Chicken or fish? Pepsi or co*ke? Chocolate or vanilla? There are many “this or that” choices that, to the indecisive, present an impossible dilemma. For matters of food and leisure, it’s possible to find a compromise: you get chicken and I’ll get fish and we’ll share; I’ll get co*ke this time and Pepsi next; the vanilla-chocolate-twist cone sounds great, thank you very much.
But when “this or that” debates pervade your financial life? It’s a whole new ballgame. And for a Millennial who may be new to managing his or her money, choosing between one financial option (like, putting money in a savings account for emergencies) versus another (like, investing that money instead in the stock market) can cause quite the headache.
“In 99.9% of the population, we don’t have unlimited money and it all comes down to making these choices,” says David Weliver, founder of financial advice website Money Under 30. “And every little choice affects another one.”
According to Weliver and other experts on Millennials and their money, there are certain “this or that” financial decisions that Millennials have a particularly hard time making. Here are what they say are the trickiest choices -- and how to go about reaching a decision that’s right.
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View galleryThe Choice: Pay down debt or save?
The short answer:Fund an emergency cushion first. After that, it depends.
The long answer:“One of the biggest things I tell people: there’s no right answer,” says Alan Moore, a certified financial planner, founder of Serenity Financial Consulting and a Millennial himself. (He’s 26.) He says that avoiding compounding interest on debt is the same as getting a return in the market, and prioritizing one over the other depends on your financial situation. Assuming, of course, that you have first built that emergency cushion.
“The non-negotiable for me: that they’ve got cash reserves,” he says. “It’s amazing, the number of situations that can come up that we just can’t see coming that we need that cash available.”
For those whose debt is burning a hole in your pockets -- and who might be tempted to throw any and all extra cash towards student loans and not a plain savings account -- Weliver puts it best: “Paying down student loans isn’t going to help you when that emergency comes up.”
Once the emergency cushion is funded -- preferably with enough to cover three to six months’ worth of expenses -- Moore says deciding where to allocate any extra cash is a choice made easier by comparing rates: the interest rate on the debt you carry, versus the expected rate of return for money you’re investing in the market.
“I do have clients that are Millennials with student debt with one percent interest. Others are at 6.9%,” Moore says, noting that if a loan carries a one or two percent interest rate, it’s okay to make minimum payments and allocate extra funds towards a 401(k) or IRA. If you hold student loans at six or seven percent-- or worse, high interest credit card debt -- you might want to consider throwing extra money their way rather than looking towards retirement savings.
“If I had to say a bias, I lean towards debt payoff,” Moore says. “It’s like getting a guaranteed rate of return of 6.9 percent.”
Weliver notes that if you’re struggling to figure out whether to put extra money towards debt or savings, it’s ultimately a good problem to have. “If there’s one thing about being totally financially strapped, you don’t worry about these things,” he says. “You pay off the one thing and wait for the next week.”
The Choice: Fund a 401k or Roth IRA?
The short answer: Both, if possible. But if not, grab the employer match in a 401(k) first.
The long answer:If you’re wondering what these are and why you’d be debating between the two, a quick tutorial: a 401k is a workplace-sponsored retirement savings vehicle , and it lets you make contributions on pre-tax basis (i.e., the contributions come out of your paycheck before Uncle Sam grabs any, and grows tax deferred, but then you pay taxes on all the funds you withdraw in retirement). A Roth IRA is an individual retirement account that you can open on your own, with already taxed dollars. All earnings in this account are tax free, provided you save them for retirement. In addition, since Roth-IRA contributions are made with after-tax dollars, you can take back your original contributions at any time, without interest or penalty, making this a very flexible way to save. For 2013, you can contribute up to $5,500 a person to a Roth IRA provided your adjusted gross income is below $112,000 for a single or $178,000 for a married couple. Above that, the amount you can put in shrinks, and no contributions can be made if a single makes more than $127,000 or a couple more than $188,000. Of course for most Millennials, those income limits are no problem. So which account should get your hard-earned money?
“A lot of times the answer is both. Contribute enough to get company match (in the 401k), and if you can go above and beyond that and can contribute to a Roth IRA, contribute to a Roth IRA,” says Sophia Bera, a certified financial planner and founder of Gen Y Planning.
Bera says that a company match is the same as free money, and leaving free money on the table is never a good idea. “This is one of the few opportunities for free money,’’ she says. In a typical 401k, if you contribute 6% of your salary, the employer will kick in 3%. “That’s a 50% return. And you can’t get that anywhere,” says Bera. If you can afford to contribute more towards retirement than what it takes to nab the match, turn your attention to opening a Roth IRA – and preferably at a discount broker like e*trade or a low cost mutual fund company, like the Vanguard Group or Fidelity Investments. After all, you don’t want to give away in fees what you’ve scrimped so hard to save.
