For those young graduates asking "What color is my parachute?" -- it doesn't matter. Just get a job somewhere and start experiencing the joy of making a contribution and learning the basics of money. There is no perfect job when you are first starting out. That's why it's called "work."
A young person curious about how the real world works should be asking the following:
>How am I being taxed, and how does taxation affect spending or job decisions?
>Why is buying a home or condominium such a good idea?
>Why should I be depositing as much as possible into a tax-deferred retirement plan?
>What simple investment advice should I apply to these deposits?
>How do I make sure that I always have adequate health insurance coverage regardless of my job or school situation?
>How do I develop street-smart habits when it comes to saving money?
First, you need to understand how taxes work. A surprising number of life's decisions hinge on a basic understanding of marginal tax brackets -- what you pay in taxes on the last few dollars of income.
The average single young worker in California makes enough so that the last few dollars of income are taxed at least 25 percent.
People make the mistake of taking total taxes paid and dividing by total income to estimate their "tax bracket." It may be that you pay as low as 10 percent or 15 percent of your total income in taxes. For most decisions, this percentage is meaningless.
Why? Because most financial decisions bump taxable income up a little or down a little. We take a new job or stay put for a $200-per-month raise. A raise, by definition, is the last few dollars of our income. It will be taxed at the highest level of taxes we are charged.
If you create a tax table that combines federal and state income taxes with Social Security and Medicare taxes, it will show that, for a single person, the actual dollars in earnings that fall between $26,000 and $36,000 are taxed at 42 percent. Anything over $36,000 is taxed at over 45 percent, and it just gets worse after that.
This explains why, when we receive a raise, our "take-home pay" rises by far less than what we understood to be our gross increase in income.
On the flip side, if your income drops because you cut back on work hours to go back to school, you may not be giving up that much spendable take-home pay, because those extra last dollars were taxed so highly anyway.
When we contribute to 401(k)s or IRAs, the money comes off the top and taxes are paid on what's left. We remove from taxable income the last few dollars that would have been taxed at the highest possible rate.
When we pay house payments instead of rent payments, we reduce income for tax calculation purposes because mortgage interest and property taxes are tax deductible. Rent is not. Whenever we say that something is "tax deductible," it means that we can use the expense to reduce our taxable income.
Owning a home creates tremendous tax benefits and financial leverage. In a simple example, the down payment of $20,000 on a $100,000 condominium buys an asset that could double in value over 10 years if it appreciates at a rate of 7 percent per year.
Ten years later, you sell the condo for $200,000 and pay back the $80,000 mortgage loan. You can keep the entire $100,000 profit you just made on your $20,000 down payment.
Meanwhile, if you can afford $1,000 per month in rent, you can now afford $1,500 in house payments, because $500 of that $1,500 will be paid with money you are otherwise paying in taxes.
In this example, a couple that pays $18,000 a year in house payments is saving at least $6,000 in income taxes.
In other words, the government is effectively paying $6,000 of your annual house payment.
While you're saving for that house, you should be maxing out contributions to your employer's retirement plan -- even though retirement is decades away. Figure it this way: $600 per month at 12 percent builds to $140,000 in about eight years, or about as much time as you have spent in high school and college.
A $600 contribution will cost most people about $400 in take-home pay, because $200 of the $600 is money that otherwise would have disappeared in taxes.
How do you invest this money? It doesn't matter. Spread it out over all the mutual funds investing in stocks, and learn which types do well under different portions of the economic cycle.
Need money to go back to college or graduate school? Consider living on a portion of your retirement money. You will pay a 10 percent penalty on what you spend, but if you're back in school full time, it will be your only income in that calendar year, and your tax, if any, will be minimal.
When it comes to health insurance, moving from job to job or back to school leaves you dangerously exposed to the possibility of no coverage.
The trick is to get a cheap, high-deductible policy. We can all somehow manage to round up $2,000 to pay medical bills, but $50,000 to $500,000 for a real serious illness or disease would wipe us, or our parents, completely out. Go to ehealthinsurance for help.
Learn how to live frugally. Saving $10 per day by not buying coffee, bottled water and other complete money-wasters adds up to $3,650 "take-home pay" dollars per year.
This allows us to afford about a $5,000 pretax 401(k) contribution, and this could accumulate to more than $25,000 in just four years if we hit the right funds earning an average of 12 percent.
Anything's possible. Save large! Get with the program. Who knows what you'll be doing 10 years from now, but having $100,000 in a retirement plan can widen your options, because it doesn't have to stay there.