Believe it or not, you’re already a pro at investing. Maybe not financial investing, but bear with me. At its core, investing is dedicating resources to something with the expectation that you’ll see growth come from that decision. That’s something you do every day! Check it out:
You invest love into your relationships with friends, family, and partners to deepen those bonds. For the gym rats out there, you invest energy into working out to improve your physical health. By reading this blog, you’re investing time into financial education, expecting that acquired knowledge to help you make well-informed investment decisions later.
What is Financial Investing?
In terms of financial investing, the goal is to dedicate money to opportunities that are likely to grow your wealth. Instead of simply saving your money in a savings account that earns little interest and doesn’t grow substantially, you can invest in opportunities with a higher rate of return and potentially earn far more. As the well-known saying goes, “Don’t work for money. Make money work for you.”
So, what better way to kick off 2025, Financial Wellness Month in January, and, hopefully, the future of your finances than with beginner-friendly investment opportunities you’ll reap the benefits of for years to come?
Fear Factor
Financial investing is intimidating. According to Nerdwallet, “Nearly 3 in 5 Americans (57%) say investing in the stock market is too risky. And 16% are too scared to invest their money.” These statistics aren’t surprising because doing anything you don’t feel completely comfortable with that risks your hard-earned money is terrifying…as it should be! Never make a financial decision without taking time to understand the situation. However, you don’t have to be terrified of financial investing! Remember that knowledge is power; the more you know about different investment opportunities, the more confident investment decisions you can make.
Types of Investments
Let’s start by briefly covering the four most common types of investments: Stocks, bonds, mutual funds, and exchange-traded funds (ETFs). Note that you don’t want to stick with one kind of investment and call it a day. Diversification of the types of investments you have is essential because putting all your eggs in one basket increases your chances of experiencing significant financial losses.
1. Stocks
When you buy stock from a company, you become a shareholder, meaning you own part of the company (pretty cool). Shareholders have rights such as the power to vote on key company decisions, benefit from company success, and view financial documents and records.
When the company profits, the stock value rises, and shareholders can sell their stocks to make a profit. Additionally, some companies share some of their earnings with shareholders as dividends.
2. Bonds
A bond is a loan an investor gives to a company or government, allowing them to borrow money from them for ongoing projects, operations, or even debt refinancing. The investor is paid interest on this loan for the length of the bond. Once the bond reaches maturity, the company or government returns the original loan amount (principal) to the investor.
While there’s some security in scheduled interest payments, consider default and interest rate risks before financial investing. A “default risk” refers to the possibility that the bond issuer cannot repay the principal. An “interest rate risk” refers to the possibility of interest rates going up and the value of your bond going down during that time.
3. Mutual funds
“If only there were a way for someone I trust to do the research, management, and investment decision-making for me!” If you’ve thought that before, today is your lucky day! A mutual fund is a pooled investment – think of it like car-pooling. Everyone in the car contributes gas money, but only one person is driving. With a mutual fund, individuals (car passengers) can invest their money into the fund. Then, a professional money manager or team (driver) makes investment decisions for the collective investors.
Mutual funds are one of the easier ways to diversify your investment portfolio since money managers can use pooled money to invest in stocks, bonds, or both in major asset sectors on your behalf.
4. Exchange-traded funds (ETFs)
ETFs and mutual funds are like siblings. There are baskets (or funds) of different types of investments, like stocks, bonds, and other assets, and can relate to specific market sectors, geographical regions, and other categorizations. This diversification is helpful because you don’t have to spend boatloads of money buying individual stocks. Instead, investors can pool their money in a fund that fits their investment goals.
The key difference from a mutual fund is that ETFs are traded on the stock exchange, meaning their value fluctuates daily depending on how certain stocks perform. The measurement of this performance is called an index. For example, a popular index is the S&P 500, which demonstrates the performance of 500 of the largest U.S. companies. You can invest in the S&P 500 Top 50 ETF, knowing it’s reflecting the S&P 500 Top 50 Index.
