The Best Way to Fund and the Best Accounts to Fund for Your Savings

We are continuing the series for the children and grandchildren of our clients. The topic today is: What is the best way to fund and the best accounts to fund for your savings.

A little bit of background, most people do not have unlimited amounts to save each year; therefore, it pays to prioritize and fund your highest profitability accounts first. Think of a farmer who lives in an arid region, they capture the limited rain in a cistern (savings) and now the farmer will measure the water level and calculate how much water they have to water the fields. If the savings cistern is low this year, they may only irrigate one field, if the savings cistern is full, they may plant and irrigate more fields. Whether the savings cistern is low or full, the farmer knows which fields are most productive and will plant them in the proper order. We want to do the same with our accounts (fields). An ‘account’ is what we call a field that holds investments for you. An apple orchard would be one account, and the corn field another account. We will get the best results if we measure our amount of savings each year and irrigate our most productive accounts.

The second thing we need to remember is we have a ‘partner’ in our earnings each year, we know him as the ‘tax man’. We have a duty to our family to try and limit the tax man’s claim on our earnings each year. We can do this by utilizing accounts that have tax preferences. You probably know the names of many of these like 401(k), 403(b), IRA, and HSA. If we place our savings in these types of accounts, we can limit the tax man’s cut, to a percent when we put it in the account or a percent when we take it out. But during all the years the savings sit in the account, it grows without anything going to taxes. Yay!

Finally, we need to select a solid investment for our risk tolerance and time horizon to be purchased in the account. You probably have heard the names of some of the more common investments like mutual funds, stocks, bonds, or exchange traded funds.

This then becomes the proper order of funding of accounts for a young person. You fund each account in the order below to the maximum amount for that account until your savings cistern is empty for the year. Then you just repeat year after year.

• All credit card debt and high interest debts.
• Emergency savings account (3-6 months expenses recommended).
• 401(k), 403(b), other company retirement plans, up to the match.
• Health savings account (and remember to invest the money).
• Finish maxing out your company retirement plan, i.e. 401(k).
• The next few are equal in priority, fund based on family needs:
  • IRA, Roth or Traditional,
  • 529 Educational Savings Plan,
  • Regular brokerage account.

PS: It pays to have a plan. The plan should include goals for the future because this gives a purpose to prioritize tomorrow. The plan should also include a budget that you review and adjust as life goes on. Finally include a real number for charity, because this will give your life joy and value to your money. Americans are so fabulously wealthy that they can afford different luxuries like fancy cars. When you consider spending the money on a car that you may not need but decide to support an entire classroom full of poor children instead, you may begin to see more value in your money beyond frivolous spending.