paycheck to paycheck. The idea of saving appealed to me, but there wasn't any money left over at the end of the month, so how could I save? I think that the most important thing that I learned as that I should pay myself first, and do the following: (1) treat saving as any other bill and/or (2) take it out before I even see it so that I will learn to adjust my spending accordingly. It worked.

I think that there are several goals for savings - long term goals such as retirement, short term goals for things you generally need to save for (such as for a down payment) and a cushion in the event of an emergency.

Members Only Sites - Good or Bad?

I'm still debating whether it makes sense to join or be a part of these "members" only sites that offer designer duds for up to 80% off. In some sense, it's nice that a bargain could be had, but on the other hand, do I really need the temptation? It's almost like window shopping or going to the mall, there will be temptation, I may see something that I like and then want to purchase it. However, if I never went shopping in the first place....

Generally, unless I need something, I don't go to the mall or go window shopping. I don't want the temptation. I don't want to be surrounded by nice new things that are just beckoning me to take them home. This is probably why I prefer to shop online. I can specifically search for what I want, comparison shop, and see if there are any discounts available. It's so much easier. I do feel a little guilt because I feel some responsibility to support my local merchants, who are likely losing sales.

Whether I shop in a store or online, I'm sure that marketers are trying to find ways to get people to open up their wallets. My junk email box is inundated with offers from various merchants that I frequent. I regularly get free shipping offers, and offers to take a certain percentage off of my orders.

That's probably why these members only sites seem to be popping up all over the place. ideeli.com, ruelala.com, gilt.com are some of the sites that seem to be gaining in popularity. I guess to differentiate themselves, they offer deeply discounted "designer" clothes and accessories. I believe that they are able to offer such discounts because their prices are not disclosed to anyone except members (and thus search engines are not able to access the sites and disclose the prices to the public), and designers may be more willing to offer discounts so that they get some name recognition and expand their audience, especially to sites where members specifically sign up for this type of product.

The problem with this, for me, was that I generally didn't buy designer clothing, and even at a discount, the prices were still higher than what I would normally pay for such items. There is a temptation though, that I'm getting something for 80% off (!), but really, would I normally pay more than $49 (after discount) for a tunic or shirt? No. Plus, these sites are filled with designer names that I'm not familiar with. I get emails alerting me that certain designer items are on sale, and they seem to want to create a frenzy by stating that the sale is only on for a limited period of time and once you put an item in your cart, you only have about 10 minutes to complete the sale.

I think that I'm going to avoid these sites from now on because I don't need the temptation to buy - I was perfectly happy before I knew of the items available for sale and I'll still be happy in oblivion. Sure, I may miss out on some great sales, but maybe in the long run it's better to just buy what I really need and then search for the best price then instead of buying in anticipation or suffer from buyers remorse. Plus, I need to save my money for more important things.

Who Am I?

Who am I?

I'm a married working mom of two young children. I'm currently working full time in a technology company and I struggle each to balance work and family life. My husband also works in a technology company as well.

Why am I writing this blog? I've always been interested in learning more about personal finance. From an early age, I was told to save. My parents had opened up a bank account for me and I enjoyed watching the balance grow with each deposit. I didn't want for much, but since I wasn't given an allowance, I had to find a way to buy the things that I wanted. When I was in high school, I did odd jobs like tutoring and had a part time job to earn money so that I could buy the things that I wanted and even then I still didn't spend everything that I made, I wanted to save a bit since I knew that I would need the money for college.

When did I start investing? Sometime in high school a relative sat me down and told me to read a book, The Wealthy Barber. One idea from the book stuck with me and that was the idea of saving at least 10% of my earnings and investing it. If only I had truly followed that advice. There was always an excuse or a reason. Yes, I had expenses associated with school and I needed to live, and I couldn't really in good conscience save the money from financial aid, but could I have found a way to at least put away a small amount from my part time job at least? Saving was not really a priority at the time, just getting by day to day was the priority? If I had put away $50 per month, would that truly have been a hardship? I didn't think long term and in some ways, I'm still trying to make up for it.

