Top 4 Places College Students Should Invest Their Money

This is an original article written for iGrad by David Bakke, a columnist for Money Crashers Personal Finance , an online resource for improving money management skills and keeping up to date on financial strategies, including understanding the benefits of internships to your future career and income potential.

What kind of college student even considers saving and investing for the future? The answer: a smart one. It’s never too early to save, and college students, though generally cash-poor, have a leg up on older generations who might be wealthier, but lack time.

The advantage of having time on your side is that it allows you to save a lot for the future, even if you don’t have a lot to invest. For example, if you start saving $1,000 per year at age 25 and earn 6% annually, you’ll have just under $130,000 by the time you reach age 62. If you wait until age 35, however, you’ll only have $64,000. Even though in this instance you invest a mere $10,000 less, you’ll have less than half as much due to how compound interest works.

If you’re a college student or recent grad, you’ll likely experience the biggest returns in long-term retirement accounts. But you need to know your options for short-term and long-term savings accounts to get the biggest bang for your investment buck.

1.) High-Interest Checking Account

checking accountHigh-interest checking accounts are primarily offered by online banks such as ING Direct, and are built for short-term “investing” by returning a slightly higher rate than a regular checking account. Furthermore, high-interest checking accounts can help you save money by offering lower or nonexistent overdraft charges, as well as no ATM fees or monthly fees.

This type of account works much like any standard checking account, giving you the option to deposit and withdraw funds on a regular basis, and guaranteeing your funds with FDIC insurance. The difference is that you don’t have access to a physical branch location, and must do your banking primarily online and via electronic transfers. However, paper checks and a debit card may be provided for an additional fee. Look for the latest checking account promotions to get free bonuses and deals.

2.) Certificate of Deposit

certificate of depositA CD is also FDIC insured and can be opened online or at your local bank. It is considered a short-term investment, but will lock up your money for the term of the CD—so don’t invest funds needed for bills, groceries, or emergencies.

When you open a CD, you agree to let the bank hold your money for a fixed term of your choice—typically between three months and five years—in exchange for a fixed interest rate. The interest rate improves the longer the term. But since penalties apply for withdrawing monies before the term expires, you need to be careful not to overextend yourself. One way to make the most of higher interest rates without tying up too much of your funds is to “ladder” your CDs.

Laddering is a rather simple concept. If, for example, you have $3,000 to invest, you can put $1,000 in a six-month CD, $1,000 in a one-year CD, and $1,000 in a three-year CD. This way, you can take advantage of higher interest rates available now without tying up all your funds in case you need them or if interest rates improve before your longest term CD expires and you want to reinvest.

3.) 401(k)

401k savings boxIf you work during college and your employer offers a 401(k), invest in it. Funds are deposited pre-tax—which means you won’t pay taxes until you withdraw them—and your employer may even match a portion of the funds you invest. If your employer does offer a match, do everything you can to contribute at least up to that amount. Otherwise, it’s like turning away free money.

401(k) plans are built to be withdrawn from during retirement, so you don’t want to invest monies you’ll need anytime in the near future. In fact, in most cases, if you make withdrawals before you turn 59 ½ years of age, you’ll be heavily penalized and taxed on the amount you withdraw.

Since 401(k) investments are geared for the long-term, you should choose stock market investments to maximize potential returns. That said, be aware that unlike a CD or checking account, these funds aren’t guaranteed against loss if your investments perform badly. The flip-side is that, historically, the market has offered much higher returns than can be found in safer, conservative investments.

4.) Roth IRA

IRA nestThe Roth IRA is a solid choice for anyone investing for the long-term. Unlike a 4010(k) plan or a traditional IRA, you pay tax on funds you invest in a Roth—in other words, you report these monies on your tax return as income. This means, however, that you don’t pay tax on withdrawals during retirement or on withdrawals at any time as long as you don’t take out more than the amount you contributed. This makes the Roth a safe choice in case you need to access contributions pre-retirement.

Like funds invested in a 401(k), the funds you invest in a Roth IRA will likely be in the stock market via individual securities or mutual funds. Therefore, they are not guaranteed against loss. For 2012, you can invest up to $5,000 in a Roth IRA as long as you’re working and your income doesn’t exceed eligibility requirements. Consult the IRS website for further details

Final Thoughts

Investing is one of the best life-long habits you can develop. Don’t wait to invest because you don’t have that much money—even $25 per month can go a long way toward padding your retirement or saving for a house. Once you get in the habit of saving regularly, it will become a regular part of your life, and when your income increases, adding to your savings will be relatively easy to do.

It can be hard to go against the grain in a culture that values instant gratification, especially when your friends may be flaunting the latest trends in fashion or technology. But resisting the temptation to follow suit can reward you greatly in the long run: when those same friends are worrying about not having enough money for retirement, you could be planning an early one.

How else can students save and invest their money?

All investments carry some level of risk, and may not be suitable for all investors. Before deciding on any investment, you should carefully consider your investment objectives, level of experience, and risk appetite. The possibility exists that you could sustain a loss of some or all of your initial investment and therefore you should not invest money that you cannot afford to lose. Seek advice from an independent financial advisor if you have any questions or doubts.

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