1. Emergency savings are the first step
All financial advisors agree that having emergency reserves is essential and should be a priority before other investment and savings goals.
In 2023, inflation impacted not only personal spending but also savings.
“Make sure you have enough savings for emergencies. It’s good to have about three to six months of living expenses in an emergency savings account, to use in case of a large expense or job loss,” said Ashley Christine Reitershaus, a certified financial planner (CFP) and founder of Curious Crow Financial Planning, to Investopedia.
“When something unexpected happens, having a strong emergency fund means you are less likely to need to pull money from investments or accumulate debt to cover it,” Reitershaus added, highlighting the value of an emergency fund that some investors may overlook as they seek to enhance their portfolio’s resilience while increasing their wealth.
2. Aligning your portfolio with your timeline
Create a savings and investment plan that works for you and your goals. Consider upcoming life events that may require available cash and try to anticipate when they might happen.
Key factors when creating this plan include ensuring that “your portfolio is invested appropriately based on when you will need the money and how much risk you can tolerate,” according to Reitershaus, who explained that “money earmarked for a down payment on a home in two years, college savings in seven years, and a retirement account needed in 30 years will be invested very differently” and should reflect that in your asset allocation.
Since every investor is different, there is no one-size-fits-all approach, but some common solutions for building savings include automating contributions to an employer-sponsored retirement plan or setting up automatic transfers to savings accounts.
3. Dealing with debt
As inflation affected consumer situations throughout 2023, some investors may have struggled to reduce existing debt or may have incurred new debt.
Although average debt among adults in the U.S. has steadily declined in recent years, it is important for investors to devise a plan to pay down debt, especially as high interest rates persist.
“Debt itself isn’t necessarily a bad thing,” said Crystal McKeon, head of compliance at TSA Wealth Management, to Investopedia, noting that debt “can allow you to purchase things you wouldn’t normally be able to afford like a home or a car,” but the debt should be for the right type of expenses. For example, “charging debt on a credit card isn’t the same as taking out a mortgage to buy a home,” according to McKeon.
The right way to pay down debt is the method that works for you, McKeon added, noting that paying off the highest interest debt first may work for some people, while others may find this approach overwhelming and prefer to pay off the smaller debt first. These two methods of paying down debt are known as the debt avalanche and debt snowball strategies.
Both McKeon and Reitershaus noted that they generally advise their clients to use free funds to pay off debt rather than trying to achieve a profit by investing that money.
4. Tax planning
Previous tax returns can be a general guide for what to expect in the coming year, although there may be significant changes in tax laws in the United States.
“As of now, the tax brackets in 2023 will remain in place in 2024 and 2025,” according to Shawn Michael Pearson, CFP at Ameriprise Financial Services, who said, “The current tax law is set to expire [in 2026], meaning that rates and brackets will revert to where they were before the latest tax cut in 2018.”
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The Tax Cuts and Jobs Act (TCJA), which went into effect in 2018 and remains in effect until 2025, has led to some significant changes in personal and business taxes.
“We don’t know what the tax brackets will be in the future”, but “there’s a possibility that tax brackets may be slightly higher”, according to Pearson. According to this financial advisor, the possibility of tax rates increasing in the future may prompt some investors to lock in their bets during the 2024 and 2025 tax years by taking steps including contributing to a post-tax Roth account instead of pre-tax individual retirement accounts.
Considering upcoming taxes can help investors better understand their financial situations and avoid finding themselves in a position where they need to tap into savings or investments to pay an unexpected higher tax bill.
5. Consider the expected average costs in the medium term
People often view the short term through emergency savings and the long term through retirement savings, but they may overlook savings for medium-term expenses.
“In addition to the importance of saving for retirement, there are many responsibilities we need to fund before age 59.5″, according to Pearson. The financial advisor said that while “purchasing a new home or vacation property, investing in a business, or helping adult children with expenses, and funding your child’s private school tuition may be many years away”, these are the types of expenses that Pearson categorizes as “unexpected” rather than “unpredictable”.
Pearson used the example of children’s orthodontics, a costly expense for many parents, saying, “When you have kids aged 2 or 3, you’re not really worried about their orthodontics”, but when the dentist bill comes, “it’s not unexpected”.
These are the types of medium-term expectations that Pearson encourages his clients to consider, emphasizing the importance of having reserves to handle the type of expense “that you can’t always anticipate until you need it at some point”.
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