What Recent Grads Need to Do With Their Cash

NEW YORK (MainStreet) — Graduates who receive monetary gifts to celebrate their achievements will be tempted to spend the cold, hard cash, but investing it or paying down debt yields greater returns in the long run.

A recent survey conducted by RetailMeNot, an Austin-based digital coupon company, showed that 50% of respondents believe that the best gift for graduates is money. Americans spend $4.7 billion on gifts for graduates with a little over half giving cash and a third offering gift cards, according to a recent National Retail Federation graduation spending survey.

Giving a reloadable prepaid card can help users track their spending and protects them against loss, theft or fraud, said Brett Adams, head of U.S. prepaid products at MasterCard in Purchase, N.Y. The added benefits are that the recipient can also choose to load other cash gifts or even direct deposit their new paycheck onto the card.

"Graduation for many is a rite of passage," he said. "The people surveyed spent an average of just over $50 per recipient, which won't have graduates living easy, but if leveraged properly can help build fiscal responsibility."

The best lesson that new graduates can learn is that it is never too early to start saving since the largest asset individuals have is time, said Charles Sizemore, a CFA based in Dallas and a portfolio manager on Covestor, the online investing marketplace.

"Even middling returns can compound into a small fortune if you start early enough, he said. "Don't blow that money you get for graduation."

Instead of spending $499 for a new iPad Air, a recent graduate could forgo the iPad and invest the funds.

Over a 30-year time horizon, that $499 would grow to $3,798 if it was invested at a 7% annualized return, Sizemore said. Even if the markets generate "ho-hum" returns over the next 30 years that are below their long-term averages at a 5% annualized return, that $499 would still more than quadruple to $2,156, he said.

Starting an emergency fund that will eventually yield $5,000 to $20,000 could be a good strategy for graduates to pay for a deposit on an apartment or a down payment on a car, said David Shucavage, president of Carolina Estate Planners in Wilmington, N.C. Instead of paying down credit card debt or student loans, he advises that graduates establish a rainy day fund first.

"Everyone should have an emergency fund or money that is easy to get to if they need it for a medical problem or losing a job," he said. "Grads usually don't have this starting out. They should bank it in a money market where it will be safe."

Graduates should allocate their gifts toward what is doing them the "most harm," such a high credit card debt, a lack of savings, car repairs or student loan debt, said Gail Cunningham, spokesperson for the National Foundation for Credit Counseling.

"All of these could be real problems that people have been putting band aids on due to a lack of funds to fully rectify the problem," she said. "The graduation money is a windfall that shouldn't be squandered. The graduate should put his or her smarts to work and develop a thoughtful approach to how to spend this one-time gift."

While it is tempting to splurge on trips and apartment d├ęcor, cash graduation gifts offer Millennials the opportunity to start investing, said Brennan Miller, a Chicago branch manager at Charles Schwab.

While many people wait for the "perfect time" to enter the market, even poorly timed investments trump not investing at all, he said.

"Instead of sticking your graduation money in a low-interest savings account, consider investing now to benefit from the market's potential growth," Miller said.

While retirement may seem far away, consider using your graduation money to open a Roth IRA account.

Roth IRAs are ideal for younger workers who are far from their peak earning years because of their tax advantage. Some Millennials are in the 25% tax rate currently. If you invested $1,000 each in a traditional IRA and a Roth IRA today and your tax rate moves up to 35% by the time you're ready to retire in 20 years, your original investment in a Roth IRA will earn $435 more than your traditional IRA (at a 6% rate of return), he said.

Saving your graduation money to pay your student loans is paramount since that six-month grace period will be over quickly. Missing a student loan payment is a black mark on your credit score. Another advantage to paying down your student loans is that you can deduct interest on them as long as the amount you may deduct is the lesser of $2,500 or the amount of interest you actually paid, Miller said.

Graduates who already have a cash reserve and a job should invest the money in income producing assets, said Andrew Carrillo, CEO of Barnett Capital Advisors, a registered investment advisor in Miami.

"This can be a conservative, diversified portfolio of global dividend stocks and bonds," he said. "This can act as an enhanced cash reserve that is still liquid if you need it while at the same time giving you additional income you can spend."

Index funds can also help a younger investor ensure that their portfolio is diversified, said Dan Greenshields, said President of Capital One ShareBuilder in Seattle.

"While it's tempting to think about the short-term gratification a new flat screen television or vacation would deliver, it's essential to eliminate debt as soon as possible and take advantage of the compound interest that investing can deliver," he said. "Getting accustomed to regularly saving is a critical first step and it will build over time!"

--Written by Ellen Chang for MainStreet

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