You’re ready to make your money work. You want to start investing to build wealth for yourself and generations to come.
I am so excited for you!
Before you get started investing, you have to create a solid foundation for yourself!
Read on for the 10 steps a beginner investor should take before investing in stocks, real estate, or anything else.
1. Create A Budget.
I know, I know. Nobody likes the B word. I’m sorry. You simply can’t get to where you’re going until you know where you are.
In order to start investing, you first have to understand how much money is coming in and control how much is going out.
Before you invest a penny, you’ve got to figure out how much you need to spend to survive each month, and how much is left. Investing, when started early enough, takes shockingly little money to build a fortune. However, the more money you put to work for you, the more will build and grow for you.
Once you’ve determined how much you need to survive, look at the difference between that and what you’re actually spending.
2. Create an emergency fund.
Many experts recommend keeping 3-6 months worth of expenses in an account that is very easily accessible, like a savings account. If you have nothing saved, start with getting to $1000 and go from there. Running around with nothing to fall back on if you lose your job is a great way to start a new career in panhandling.
Having no emergency fund is half a step from losing everything.
A job loss, major illness, or death of an earner could quite literally have you on the street without emergency savings. If your job is extremely secure or you have family you know for sure would support you in hard times, maybe a full 6 months of expenses saved isn’t necessary, but it won’t hurt.
3. Pay off high interest debt.
If you’ve got credit card debt at 17% interest, that’s costing you far more than what you would probably make in stock market gains. Focus on paying that off first.
If you’ve got student loans charging you 4%, that’s less concerning. Learn how to build a healthy credit score in Build Your Credit From Scratch In 6 Steps with Zero Debt.
4. Contribute to your 401k.
If your employer offers a 401k or other workplace retirement plan with a match, sign up for however much they’ll match. Many employers will match the money you put into your 401k 100%; some match 50%, up to a certain percentage. The money you put into the account reduces your tax bill, which is always a good thing!
Your employer has already calculated your 401k match in the cost of having you work for them, and it’s part of your pay. Take it; it adds up quickly!
It comes right out of your check before taxes, and you probably won’t even miss it.
It’s usually a good idea to also open an IRA for retirement contributions above your 401k match. Money from your employer’s match is one thing, adding more and limiting your investments to their fee-filled choices is quite another. I dug in to 401k fees and was quite disturbed by what I found. Read more in 401ks Are Where Dreams Go To Die.
5. Establish your financial goals.
There are many goals that can be achieved through investment.
Maybe you want to create another passive income stream.
Maybe you want to create a nest egg for your kids when they grow up.
Maybe you want to be able to pay for college for your children or grandchildren.
These are all great goals. However, I want you to set them all down for a minute if you are not prepared for retirement!
You cannot wait to start investing for retirement.
Retirement always comes first. There are no loans or grants for retirement. Investing works best when your investments are given plenty of time to grow. I hate to tell you this my friend, but once you reach retirement age, your time is limited.
And to clarify, I mean your time is limited as far as your money growing in your investments. The sad reality is that too many retirees outlive their retirement savings.
If you’re want to retire comfortably, it’s important to maximize your retirement saving strategy.
Once your retirement is on point, then you can move to your other goals! Learn about the best accounts for every goal in The Ultimate Guide to Investment Accounts.
If your retirement is looking marvelous and you want to retire early or establish a stream of income while you work, a taxable brokerage account is something you may want to add, since taking an early distribution from your traditional retirement accounts will probably cost you an early distribution penalty. (In a Roth IRA, which is my favorite type of investment account, you have a whole lot more flexibility. Read more in Roth IRAs are Financial Life.)
In a taxable account, you are taxed on the earnings from your investments, which are called dividends and capital gains. This can really eat into your wealth because of the power of compounding, which is why you should start investing within retirement accounts for their tax advantages!
A dividend is what a company pays you for owning their shares. For example, if you own 10 shares of company XYZ and XYZ paid you $20 in dividends throughout the year, you would pay taxes on that $20.
Capital gains are your earnings from selling a stock. If you bought 10 shares of XYZ for $10 and sold them for $20, you would owe taxes on your profit, which is $100.
The good news is, your brokerage firm has to figure out all that stuff for you at tax time. Even better, long term capital gains and dividends are usually taxed at a lower rate than the taxes you pay on your wages. And it just keeps on giving: if you earn under the income limits revised yearly under the tax code, your investment income is not taxed at all.
