Here's an excerpt from the book The Net Worth Workout: A Powerful Program for a Lifetime of Financial Fitness (see my review for more details) courtesy of the publisher and author Susan Feitelberg:
In the previous section, we looked at your income in terms of its actual dollar amount. Now let's focus on your benefits -- the great untapped gold mine of American wage- earners.
Did you know the typical employer spends an additional 20 percent to 40 percent of an employee's compensation providing them benefits? If you're thinking you'd rather have that amount in cash, you're not alone, but your employer reaps huge tax deductions from funding your benefits.
Most of us face the uncertainty of not knowing how secure our jobs are. Today, it's not unusual for companies to even reduce your income or not give you the typical inflation raise of 3 percent to 5 percent, and that's not very comforting. Worse yet, though it's there for the taking, most employees allow very large percentages of their income to go to waste -- a significantly higher percentage than the 3-to-5 percent bite of inflation -- because they don't use most of their benefits.
At most companies, only 10 percent to 25 percent of employees take advantage of prepaid services like concierge or free legal services, etc. Can you guess why? Many human resources departments are thinly staffed and don't have enough personnel to educate their employees. It's as if you vacationed at a fitness camp where the kitchens were stocked with healthy food, but there was no budget left over to hire nutrition coaches.
Whether or not your employer promotes its "healthiest options," let's start with the must-haves today. The first three benefits I tell my clients to sign up for are the healthcare and child-care spending accounts, transportation spending, and company match. You might be tempted to dismiss these offerings, particularly the last two, because they're not cash. But think of it this way: These three expenses must be paid for one way or another. If you don't take advantage of the break you'll get through your employer, you'll have to surrender some of your hard-earned cash to pay these expenses out of pocket. If you think of your benefits this way, they start to seem like found money!
Let me give you an example. My client, Mark, was making a good income of $65,000 a year. But a young family and a long commute ate through his paycheck in no time. I tried to help him find ways to maximize his income so he would have more left over from each paycheck to invest.
When we looked at Mark's expenses, we learned that every year he and his wife paid at least $1,800 in health-care costs: the $500 deductible on their health insurance, prescriptions that weren't completely covered, contact lenses, and so forth. Then there was the cost of child care for their five-year-old daughter, which totaled more than $600 a month. The train pass to get Mark to work every day cost him $150/month. When we reviewed his benefits, I told him he was wasting thousands of dollars every year. Of course he wanted to know why!
I suggested that he exert a little energy and boost his metabolism by setting up a flexible spending account (FSA), which would allow him to put away money, pre-tax, to pay for healthcare expenses. In fact, Mark's employer would also allow him to use a child care and transportation spending account. These accounts saved him a substantial sum, because he could get all the healthcare, child care, and transportation services he needed cheaper.
Look at it this way: If you could buy an identical item, one costing $100 and another costing $65 -- and there wasn't any difference in quality -- wouldn't you rather pay $65? It was the exact same thing for Mark when he began using these three spending accounts. Mark's annual cost for these services totaled $6100. By paying for these services with pretax dollars, he significantly increased his savings. We saved him $2,135! We helped Mark reduce his taxable income, effectively paying less for the things he had been buying with after-tax dollars.
That's step one. Step two: Turn income into income!
That "found" $2,135 in income can be redirected toward a college fund for his daughter's education or a retirement plan for Mark and his wife. Let's say Mark takes this $2,135 and invests it into a Roth IRA. (A Roth IRA is a retirement savings vehicle. The contributions aren't tax deductible, but assuming all conditions are met, the money withdrawn is completely tax-free. Also, there is not a required minimum distribution after age 70-1/2.)
We'll assume that since Mark is thirty years old, he chooses a Roth IRA that invests in the S&P 500, where the average return has been 10 percent, and he continues to add another $2,135 to his account each year until he retires. When Mark reaches age sixty-seven, that Roth IRA will be worth $847,696. Tax-free!
That means Mark can generate a tax-free income of $33,907 per year for the rest of his life! (This figure assumes he pays out 4 percent and reinvests the rest to hedge against inflation.) This magic all happened by taking advantage of the spending accounts offered through his employer and a total investment of $78,995. That's the secret of income- generating income.
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