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Financial Planning at an Early Stage: Is It Just Guessing?

A reader writes in, asking:

ďIím 26, single, with a good job. I have been saving 10% of each paycheck since I started working. Iím starting to read more about investing, and Iím using calculators online but one thing I canít wrap my head around is isnít all of this just a wild guess? Like, Iím supposed to input a return and an age when Iíll retire. ButÖI donít know? And when people talk about Roth and Traditional accounts, they always talk about tax rates. Iím not even sure what my tax rate is this year, but somehow Iím supposed to know what it will be when Iím 70??Ē

You are absolutely right.

You donít know what investment returns youíll get. You donít know how much youíll earn each year through your career. You may not, right now, even be able to predict what career youíll be in 10 years from now ó much less the specific position and income. We donít now whatís going to happen with Social Security. We donít know whatís going to happen with tax law. You, likely, donít know if youíre going to get married or what that personís career will be like. Or how many kids youíll have, if any.

So, if youíre trying to do projections out to age 65 to see how much youíll be able to spend based on your current plan, yes, itís just a wild guess.

But thatís okay!

As you get closer and closer to retirement age, more of those things will become known. You donít need to know them right now.

Right now, early in your career, the focus of financial planning is mostly about building good habits.

Make a habit of periodically checking that you have proper insurance: health, disability, auto, and renters (or homeowners if/when then becomes applicable). If anybody else is dependent on you financially, you should have life insurance as well.

Get in the habit of tracking your spending so that you know how much youíre spending and on what. For many people, when they do that for the first time, they find that theyíre spending a lot on some things that really arenít that important to them. Whenever you find that to be the case, you have identified an easy area for improvement.

Build an emergency fund of safe, accessible assets. At least a few months of living expenses. Gradually, seek to build that up to 6 months of living expenses. (The primary purpose of an emergency fund isnít for an unexpected spending need, though those do arise. The primary purpose is to make sure you donít have an absolute disaster if you lose your job unexpectedly and it takes a while to find a new one.)

Youíre already saving a significant part of your income each year, which is great. Admittedly, thereís no way to know how much is ďenoughĒ this early. We can make some reasonable guesses (see Wade Pfauís ďSafe Savings RateĒ research, for example), but itís still a guess. The critical thing at this stage is that you have started a habit of saving. Whenever your income goes up, save more.

Get in the habit of investing those savings (other than your emergency fund), in a low-cost and diversified way. Most often this means a single target-date fund or a simple portfolio of 2-3 index funds/ETFs.

And get in the habit of investing in that same simple portfolio, every paycheck, regardless of what the market has done recently. A market downturn isnít a problem for you ó itís a bargain-buying opportunity.

With regard to accounts, if your employer offers a matching contribution to a 401(k)/403(b), make sure that youíre contributing enough to get the maximum match. And, if you can, contribute to a Roth IRA, rather than just saving in a taxable brokerage account.

Itís true that you canít predict the future 30, 40, 50 years from now. But thatís OK. There are still a lot of things you can do right now that will improve your future, even if thereís no way to know precisely how that future will look.

(For further related reading, see A Basic Financial Planning Checklist or What is Comprehensive Financial Planning?)

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