In addition to flexibility, the Roth IRA gives you tax diversification. In retirement, you’ll have to pay ordinary income taxes on all the money you take out of a pre-tax 401k, but can tap your Roth IRA tax free. “I like to build up both buckets of money since we don’t know what tax rates will be in the future,’’ says Bera.
The Choice: Buy or rent?
The short answer: Increasingly, renting is the better option – but do what’s right for you.
The long answer:Ultimately, there is no blanket answer that will fit everyone, but whatever you do, make sure you’re doing it because it’s right for you, and not anyone else.
“I think a lot of people are getting pressure from families to buy a home now, whether that’s a good decision or not. For baby boomers and beyond, that was the American dream. You bought a house, you’ve made it. I think it’s not the same for Millennials,” Bera says. “I think being flexible is a lot more beneficial. How long do you expect to be in that area? A lot of times what I hear is, ‘oh, well, the next few years but there’s the possibility of a transfer.’ Or ‘oh I might go to grad school.’ Keep yourself flexible and mobile – to be able to take that job offer they want, to not be tied to that one place.”
Serenity Consulting's Moore agrees. “This is the first generation that has figured out that homeownership should not be a part of the American Dream. It’s not about owning a piece of real estate you can’t pack up and move. I am a big proponent of maintaining flexibility while you have it and while you need it. You lock up huge amounts of your net worth in a home that’s not an asset,” he says. Plus, he adds, “You don’t want to worry about whether you are going to get a ticket for not shoveling your sidewalks.”
The Choice: Credit or debit?
The short answer: Credit – but only if you can pay your bill off in full at the end of every month.
The long answer:Money Under 30’s Weliver says that this is one money debate in which Millennials are skewing too conservative, avoiding credit because of what they saw growing up during the credit bubble. However, he says, credit cards can offer better consumer protections for your purchases.
“Credit cards are actually a better way to manage spending because of the security that comes along: the extra barrier you have if someone gets your card, protections they give if you buy something from a shady merchant,” he says. Most credit cards offer fraud protection, identity theft protection, purchase protection (which will help you get your money back if a product is defective), as well as travel assistance and rental car insurance. Furthermore, Weliver says, credit cards are a tool in the all-important quest to build a good credit history and high credit score– which you’ll need if you ever do want to buy a car, house, or even rent an apartment. Weliver has seen people go too far in the debit direction, only to be shocked when they don’t qualify for a large purchase for lack of that credit history.
“They have no credit because they’ve never used a credit card. And they’re crushed because they thought they’ve been doing the financially responsible thing, yet they have no credit and can’t get a house,” he says.
It’s not that caution is totally unwarranted – as many people know too well, credit cards let us spend with money we may not have – so if you’re going to charge purchases to a credit card, make sure you can pay the card’s balance off in full at the end of every month.
The Choice: Buy clothes (or tech toys, or other material goods) or an experience?
The short answer: Experiences.
The long answer: There are a plethora of studies that show that experiences make us happier than material goods. So put down the leather coat and kick the money towards your vacation/concert/going out fund.
“At the end of the year, let’s say you buy 20 dinners out with a significant other or friends, or a plasma screen TV. At the end of the year, you’re going to appreciate those dates (more),” Moore says. He says he’s seen clients so value time over goods that they pay their employer for extra vacation days.
“I’ve had clients buy up to a month. What would you do with an extra week’s vacation?” he says. “That’s huge in terms of actually using your money wisely to make yourself happier.”
The Choice: Eat out or dine in?
The short answer: If you want to save money, stay in.
The long answer: To anyone who’s run the numbers, dining in over eating out is a no-brainer. However, for the culinary-impaired, the young, or worse, the young culinary-impaired, eating out is the preferred way not just to get nutrition, but to socialize with friends.
“One of the things I’ve noticed just living in New York City: A lot of people love eating out and not cooking in bulk or bringing a lunch,” says Erin Lowry, founder of BrokeMillennial.com. “They’re small financial choices you’re making but they add up over time.”
Lowry did the math, and calculated that she comes out $150 ahead each month by simply bringing her lunch to work rather than eating out each day. Want to know how much you’d save by cutting out your daily Potbelly (or Saladworks) run? Try this online calculator, which not only tells you how much you’d save, but how much you could earn if you invested the difference and let the money grow over time.
However, Lowry notes that it’s important not to make yourself miserable. If your coworkers want to go out for lunch one day and not going would make you sad, go with them. Your budget can handle it in the short term, and it will prevent a bigger splurge later on.
“It’s important not to deprive yourself. It makes you over calibrate in the other direction when you start spending again,” she says, adding, “There’s nothing wrong with going out with your friends. It’s all about moderating it. There are plenty of ways to economically go out with friends. Buy a bottle of wine and have people come over, instead of paying $11 per glass on the Lower East Side.”
