College costs, a home of your own, a comfortable retirement or just saving for a rainy day…there are plenty of reasons to implement a smart savings plan. While a simple savings account can be a fine choice, it makes sense to explore your options and choose the investment vehicle that best serves your financial needs. A great place to start: familiarize yourself with these common investment terms:
401(k) Retirement Accounts
A 401(k) is a retirement savings plan that is sponsored by your employer. Check with your human resources department for availability and details. With a 401(k), you can invest a percentage of your salary, which is taken directly from your paycheck pre-tax. Some companies may even match a portion of your contributions. Annual contributions to a 401(k) are limited ($19,500 maximum for 2020, or $26,000 for those 50 and over), but there is no minimum contribution. Required distributions start at age 70 ½, and there is a 10% penalty imposed for withdrawals before age 59 ½.
529 Plans: Education Savings Plan
Money in a 529 savings plan can be used to pay for college expenses at an accredited institution, including tuition, fees, books, supplies and room and board. Earnings are tax-deferred and withdrawals for qualified expenses are free from federal income tax, as well as some state taxes. A nice plus: once you set up a 529 account, grandparents and others can contribute monetary gifts into the account.
A bond is a debt security, that is, funds borrowed by a corporation or government entity. Bonds are rated from AAA to D (in default). Bonds usually offer attractive interest rates, but your funds may be inaccessible for a specified term (usually 1 to 5 years), with a penalty incurred for early withdrawal before maturity.
Certificates of Deposit (CDs)
A CD account is a savings plan that requires you to invest your savings with a bank for a specified period of time, which can range anywhere from 30 days to 5 years. You'll get a higher interest rate than a standard savings account but will face penalties for early withdrawal.
IRA (Individual Retirement Account)
An IRA account is a retirement savings plan offered by a financial institution. The contribution limit in 2020 is $6,000, $7,000 if you are 50 or over. With a traditional IRA, contributions and earnings are tax-deferred until retirement. Contributions to a Roth IRA are made with after-tax dollars, but the money grows tax-free and no income tax will be due on withdrawals after age 59 ½.
Money Market Savings Accounts
Money market savings accounts typically offer a higher interest rate than standard savings accounts. The downside: such accounts usually require a larger minimum deposit, and you'll incur a fee if your balance falls below the required minimum. Most money market accounts allow you to easily withdraw your cash, but some will limit the number of monthly withdrawals.
With a mutual fund, your contributions are pooled with money from other individual investors to purchase a portfolio of stocks and/or bonds. The portfolio is managed by a professional investment advisor. Investing in a mutual fund is a useful way to diversify your investments, and to take advantage of the expertise of the investment manager. Some mutual funds may charge transaction fees.
Standard savings accounts typically have low-interest rates but allow easy access to your funds. Be sure to inquire for special accounts available to students and seniors, many offering low or waived fees.
A stock is a security that represents an ownership interest in a company. The number of shares that you possess represents the level of ownership in the company. Stock prices fluctuate, and the price is determined by supply and demand on the market.