Expert: Gina Boykin - 9/14/2007

Question
im a 22 yr old, and i would like an input into investing and ideas because i know its the way forward to future financial freedom, more to that, ive just started working and dont my small salary to go to waste. Please use simple terms in your explanation too.thanks

Answer
The best place to start investing, since you're working, is at your place of employment.  Ask your employer (the benefits or HR person) if they have a 401(k). If you work for a school, government agency, or nonprofit it will be called a 403(b).  These are retirement programs that allow you to put aside money pre-tax.  Here's an example of why that's important:
                         WITHOUT 401(K)    WITH 401(K)
Monthly Salary:              $2,000           $2,000
401(k) investment of 5%:          0             $100
Tax Rate of 20%:                $400            $380
Take home pay (after-tax):    $1,600          $1,520

Even though you invested $100, your take home pay only decreased by $80.

The second benefit of a 401(k)/403(b) is that your company may have a matching program.  For example, they may deposit $0.50 for each $1.00 you put in.  If you put in $100 like the example above, your company would put in $50.  So, for your $150 investment, you really only would have been out $80.  What a great return on your money!  And that's even before any growth!

If there are no 401(k) options available, the next best thing is a Roth IRA.  This is also a retirement account, but you put in the money after-tax.  Instead of going through your job, you would set up an account with a broker (like Fidelity, Vanguard, E-Trade, Charles Schwabb, etc...).  Instead of getting the tax benefit now, you get it later.  This is a GREAT benefit, as you'll see in the example below.

Let's say you deposit $1,000 each year into your Roth IRA.  If you retire in 40 years, you'd have about $860K (if your account grew at 12% annually).  That means you put in $40K and had $820K of growth.  You were only taxed on the $40K, but you will NOT be taxed on the rest - ever!

Because you put the money in after-tax, you can also take it out without tax (like you would for a 401k) and without penalties-  as long as you leave your earnings in.  In fact, you can take your earnings out without tax/penalty too in certain circumstances.  The maximum amount you can contribute to a Roth is $6K this year.

Now, if you invest in a 401(k), you will be investing in mutual funds that your company offers.  The best things to look for when choosing a mutual fund is (1) type of fund - there are money market mutual funds, bond funds, balanced funds (bonds & stocks), stock funds, and even international funds.  I've listed them in the order of the lowest risk to the highest risk.  The choice depends on how much risk you're willing to take.  (2) return - what is the average rate of return for the past 10-20 yrs? (3) fees - the lower the better

If you invest in a Roth, you can invest in individual stocks or a mutual fund.  I would suggest starting with an Index Fund. This is a type of mutual fund that follows an index (like the S&P 500, for example).  There are bond index funds and stock index funds.

Index funds are the simplest method of investing, and usually the lowest cost.

Without going into detail about all the reasons why an index fund is great for beginners, here's an article you can read for more info:
http://www.moneychimp.com/articles/index_funds/why_index.htm

If you want to invest in something other than a retirement account, you can open an account with a broker and invest in mutual funds, index funds, or individual companies.

For more information on general investing terms, you can visit www.youngmoney.com or www.investopedia.com.

Lastly, before you invest in ANYTHING, make sure you have an emergency fund in place, which should be in a savings account or a money-market account.

Hope this helps!