Typically, ETFs are passively managed; since investment success directly reflects the performance of the index you’ve invested in, you can take the backseat with management. There’s no chance of outperforming the index like there is with active management. With a mutual fund, professionals who actively manage investments predict what investment opportunities they think will perform best. Since more decisions are involved, active management is a highly hands-on strategy with room for error and can be more expensive. And there you have it! Now, you’re ready to check out investment accounts and opportunities.
401(k)s
A 401(k) is one of the more popular tax-advantaged retirement savings accounts offered by some employers, but can also serve as an investment account. Tax-advantaged accounts are “any type of investment, financial account, or savings plan that is either exempt from taxation, tax-deferred or offers other types of tax benefits.” Employees can automatically set a portion or percentage of their pre-tax income straight from their paycheck into their account, reducing their taxable income. That means you pay less taxes that year while saving for retirement! Some employers will even match a portion of the contributions made to the account, however, 401(k)s do have contribution limits.
The money you grow and invest in a 401k can grow tax-deferred, so you only have to pay income tax when you withdraw from the account after you turn 59 ½. If you withdrawal before then, you’ll typically have to pay a penalty and income tax.
401(k) Investments
401(k)s differ in the investment opportunities available, but most provide options like mutual funds or ETFs.
Individual Retirement Accounts (IRAs)
Earlier this year, we took a deep dive into the world of Roth IRAs and traditional IRAs, two types of tax-advantaged retirement accounts.
Note: IRAs differ from 401(k) retirement accounts because individuals can open IRAs without employer involvement. However, you need earned income to contribute to an IRA. Freedom!
What is a Traditional IRA?
People may refer to traditional IRAs as “tax deferred.” That’s because you don’t pay taxes initially on each contribution, meaning users experience tax savings in the
present. You are taxed ordinary income tax when you pull money out of the account after the withdrawal age of 59 ½. Unlike Roth IRAs, you may be eligible for a tax deduction based on key factors like your income and employer-sponsor retirement plans when you use a traditional IRA. Refer to the IRS for more information.
What is a Roth IRA?
With a Roth IRA, you pay taxes when you put money into the account, not when you withdraw from it after turning 59 ½. In other words, it uses after-tax contributions and has tax-free growth. And the crowd goes wild!
Roth IRA’s are more flexible than traditional IRAs when it comes to withdrawals. Five years after your first contribution to your Roth IRA, you can withdraw original contributions without penalization or taxation. However, if you withdraw earnings from your Roth IRA before you turn 59 ½, you have to pay the penalty and regular income tax.
Which is Better? A Traditional IRA or Roth IRA?
If you expect to be in a higher tax bracket when it’s time to retire, you’ll have to pay more in taxes when you withdraw later in life than you would if you paid taxes now from within a smaller bracket. In this case, a Roth IRA may save you more in taxes. If you expect to be in the same or lower bracket during retirement, you may enjoy immediate tax benefits with a tax-deferred traditional IRA.
IRA Investing
You can hold investments within IRAs and earn interest through index funds, stocks, bonds, mutual funds, target-date funds, annuities, exchange-traded funds, and more. Specifically, investing in a Roth IRA is beneficial because contributions grow tax-free, meaning you keep more savings when you withdraw in retirement.
How Much Can I Earn From an IRA?
Check out this Roth IRA calculator or traditional IRA calculator to see how much your retirement balance could be if you start financial investing today. The sooner, the better, so get that ball rolling!
Health Savings Accounts (HSAs)
You’re not alone if you worry about both present and future medical expenses. A Health Savings Account (HSA) can help calm those fears.
HSAs are triple tax-advantaged accounts you can use to pay for qualifying medical expenses using pre-tax contributions. This means there are no taxes on account contributions, the money within your HSA grows tax-free, and withdrawals are tax-free when you use them for qualifying expenses. Uhmmmm, yes, please! For this reason, many people use HSAs to save for retirement in addition to IRAs.
However, you’ll have to pay income tax and a penalty tax if you withdraw money for nonqualifying expenses before turning 65. When you turn 65, you can use your HSA money for anything you’d like, and you’ll only have to pay regular income taxes on non-qualified withdrawals.
