Three Steps to Optimized Savings

By Megan Mulloy, Eagle Invest Advisor, First Republic Investment Management
February 2, 2022

How much money should I be saving for my financial goals? You probably ask yourself that question often. The answer? As much as possible, of course. But with so many financial vehicles jockeying for your hard-earned cash — and a finite amount of funds to put into them — saving up a nest egg big enough to meet your goals can be a daunting task.

Ways to Save

To help you prioritize the available options, here’s a recommended list of what's important for saving and investing your paycheck and extra cash as you work towards your financial goals.

Step 1: Stop leaving money on the table

Make the most of the employer match on your 401(k)

When it comes to finances, there is perhaps nothing worse than leaving free money on the table. That’s why getting the most out of your employer’s 401(k) match is one of the most important “must do” strategies for your financial planning. Many employers match your contributions up to a certain level – a 50 percent match up to six percent of your gross salary, for example, or perhaps a dollar-for-dollar match up to five percent of your gross pay. Ask your HR department for information about your company’s 401(k) matching program, and be sure to contribute up to the amount your employer matches. Your future retired self will thank you.

Pay down your credit card and other high-interest debt

According to NerdWallet, the average U.S. household carries a credit card balance over $7,000, and credit card interest rates can be as high as 25%. While it may seem easier to pay down the smallest balance on your credit cards or loans immediately, in reality, it makes more sense to pay off the balance with the highest interest rate first. That way, you’ll pay less overall in interest charges. Be sure to make minimum payments on all accounts to avoid fees, working down from the highest-interest accounts to the lowest. Use any extra cash to pay down your credit card balances or any other loans, prioritizing those with high interest rates (that is, those with interest rates greater than seven percent).

Step 2: Make the most of your retirement contributions

Max out your 401(k) contributions

We’ve already covered how important it is to make the most of your employer’s 401(k) matching, but it’s also important to max out your tax-deferred 401(k) contributions. In 2021, you can contribute up to $19,500 in pre-tax dollars – not including employer contributions – and you won't pay taxes until you withdraw funds in retirement. That means you’ll pay less in taxes today, and, depending on when you start investing, will give the money you put away decades to grow. What’s more, you’ll automatically reap the benefits of dollar-cost-average investing, a technique that allows you to systematically purchase a fixed amount of an investment, thus avoiding the pitfall of market timing.

Contribute to a Roth IRA

If you’re eligible, set up a Roth IRA. Single tax filers earning less than $144,000 and married couples filing jointly making less than $214,000 are eligible to invest up to $6,000 in after-tax dollars to a Roth IRA for 2022. The benefits can be substantial: Your contributions grow free of income or capital gains taxes, and you can make withdrawals tax- and penalty-free after you reach age 59½. You also have more flexibility to invest in a range of investments, such as individual stocks or active management.

Step 3: Prioritize your investment vehicles, remaining debt and emergency savings

Contribute to a taxable brokerage account

While 401(k)s and Roth IRAs offer excellent tax advantages, don’t underestimate the benefits associated with taxable investment accounts. For starters, you can withdraw funds anytime, for any purpose, without having to pay taxes or penalties. Taxable accounts can also be a powerful tool for potential homebuyers. That’s because, since there are no restrictions on when or how much you can withdraw, these accounts can be used as collateral in qualifying for a mortgage.

Build up an emergency fund

You never know if or when you’ll experience a job loss, a major medical procedure, a housing emergency or other challenging life event. That’s why establishing a “rainy day” fund to get you through until your next paycheck (without having to sell any of your investments) is good common sense. We recommend keeping cash for three months’ worth of expenses if you are married, six months if you are single.

Set up a traditional IRA

If you earn too much to contribute to a Roth IRA, set up a traditional or Rollover IRA. Your contribution of up to $6,000 annually may be tax deductible, and there are no taxes or capital gains paid on the money until you start withdrawing it, either at age 70½ or during retirement, whichever comes first.

Take advantage of your company’s Employee Stock Purchase Plan (ESPP)

In addition to 401(k) employee matches and vacation days, publicly traded companies often offer an Employee Stock Purchase Plan (ESPP). The benefits: You get to buy company stock at a discount through paycheck deductions, and you profit when the company does well in the market. Of course, if the company doesn’t do well, neither will your savings, so avoid investing too much of your liquid assets in company stock. This tool should complement a core, diversified investment portfolio.

Pay down your higher-interest debt and loans

As a rule of thumb, you should work to pay off any loan where the interest rate exceeds the likely return on your investments. After you’ve paid off your high-interest credit card and loans, tackle federal student loans and other debt types with interest rates lower than the recommended seven percent annual rate.

Keep in mind: The best way to save is to pay yourself first

The most efficient way to meet your long-term financial goals – retirement, college for your future kids, etc. – is to take the short-term view of paying yourself first. Automatically funding your financial goals before your other expenses will help you adjust daily and monthly spending habits.

Smart ways to do this include:

  • Setting up automatic paycheck withholdings (typical for 401(k)s and ESPPs)
  • Setting up direct deposit from your paycheck to your investment accounts
  • Setting up a regular monthly or quarterly transfer from your checking account, such as Bill Pay
  • Mentally earmarking any extra funds you’re expecting (a bonus payout, inheritance, the sale of a major asset) to help you reach your financial goals

After paying yourself first, you may find that you don’t notice the difference in income, but your investments and nest egg will be steadily growing all the while. All of which means you’ll be saving for the long run, and reaping the rewards as a result.

First Republic does not provide tax or legal advice. Clients’ tax and legal affairs are their own responsibility. Clients should consult their own attorneys or other tax advisors in order to understand the tax and legal consequences of any strategies mentioned in this article. This information is governed by our Terms and Conditions of Use.