Fortunately, there was one thing that I was able to avoid, and that was credit card debt. Temptation was all around me. I was finally out of my parent's house, I had some money coming in the form of financial aid, and I wanted to go out. But, at this time, the credit card limits were really small. I think that the credit limit of my first card was only $200. Can't really do too much damage with such a small limit. Gradually, by the time I graduated, the limit went up to $2,000. I think that I was able to avoid this debt was because of my mindset about debt in general. There was "good" debt and "bad" debt. Credit card debt was, in my mind, "bad" debt and had to be discharged as soon as possible. Whenever I got a statement in the mail, I was always diligent about paying it off. I blanched at the idea of paying a lot of interest. The thought of paying 13% interest was just obscene to me. I was also taking out student loans for school, which was a necessity, and so I didn't want to add to my already large debt burden.

Buying a House

I'm currently a person living in one of the most expensive areas of the country, the San Francisco Bay Area, more specifically in Silicon Valley. Sure, I could have chosen to live in a less expensive area, but my husband and I have family in the area and he grew up here, and we wanted to live close to family. Because of this, we have, with open eyes, chosen to try to find a way to live here.

When we started to look for a house in 2003, we knew that we had to stretch to buy. A modest house at that time was still really expensive. Since it was just the two of us, we didn't need a large house, but wanted enough rooms to support additions to the family, if any. So we looked at houses that had between 1100-1500 square feet.

Originally, we were looking at a much more expensive houses, but at some point we decided to lower our price range because my husband had lost his job. It was actually a blessing in disguise because it forced us to lower our expectations and to think about financial stability and responsibility. We thought that it would be best to find a house that one income could support instead of buying a house that would require both of our incomes to support. We decided to look in more affordable areas and expanded the search area. They say that the mortgage you pay should only come out to, at most, 28% of your gross income. I say, it should be at most actually 28% of your net income after taxes, instead of gross (ideally, less than 20%). We finally decided to settle down in a typical small ranch house with 3 bedrooms and 2 baths.

It took a while to get used to the mortgage payments because they were larger than our rent. I sometimes wonder if we made the right financial decision to buy a house, but there are other reasons to buy a house.

What are the pros? I love our neighborhood, I love the stability of knowing that I'll be here for a while, I love getting to know our neighbors and feeling a sense of community, I love feeling like I can do whatever I want without fear of losing our deposit, and most of all, I love that this place is mine. Also, we could take advantage of the tax deductions for mortgage interest and property taxes.

What are the cons? The mortgage payments are higher, we had to start paying property taxes, there is more responsibility in that if anything breaks, we must fix it and can't rely on someone else like a landlord, and if we ever need to move, then it is difficult to go through the process to sell the house and move.

If we were in a different position, then it probably would not have made sense to buy a house, such as if our jobs were unstable, but this was where we wanted to plant roots. This was where we wanted to raise our children, once we had them (if possible). This was where my husband's family was and where I had some good friends. It was in some sense, an easy decision albeit a nerve wracking one. After all, neither of us had bought a house before and it's difficult to put so much money down at once and commit to a large mortgage payment. The first few payments were painful, but we got used to it and adjusted our living patterns (budget) accordingly.

Buying a house is a very personal decision. They say that the American Dream is to own a house, but I didn't necessarily buy into that. A dream can quickly turn into a nightmare if you are not careful and really consider the consequences of buying. Since we had lowered our expectations, we knew that we could manage. The mortgage payments, while large, were manageable especially since we had lowered our price range for houses. Also, since we lowered our price range, our property taxes were also lower.

Fortunately, while the prices in our neighborhood did drop from the height, they have pretty much stabilized. Living in the middle Silicon Valley definitely helped keep prices from sliding down too far. In some ways, I don't think about the housing market because I know that I'll be here for the long haul. It's like a share of stock, it's not a real loss or gain until you actually sell it.