VALUING SOCIAL SECURITY AND PENSIONS
Now or in the years ahead, you may accumulate some retirement benefits based on your years of work. You may do so through the federal government’s Social Security program and/or through an employer’s pension plan.
When you work and earn money, your employer (or you if you’re self-employed) pays taxes into Social Security, which earns you future Social Security retirement income benefits. Under current laws, which of course may change, you’re eligible to receive full Social Security benefits at age 67. (You may collect a benefit reduced by 30 percent if you begin receiving your Social Security payments at age 62.)
In surveys, most young adults say that they’re more likely to believe in things like UFOs than in actually getting money out of Social Security! Although being skeptical and questioning things is useful, such deep cynicism about Social Security isn’t well founded. Those who are eligible to receive benefits (generally, folks who’ve paid Social Security taxes above relatively low threshold amounts over at least ten years in total) should get them. As a young adult, it’s important for you to also know that some Social Security benefits, such as disability and survivorship benefits for your children under 18, are a part of your Social Security insurance coverage.
Some employers provide a retirement benefit known as a pension that’s paid to you in retirement based on your years of service (employment) with the organization. Your employer puts aside money above and beyond your salary compensation into a separate account to fund your future pension payments. Pension plans are more common in public-sector organizations (governments, schools, and so on) and larger companies, especially those with labor unions. Pension plans are generally insured/guaranteed by government agency entities.
Now, I do have one exception to something that isn’t generally thought of as a financial asset, which you may or may not want to include in this category. Some people have valuable collections of particular items, be they collectible coins, sports memorabilia, or whatever. You can count such collections as assets, but remember that they’re only real assets if you’d be willing to sell them and use the proceeds toward one of your goals.
Determining what you owe: Financial liabilities
Most people accumulate debts and loans during periods in life when their expenditures exceed their income. I did that when I went through college. You may have student loans, an auto loan, credit-card debts, or a medical or pet debt. Access any statements that document your loans and debts and figure out the grand total of what you owe.
Netting the difference
After you total your financial assets and your financial liabilities, you can subtract the latter from the former to arrive at your net worth:
financial assets – financial liabilities = net worth
Don’t worry if you have a small or negative net worth (where you have more debt than assets). There’s no point wringing your hands over the results — you can’t change history. And, it doesn’t matter how you compare with your peers even if we can accurately define exactly who your peers are. This isn’t a competition or test.
But you can change the direction of your finances in the future and boost your net worth surprisingly fast to work toward accomplishing your personal goals. First, you have to figure your savings rate and how to increase it, which I discuss next.
Grasping the Importance of Your Savings Rate
To accomplish important personal and financial goals such as building an emergency fund, buying a home, starting a business, traveling, and someday retiring, most folks need to save money. Some exceptions do exist, such as those folks who have trust funds or inherit significant-enough sums that they don’t need to save money from their work earnings. But the vast majority of people must save in order to accomplish their goals.
You can’t effectively save for a long-term goal if you don’t know what your savings rate is. When I worked as a financial counselor and taught adult-education money-management courses (which I now do online), I was struck by how few people knew the rate at which they were saving money. Most people can tell you how much they earned from their work over the past year, but few folks really know what portion of their employment income they were able to save. That’s because to have an accurate idea of this percentage, you really need to do some analysis and calculations. The math isn’t that complicated, but it does require some time and effort, especially if you haven’t been tracking your spending or net worth over the past year. In the following sections, I explain a couple of different ways to calculate your savings rate over the past year.
Calculating your income and outgo
The first way to determine your savings rate is to tally your employment income and expenses over the past year. By subtracting your total expenses, including taxes, from the past year from your employment income, you can arrive at net savings.
The employment income part of the equation is simple for most folks — it’s simply the total amount of your paychecks from work. (If you have work from side or gig jobs you do outside of your regular job, be sure to count that too.) But unless you systematically track your spending, that piece of the puzzle is a lot more work to figure. I walk you through how to compile your spending in Chapter 5.
Assessing the change in your net worth
If you don’t want to be bothered with the time-consuming task of tabulating your spending over the past year, here’s an alternative method for arriving at your savings rate that may be quicker for you. Follow these few easy steps, and fill in the blanks in Table 1-1.
1 Calculate your net worth.Refer to the earlier section “Netting the difference” for an explanation of how to do so.
2 Calculate your net worth from one year ago.You can determine your year-ago net worth by tallying your financial assets (savings and investments) from one year ago and subtracting your financial liabilities (loans and debts) from one year ago. Don’t count your home as an asset or your mortgage as a liability. Your concern here is financial assets.
3 Correct for any changes in value of investments you owned the past year.Suppose that your net worth today is $15,000, whereas one year ago it was $10,000. You might conclude from the change in your net worth that you’ve saved $5,000 ($15,000 − $10,000), but that figure may not be correct, and here’s why. A year ago when you had a net worth of $10,000, you presumably had savings and investments, and those would have changed in value over the past year. Suppose you made some good investments and they produced $1,000 in returns (from interest, dividends, appreciation, and so on) over the past 12 months. Though you’re happy to have made $1,000 on your investments, that money isn’t new savings and shouldn’t be counted in your savings-rate calculations. So you really saved $4,000 ($5,000 − $1,000).Conversely, if your net worth was reduced over the past year by declines in the value of your investments, you should add back that figure when determining your savings rate. If your investments declined by $1,500 in value over the past year, you really saved $6,500 ($5,000 + $1,500). Table 1-1 walks you through this part of the analysis.
TABLE 1-1 Your Savings Rate over the Past Year
| Calculate your net worth now and one year ago |
|---|