HSAs and HDHPs
To use an HSA, you first need a qualifying High Deductible Health Plan (HDHP). With an HDHP, you pay out-of-pocket expenses for medical expenses until you hit a pre-established amount. Once you exceed that threshold, the HDHP will begin to pay for those expenses. The amount of money you pay before the HDHP coverage is called your “deductible.” This makes a “high deductible health plan” sound scary, but bear with me.
The good news is that the monthly premium (what you pay to maintain the plan) is typically lower than that of a traditional insurance plan, even though it holds many of the same benefits, such as 100% preventive care coverage.
Here’s another cool part of HDHPs: part of your monthly premium is deposited into your HSA, offsetting your deductible.
Let’s look at an example:
- HDHP Deductible: $1,000
- HSA Deposit: $600
- Net Deductible: $400
That means once you hit $400 in out-of-pocket expenses, your HDHP will cover additional costs rather than your original $1,000 deductible. Note that if you typically experience high health expenses, the out-of-pocket costs under a high-deductible health plan may be more than other insurance plans with lower deductibles. No one can predict the future of their health, but if you frequently need medical assistance or have ongoing health expenses, this may be a costlier option that doesn’t allow the money in your HSA to grow over time through investments.
HSA Investment Options
HSAs are similar to IRAs in a way. Though they are not investments in and of themselves, you can make investments through them if your HSA agreement allows you to. This option could be desirable thanks to its triple tax advantage. It’s recommended that you leave at least the highest deductible amount available in cash in your HSA at the beginning of this journey. Why? Life throws curveballs. You want to be able to use your HSA for medical needs if (but hopefully not when) you need it. By doing this, you have a safety net in liquidity and can invest the remaining funds. Typical investment options for an HSA include mutual funds, index funds, stocks, and exchange-traded funds (ETFs). HSA issuers usually provide online portals where you can monitor and review your HSA investments.
How Much Can I Earn From an HSA?
The amount you can earn using an HSA depends highly on your unique circumstances, but use this HSA Savings Calculator to get an idea of how much your HSA could be worth over time.
Certificate of Deposit (CDs)
A CD is what old-timers play music on. Just kidding. While there are music CDs, a Certificate of Deposit (CD) is a financial product that falls under the category of a time deposit account. Under an agreement with the CD provider, users deposit a certain amount of money into the account and agree that they won’t touch it for a predetermined time. If you withdraw money before the end of the CD period, you have to pay penalties. Additionally, users can’t add funds to the CD once it’s official.
“That sounds kind of annoying; why would someone do that?”
Great question! Here’s why:
In return for locking in your money for a set amount of time, your provider will give you a high interest rate on the account, meaning your money will grow faster within a CD than in a traditional savings account. The longer the term, the better the interest rate usually is. CDs can last anywhere from a month or two to multiple years, depending on the provider, and you’ll typically find better rates at credit unions than big banks (wink wink nudge nudge).
Additionally, CDs use fixed interest rates and usually have no monthly maintenance fees, meaning you can determine how much you’ll earn through a CD beforehand. Consequentially, what CD you select depends on your saving goals and timeline.
Here’s an example:
If you deposit $5,000 in a one-year CD with a 2 percent interest rate, you’ll earn $100 in interest, meaning you’ll have $5,100 in total when the CD matures (the term ends). This may not seem like a lot, but it’s better than having your money sit in an account without growing!
Are CDs Safe?
CDs are a great way to dip your toes into financial investing! Unlike the stock market, it’s a very low-risk investment option since they are insured by the National Credit Union Administration or Federal Deposit Insurance Corporation. This means if the bank or credit union you got the CD from closes, you’re usually covered financially up to $250,000. Whew!
While CDs are not the best possible return in terms of investments, they may be one of the more secure options for a near-guaranteed return.
How 1166 FCU Can Help With Financial Investing
You don’t have to go through the investment process alone! Access Roth IRA, traditional IRA, and HSA services through 1166 FCU! Contact us for more information; our financial counselors would be happy to point you in the right direction!
