It can be difficult to know the best way to allocate your liquid cash and other investments, especially when you are in a transitional stage of life. For example, you might be a young professional who earns a decent salary, you are frugal with your money and you have saved a healthy amount of cash. But you don’t know where to spend the cash because you want to balance both short and long term goals – for example, moving, buying a house, starting a family, etc. This situation describes a reader who recently sent in the following question:
Hello, I am 27 years old, married, and have a gross income of 120k. We have no debt and currently are investing around 15% of our income into tax deferred retirement accounts. We have around 100k in liquid assets. We are currently renting because we haven’t found the right house and are not sure if we will be living in the same town for very long. My question is… should we continue to keep our excess income liquid so that we can pay as much as possible down on a house when we buy, or should we start to contribute some of it ($500 a month for 10 months out of the year) to a Roth IRA?
J. Thanks for your question, and congrats on your financial success – you two are doing very well, and being very smart with your money! I also think it’s a great idea to wait on buying a house. Buying and selling a house is very expensive and I don’t recommend anyone buy a house if they aren’t planning on living in it for several years, or if they aren’t willing to rent it out.
Determine how much cash you need
Before going further, I’ll ask a few questions only you can answer. These questions will help you prepare for possible risks and plan for your goals. These questions can help you determine your comfort level regarding how much cash you need to keep in your emergency fund, as well as how large of a down payment you will need.
For example, consider your emergency fund: will your effective income change dramatically in the next few years (is your wife planning on being a stay at home mom if/when you have children, how stable is your industry, if you move will the cost of living dramatically increase or decrease, etc.)?
Also, do you how much house do you need? The answer to this question will tell you how much money you will need for a down payment.
Invest the rest
Determine how much cash you need, then invest the rest. If you want to make money, you need to invest it, not keep it in a savings account. Even the best online savings accounts only offer a little over 1% interest. That’s fine for the money you might need quick access to (your emergency fund), but it won’t make you a millionaire.
Your question also implies that you are considering paying as large a down payment as you can afford when you purchase a house. Making a large down payment is always a good choice because it can save you a lot of money in the long run. However, mortgages are typically low interest fixed rate loans and you may be able to make more money in the long run by investing. It’s usually a good idea to have a balance between paying your mortgage early and investing.
It’s probably a good idea to invest more money right now
I don’t have full insight into your financial situation, but it seems like you can afford to invest more money right now. Opening a Roth IRA is a great way to do that, or if you don’t want to lock up your investments until retirement age, then you can invest in a taxable account through a mutual fund house or a discount brokerage firm.
At this point I recommend taking some time to discuss your financial goals with your wife and consider meeting with a financial planner who can help you make these kinds of important decisions and help you get started on the right path.
Does anyone have other suggestions for J. to consider?