So perhaps you’ve recently graduated from college, started a new job, and are thinking about investing for your future. That’s fantastic! Starting investing in your 20s, early in your life and career, will give you a head start towards building incredible wealth. Whether you want to start investing for your retirement, a first home, or anything else in the future, here are some practical tips for getting started.
Setting your investment goals
I recommend writing down your investment goals. This is an important and simple step that will help you know what you’re saving and investing towards. Don’t make it complicated, just answer these two questions:
- Goal – what are you investing for? (e.g., retirement, a down payment for a house)
- Timeline – how long do you have until you need to use the money? (e.g., 5 years, 20 years)
Understanding the goal timeline will help determine how you should invest and what type of investments you should choose.
Investing in your 20s: selecting an account type
The first step to getting started investing is to select the right type of account for your investment goals. There are three primary types of investment accounts:
- Employer plans – such as 401(k) or 403(b) accounts
- Individual Retirement Accounts (IRA) – includes Traditional IRAs and Roth IRAs
- Brokerage accounts – regular brokerage accounts
The type of retirement account you should choose depends on your investment goal. Employer plans and IRAs have tax advantages but restrictions on how and when you can use the money. Brokerage accounts do not have tax advantages and are more flexible in when and how you can use the money.
|Retirement||Down payment for house||Other goals|
|Employer plans (401k, 403b)||Preferred, tax advantages, employer matching||Less preferred, can borrow from account||Less preferred, can borrow from account|
|IRAs||Preferred, tax advantages||Preferred (Roth IRA), restrictions apply||Less preferred, restrictions apply|
|Brokerage accounts||Less preferred, no tax advantage||Preferred||Preferred|
Employer plans (401k, 403b)
If your employer offers a retirement plan, check to see if they also provide a matching contribution. A matching contribution is when your employer contributes money to your account only if you contribute or save a certain amount. For example some plans will match 50% of your contributions, so if you contribute $200 to your plan, your employer would contribute an additional $100. Employers will do this up to a certain level, usually up to a percentage of your salary (e.g., up to 6% of your salary per week).
Matching contributions are free money. If you don’t contribute enough to at least get this match you are giving up a valuable benefit for which you are entitled. Even if you are not saving or investing in any other way, try to contribute the minimum amount to receive the full company match.
Individual retirement accounts (IRA)
If your employer does not offer a retirement plan, you should consider investing for retirement or other goals using an IRA. IRAs are open to anyone with earned income (however there are some income limits). There are two types of IRAs:
- Traditional IRAs
- Roth IRAs
The primary difference is that with a traditional IRA you contribute money before taxes, which reduces your taxable income in the current year. While with a Roth IRA you contribute money after taxes, meaning you pay taxes in the current year, but then your money grows tax free and you won’t pay taxes when you use your money in the future (as long as you meet certain conditions).
IRAs are a great way to save money for retirement, regardless if you have an employer retirement plan or not. Additionally, money from IRAs can be used for other purposes such as a down payment on a house. Roth IRAs are slightly more flexible than traditional IRAs, as contributions to Roth IRAs can be withdrawn at any time for any reason. However, withdrawing earnings will result in fees and taxes.
For more information on the rules around IRAs, see the IRS’s website.
Brokerage accounts are the most flexible of these accounts as you can contribute and withdrawal freely. This makes these accounts useful for saving and investing for things other than retirement. However, the downside is that you do not receive a tax deduction or benefit for contributions made to these accounts. And, unlike the other accounts, you will pay taxes each year for and investment gains you make (in the tax year they are sold and realized).
For these reasons, you should focus on investing with employer plans or IRAs unless you’re investing for some other long-term goal and need the flexibility of when to withdraw your money. However, if you think you may want to withdraw the money in the short-term, you should not be investing in stocks or bonds anyway, there are other better options for saving in the short-term.
As a side note, you should have an emergency fund for sudden expenses that is separate from these investment accounts. It should be in cash or cash like investments (e.g., money markets, TIPS), not in investments that may lose value like stocks and bonds.
Investing in your 20s: what to invest in?
What you should invest in depends again on your goals and timeline. If you’re investing for the long-term, then I recommend a diversified portfolio of stocks, bonds, and other assets. You can read more about how to build a diversified portfolio here.
Since you’re early in your career and have more time for your money to grow you can take more risk and invest a more in stocks than other assets. I recommend keeping it simple and investing in low fee index ETFs that hold a lot of different stocks.
Other keys to building wealth
Because you’re still early in your career you will likely not have a lot of extra money to invest. But whatever money you area able to invest will have much more time to grow than money you will invest later in life. Your investments will continue to compound over the years, especially if you consistently contribute to your accounts.
Don’t spend too much time worrying about your investments and how they are performing. Keep contributing to your accounts and allocating to a simple, diversified portfolio of low fee index ETFs.
There are two other areas, outside of investing, that you should focus on. Over the long-term, focusing on these two areas will likely have a larger impact on growing your wealth than worrying about your investment allocations or checking your stocks.Over the long-term, focusing on living within your means and increasing your income will have a much larger impact on your wealth than worrying about your investment allocations or checking your stocks Click To Tweet
Learn to budget / live within your means
If you’re going to save and invest you need to spend less than you earn. This can be challenging, especially with entry level jobs that pay lower salaries, student loan payments, and rent in high cost of living areas. The common way to solve this problem is by creating a budget, here’s my advice on creating a budget in 5 simple steps.
Whether you create a formal budget and strictly follow it, or use it as a guideline to spend money on things that are important to you and not spend on areas that aren’t important, the key is spending less than you earn so you can save and invest the rest.
Focus on increasing your income
As long as you’re already spending no more than you’re earning, your next focus should be on increasing what you earn. Of course there are a variety of ways to earn more money from second jobs to side hustles including passive income. These are great ways to earn extra money, and if you have a side passion that can generate income, that’s fantastic (especially if it’s passive income).
However, often times one of the most straightforward ways to increase your income dramatically over a period of years is to focus on your career, especially in the early years. While in your 20s promotions can come every few years and you also have a bit of latitude to try new and adjacent jobs, whether for the same company or switching companies.
To focus on your career focus on doing excellent work in everything that you do. Try to learn as much as you can. Seek out and say yes when asked to take on new opportunities and projects. Learn as much as you can, and take advantage of tuition assistance / training that your job may offer.
If you work hard at this people will begin to notice, and if the people at your company don’t notice, other companies will. As you get promoted and take on new roles you’ll find yourself earning far more than when you started. Then, as long as you still spend less than you earn, you’ll have a lot more money to contribute to your investments as you progress in your career.