All these concepts are broken down and covered in depth in Retire Wealthy, the online course from Bottom Up Wealth where you’ll learn all the investment basics you need to build a fortune for retirement!
6. Open your investment account.
Many people are confused about the difference between the account they’re using, and the investment products they purchase.
An IRA or brokerage account isn’t an investment. It’s a basket that holds your investments and the main difference between them is who controls them, the rules for withdrawal, and the way they’re taxed.
Think of your 401k, IRA, Roth IRA, or brokerage account as a flower pot. Simply getting a pot doesn’t give you a plant. You have to buy your seeds (stocks, bonds, funds, etc) and plant them first. For more about planting investment seeds, read When Life Hands You Lemons: A Tale For Beginning Investors.
It’s important to use a brokerage firm and not a bank, as a bank severely limits your investment choices. In the beginning I would sometimes throw $5 or $10 into my account at a time, which can add up quickly. Open your Roth IRA now with the step-by-step tutorial!
7. Pay yourself first.
The brokerage I recommend in Tutorial: How to Open Your Roth IRA and Why You Need One does not require you to have a minimum balance. This is fantastic for those starting small, because you can focus on saving a bit at a time and start investing once you’ve got a lump sum!
Your starting investment account balance doesn’t matter; what matters is that you decide how much to contribute on a regular basis, and stick to it.
Experts say you should invest at least 15% of your pre-tax pay for your financial health. Depending on your personal financial situation, however, I encourage you to gradually do much more (it can be done!). You can start small and work your way up.
If you’re using almost every dollar you earn to pay your bills, start by putting away $10 a paycheck away. ANYONE can cut their spending by $10 every 2 weeks. If you can’t, head back to step one and trim your expenses. Transfer it into your brokerage account the moment it hits your bank, and consider it gone.
After a few months, increase your contribution to $15 per check, then $20, and so on. If you can do more right off the bat, I highly recommend doing as much as you can, as soon as you have the money, and do it consistently. If you get a raise or bonus or overtime, have all or at least part of it immediately transfer to your investment account. You won’t miss what you never had!
Even if you start investing just $100 a month, compounded at an annualized 7% return (a below historical average rate of return), gives you nearly a quarter of a million dollars over 35 years.
If you’re 30 and contribute even a minimal amount of money to an IRA, even if your returns aren’t stellar, you’ll have a nice chunk of change by the time you’re 65. Depending on how long you’ll live, you’ll probably need more than that to retire; but you can at least rest assured you won’t spend your final years rotting in an ill-equipped nursing home or homeless shelter. Retire Wealthy is the online course that will show you how to maximize your rate of return.
8. Buy quality investments.
Don’t start investing by looking to make a quick buck trading penny stocks; in fact, that can be a great way to gamble away your money.
Data shows that long term quality investing produces higher returns than trading cheap, low quality stocks.
I strongly discourage you from hopping on the latest “hot-stock” bandwagon for small and beginning investors.
Buy high quality companies, and look particularly for companies that reward their shareholders every year with higher and higher dividends and have a proven track record, then hold them and let them grow!
9. Reinvest your dividends.
Unless you’re starting out with far more than your average American, the dividends you earn on your initial investments won’t amount to much. Instead of receiving them in cash, opt to have them reinvested back into the company to get more shares (or fractions of shares).
Eventually, one day, you’ll be generating enough in dividends that you can take them in cash and use them for whatever you want.
As a beginning investor, your money compounds much more quickly if you plow those dividends you’re paid right back into the company with dividend reinvestment.
The benefit to this is that every time the company issues a dividend (usually quarterly) you get a little bit bigger slice of their pie, often commission-free. And, the next time the company pays a dividend, you get dividends on the dividends you reinvested. Now that is money working for you: you’re earning money on the money your money earned. Whaaaat?!
10. The biggest thing: just get started.
Getting financially healthy enough to start investing can seem like a lot of work, but the truth is, you can’t afford not to. By the time people my age reach their golden years, Social Security and pensions could be gone. Unless you want to work until the day you die, you’ve got to put your money to work alongside you and start investing to build wealth.
This is in no way a comprehensive list of what you need to make the most of your money, but it’s a great place to begin!