When you become a parent for the first time, the realization that another life depends on you financially can be overwhelming, especially if you haven’t thought much about your finances or investing goals before.
This may be the first time you’re developing a real investing plan, or maybe you already have a plan that you’re looking to overhaul in response to your life event. Your goals and investing strategy will probably need to change when you become a parent, but not necessarily in the ways you’re expecting.
Balancing Your Goals
Before you became a parent, you likely had a long-term investing goal of retirement. Perhaps there were short-term goals too, such as buying a house or another large purchase. Adding a child to the family introduces a new short-term goal: paying for his or her college education. In addition to your investing goals, you might have debt to pay down, an emergency fund to build up, and a budget that needs to find a balance among all of your new childcare costs.
Many new parents become overwhelmed by the cost of pregnancy, childbirth and raising a young child—between paying for day care and buying new clothes every few months, it can be hard to keep focused on investing for retirement. The best-case scenario is to continue making regular contributions to your retirement accounts even after the baby is born. While the diaper budget may be out of control now, you don’t want to sacrifice the power of compound interest by neglecting your retirement savings. If you have an employer-sponsored plan with a match, make sure you at least meet the minimum contribution to receive the match. Otherwise, you’re leaving money on the table.
It may not be possible to continue to invest as much while budgeting for the new expenses that come with child-rearing, so the important thing to keep in mind is balance. Try not to focus all of your money and attention on baby spending, and don’t ignore your long-term savings goals completely. Your first priority will have to be day-to-day spending and budgeting, followed by your retirement savings. When these two goals are being met, you can add your child’s college education as a third priority.
Saving for College
You may be tempted to put your child’s education fund first. There’s nothing wrong with putting your children first, but abandoning your investing goals in favor of a child’s education is actually not putting the child first—if you retire with nothing, your child will be left supporting aging parents, which can be much more difficult than funding a four-year degree. Students have access to scholarships, work-study programs and student loans when funding their college degree, but there’s no financial aid for retirement.
That said, investing in your child’s education early in his or her life is a good idea if you can afford it. Compound interest can be just as magical for your child’s college savings as for your retirement account. You can start saving for college even when your child is only an infant, either in traditional investment vehicles or in a 529 plan, which is a tax-deferred plan designed specifically for education costs. As long as the earnings are used for qualified education expenses, the account grows free of federal (and often state) taxes. Just like a 401(k) or IRA, 529 plans have annual contribution limits, but you can ask grandparents and other family members to contribute to the account as well, as an alternative for birthday gifts for your child. Another upside to 529 plans is that the funds can be used any time in the future, and the beneficiary can change. An alternative to the 529 plan is the Roth IRA, from which you can withdraw the principle at any time without facing penalties. You can also make tax-free withdrawals of the earnings from the account if they’re used for qualified educational expenses. If you haven’t set up a designated college savings account, or if you decide a 529 plan is not for you, a Roth can be a viable alternative to use instead.
Revisit Your Strategy
Your lifestyle will likely look dramatically different once you become a parent, and the same goes for your finances and investing strategy. The budget may be tighter, decreasing your weekly savings amount. You may want to take on less risk to account for your new financial responsibilities. Or maybe you’ll seek out higher risk investments to make up for your diminished contributions. As you work to balance your short- and long-term goals, your investing time horizons may change, too, prompting a reassessment of your asset allocation. You should be regularly rebalancing your portfolio anyway. If you aren’t, now is a good time to start. Now that your goals have changed, your strategy must as well.
The most important thing to remember is that you shouldn’t abandon your good financial habits just because you now have a child. Keep your long-term goals in mind as you readjust your finances and get acquainted with your growing family.